Why an Italian meltdown threatens the world economy

The Eurozone is passing through the most serious crisis in its entire history. After Greece comes the Italian crisis. This places a big question mark over the future of the euro. We predicted long ago that in a serious crisis all the national contradictions come to the fore, as we now see with the fractious relations between Greece, France, Germany and Italy. The European Union is facing the day of reckoning.

Since the collapse of 2008 the authorities have committed trillions of dollars to rescue the financial system, but to no avail. The bourgeoisie avoided the collapse of the banks, but only at the cost of provoking the bankruptcy and collapse of whole states. What happened in Iceland is a warning of what awaits one country after another.

By such desperate means they succeeded in avoiding a slump on the lines of 1929, but these panic measures did not resolve anything. On the contrary, they have produced new and insoluble contradictions. They have turned the black hole of the private financial system into a black hole of public finance.

After the collapse of 2008, the bourgeois tried to console themselves with talk of a recovery. But this is the weakest recovery in history. There are no “green shoots”. The world economy has not recovered from the slump, despite the vast sums of public money pumped into the economy by governments. The European Commission has continually downgraded its outlook for economic growth in the Eurozone, which has now come to a virtual standstill. Stagnation, however, is only the most optimistic variant. Everything now points to a new and even steeper fall than in 2007-8.

The panic, which is reflected in the wild gyrations of the stock exchanges, has spread rapidly from Europe to America. It is a kind of deadly contagion that has infected all the Eurozone’s big countries. The constant turmoil on world markets show the nervousness of the bourgeoisie, which at times borders on panic. They are like a thermometer that measured the intensity of a fever. The bourgeois economists stand around the bed of the patient and shake their heads, but have no effective medicine to prescribe.

Over the past couple of years the markets have begun to distinguish between the stronger euro zone economies – Germany and its satellites – and the weaker economies like Greece, Ireland, Spain and Italy. Increasingly, the latter are being charged punitive rates for money borrowed from the money markets. The increased charges make the burden of debt heavier and even harder to repay. So when a credit agency like Moody’s lowers the credit status of a country, this action becomes a self-fulfilling prophesy.

This poses a threat to the very existence of the euro zone. The European Central Bank might be able to keep Greece afloat (although this is extremely doubtful). It managed to stage a bailout for Ireland and Portugal, which has solved nothing. But there is simply not enough money in the ECB to bail out countries the size of Spain or Italy. Any attempt to do so would soon exhaust the bank’s funds.

If you accept the market economy, you must accept the laws of the market, which are very similar to the laws of the jungle. To accept capitalism and then complain about its consequences is a futile exercise. A vast amount of money is constantly moving around the world, like a pack of hungry wolves following a pack of reindeer, seeking out the weakest and sickest animals. And now there are plenty of sick animals to choose from.

After dragging down Greece, Ireland, Portugal and Spain, the wolves turned their attention to Italy, which has an enormous mountain of debt, amounting to around 120 percent of the country's gross domestic product. This is the second highest level in the EU after Greece. Moreover, Italy has €335bn of loans maturing over the next year, much more than Greece, Ireland and Portugal put together. It will need to borrow hundreds of billions and each time it asks for a loan, investors around the world are likely to worry whether it will be repaid, given its huge public debt.


The editorial of today’s Economist expresses the growing alarm of the bourgeoisie:

 “When the world’s third-largest bond market begins to buckle, catastrophe looms. At stake is not just the Italian economy but Spain, Portugal, Ireland, the euro, the European Union’s single market, the global banking system, the world economy, and pretty much anything else you can think of. Greece is important because it sets precedents for the euro—over such things as debt write-downs and rescues. Italy matters much more because it is so vast.”

The article continues:

“It is clear now that Italy will be the crucible which tests the euro to destruction—or survival. Only a few weeks ago, that test still seemed avoidable. Now it is at hand. If the euro zone wants its currency to survive, it must stem the panic and make Italy’s vaudeville politics credible. Both acts are still within Europe’s compass. But with each lurch of the euro zone towards contagion, with each bungled change of government, and with each reluctant intervention in the financial markets, the task becomes harder and more costly. As the grim scene unfolds, you can almost feel the euro’s chances draining away.”

26 October, Berlusconi speaking with Zapatero. Photo: European Council26 October, Berlusconi speaking with Zapatero. Photo: European CouncilEconomists have repeatedly stressed that "Italy isn't Greece or Portugal," and "Italy's economic fundamentals aren't that bad." That may be true, but it will not convince the markets in their present state of nervousness. The trigger for the market uncertainty was the instability of the government in Rome. Doubts about the stability of the Rome government and a deep scepticism about the country's finances led to the fall of Berlusconi. But a mere change of Prime Minister will do nothing to stop the precipitous fall of Italy. The markets will demand deep cuts to “prove that Italy is trustworthy.”

The Corriere della Sera appeals for calm: "It doesn't help to get excited about international speculators. If we conduct ourselves seriously then we have nothing to fear. Unfortunately we have not been serious up until now. For that, the markets are paying." The question is: exactly how are Italians supposed to demonstrate their “seriousness” to the markets? The answer is provided by Greece: only through massive cuts in living standards. A vicious programme of cuts was passed today by the Italian Senate, but this only succeeded in bringing down yields slightly, to 6.88% - still an unsustainable level. The Italian government remains in crisis, without a stable government and talks are to recommence Saturday morning.

The markets are watching like hawks, expecting further deep and painful cuts in public spending. The present mood of sullen acquiescence will turn into fury. The scenes we have witnessed in Greece will be replicated in Italy. Despite all the efforts of the leaders to avoid it, an intensification of the class struggle in Italy is inevitable.

A new eurozone?

Every country in Europe will be drawn into the crisis. But they will not all enter this process at same time. >Until recently, the German capitalists were doing rather well, and this good fortune was shared with its satellites: Austria, the Netherlands and Finland. But Germany’s strength was based on its industrial muscle, which depends crucially on exports to Europe, the growth of which is not under Germany’s control. The strength of Germany is more apparent than real. The destiny of German economy depends on what happens in the rest of Europe. If the euro collapses, it would have a devastating effect on Germany.

Germany is expected to carry the whole of Europe on its back, but its shoulders are too narrow to bear such a weight. Why did German capitalists decide to pay debts of Greeks and Irish? Germany had lent the money to Greece in boom. The Germans are attempting to prevent a Greek default, not out of altruism, but in order to save the German banks, and, they hope, stop the rot from spreading to other countries. German banks hold €17 billion in Greek debt, but have €116 billion in exposure to Italian debt.

Germany had to prop Greece up. They really had no choice because an economic collapse in Greece would immediately signify a crisis of the German and French banking system. Similarly, Germany cannot afford a Spanish or Italian default. But neither can they afford to bail these countries out. They have already failed to solve the Greek crisis by a huge injection of cash. And there is simply not enough money in the Bundesbank to underwrite the debts of Spain and Italy.

That is why the idea of “Eurobonds” is opposed by Germany, who would have to foot the bill. It would require a new round of EU treaty negotiations. This would be a most painful experience, which, far from leading to a united Europe, would expose all the underlying contradictions and frictions between the different nation states. Instead of creating a united Europe, it could actually hasten the breakup of the EU.

The realization is gradually dawning in Berlin that the rapid spread of the economic crisis threatens to drag Germany down. There is speculation about a restructuring of the Eurozone, with a smaller group based on Germany. Merkel and Sarkozy deny this suggestion indignantly – which means that it is probably true. The Economist comments:

“The truth is that the risks of the euro splintering really have mounted. Angela Merkel, the German chancellor, and Nicolas Sarkozy, the French president, acknowledged at the recent G20 summit for the first time that they might abandon Greece to its fate—a devastating shift from leaders who had always insisted that the euro would survive intact at any price. There is chatter that they are contemplating a new club of core euro countries that can live within the rules, and jettisoning the rest. [...] Such talk will make it harder for the ECB to convince markets that the euro is here to stay”.

However, any attempt to set up a “German bloc” would have dramatic consequences for the EU itself. Presumably, the intention is to drive the weaker economies out of the Eurozone. But which countries are they? The ejection of Greece has already been mentioned. This would be followed – by whom? Ireland? Portugal? Spain? Italy? What about Belgium and France? Belgium’s finances are not much healthier than Italy’s, and the markets are already beginning to place a big question mark over the French banks because of their high exposure to Greece. French 10 year bond yields have risen to 3.46%, although partly as a result of S&Ps “mistaken” downgrading of French bonds.

If all these countries are forced out, not much would be left of the Eurozone. And it is doubtful if the EU itself could be maintained under such circumstances. The resulting slump would affect the whole of Europe, not excluding Germany and its satellites, whose exports are mainly destined for the European market.

Paradoxically, the formation of a German-dominated “inner circle” would not save German capitalism but rather would undermine it fatally. Backed by the Bundesbank, and bolstered by tight fiscal discipline, the “new euro” (the old Deutschmark under another name) would soar even as other currencies collapsed. This would completely undermine Germany’s exports – the key to her past economic success. This is what has happened to the Swiss franc recently.

The deepening of the crisis will inevitably lead to the re-emergence of protectionist tendencies, which will tend to undermine the tendency towards freer trade that has been the main locomotive of the world economy for decades. The breakdown of the euro would be a powerful impetus towards protectionism. This is what is causing alarm in bourgeois circles. The economists know that it was protectionism and competitive devaluations that turned the 1929 Crash into the Great Depression of the 1930s. And history has a very bad habit of repeating itself.

Tobogganing towards disaster

Illustration: LatuffTrotsky wrote in 1938: “The capitalists are tobogganing towards disaster with their eyes closed.” We need one change to that statement: The capitalists are tobogganing towards disaster with their eyes wide open.” They can see what’s happening. They can see what’s coming with the Euro. In America they can see what’s coming with the deficit. But they have no idea what to do about it.

We pointed out even before the euro was launched that it is impossible to unify economies that are pulling in different directions. Now some bourgeois economists are warning that the pressures and tensions building up can lead to the collapse of the single currency. For the first time, the question is openly being aired of the possibility of the breakup, not just of the euro, but of the EU itself. The crisis of the euro is an expression of the insoluble contradictions of the European Unity.

The immediate catalyst of the crisis of the euro was the Greek crisis.  At the onset of the Greek crisis, the bourgeois consoled themselves with the idea that only the states on the edges of Europe were in trouble. But the idea of what the markets regard as the risky periphery got bigger and keeps expanding from one day to the next. European stock markets experienced new and ever steeper falls. But all the talk about erecting a “firewall” around Greece has been exposed as hollow.

The idea that you can isolate Greece—or any other country in the Eurozone—is a foolish illusion. They are all tied together like men on a mountain-climbing expedition tied together by a rope. When one man falls, he will drag all the rest with him. The repercussions of the Greek crisis go far further than Greece itself. It has led directly to the crisis in Italy, which threatens the Euro and the European Union itself.

The implications of a deep crisis in Italy will be felt worldwide. The seriousness of the situation is difficult to overstate. Italy is not Greece. It is one of the seven leading industrial nations (G-7) and the euro zone's third-largest economy. A crisis in Italy would have devastating effects on the whole of Europe. Italy is said to be too big to fail. But it is equally too big to save.

The Americans are increasingly worried about the crisis in Europe, which they believe (correctly), can drag down the entire world economy. The breakup of the Eurozone would set off an economic tsunami that would send waves hurtling across the Atlantic, where they would rock a financial setup that is anything but stable.

The US government currently runs a $1.5trillion budget deficit, requiring it to issue debt in the form of treasury bills, bonds and other securities. The public debt was $14.3tn on 31 May, up from $10.6tn when Mr Obama took office in January 2009. Most is held by the public, with the rest held in US government accounts.

Let us remember that the U.S. itself came close to defaulting on its $13.4 trillion public debt in June of this year. The crisis caused an open split between the Republicans and Democrats. Until recently nobody mentioned the huge debts of the USA. But now that has changed, since the rating agency Moody's said it was considering cutting the US AAA debt rating, citing the rising possibility that the US could default on its debt obligations.

Hardly a day passes when Obama does not put pressure on the Europeans to “do something” to solve the crisis. He accuses the Eurozone of dragging the rest of the world into crisis again, conveniently overlooking the small matter of the huge US fiscal crisis and the inability of the Republicans and Democrats to agree on a serious plan for reducing the huge budget deficit.

The Americans are desperately calling on Germany to “do more” to pull Europe out of crisis. The Germans must cut taxes; they must boost the economy; they must send more money to Greece; they must lead a coordinated fiscal stimulus across northern Europe. Germany must do this and Germany must do that. But who are the Americans to tell the Germans what to do?

Yes, say the Europeans, but who pays for all this? To this question there can only be one answer: France and Germany, or more correctly, Germany, which is Europe’s banker of last resort. Those who have talked big about a Marshall Plan for Greece are now politely requested to put their money where their mouths are. But nobody is prepared to put their hands in their pockets. For Merkel to agree to underwrite the debts of the Italians and Spanish would be political suicide. And she is just as reluctant to do this as are the Democratic and Republican politicians on the other side of the Atlantic.

Even in Germany there is not enough money to bail out all these countries. Britain and France has been putting pressure on the Germans to remove all restrictions on the European Central Bank, effectively asking them to do their own “quantitative easing”. As Richard McGuire, strategist at the Dutch Rabobank (supposedly one of the safest banks in the world), put it: “The ECB has to choose whether to crank up the printing presses or risk a much messier outcome, raising the prospect of default amongst the key players.”

To resort to “quantitative easing” (that is, to print money) would be a desperate measure. It would ultimately end in an explosion of inflation, leading to an even deeper slump in the future. In short, none of the measures of the bourgeoisie can avert disaster. Even the EFSF deal which was to save Greece (never mind Italy) has not yet been completed. The EFSF has been forced to cancel its bond auctions. The Economist draws the most pessimistic conclusions:

“Nothing can now prevent a debt crisis in Italy. Borrowing costs are set to remain well above their levels before the crisis. The finance industry will not soon reverse its extra margin call and even if it did, investors are not about to treat Italian debt as “risk free”. Ratings agencies will surely downgrade the country. If its debt is left to spiral down, Italy will be shut out of the bond markets. Its banks will become vulnerable, as their depositors and lenders conclude that they and the Italian state are likely to become insolvent. Contagion will spread across the euro zone. The end will come soon enough.”

London, 11/11/2011

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