Europe’s Growth Problem in Italian The mandarins of Brussels pick the wrong fight with Rome.
https://www.wsj.com/articles/europes-growth-problem-in-italian-1540336936
There’s little new in the budget battle roiling Rome—but when did that ever stop the European Commission? The mandarins of Brussels on Tuesday issued an unprecedented demand that Italy rewrite its bad budget in line with Brussels’ bad fiscal principles. The tangle contributed to a selloff in global equities.
The Commission wants Rome to deliver a budget deficit equal to no more than 0.8% of GDP next year, a commitment made by the previous Italian government. In theory that discipline should matter to an Italian government whose debt is more than 130% of GDP. But elections have consequences, and one result of the winning coalition of the right-wing League and vaguely left-wing 5-Star Movement is a new budget with a deficit of 2.4% of GDP annually for the next few years.
Other European governments and their taxpayers—and investors—have cause to be wary about parts of the Italian plan. Tens of billions of euros in new spending are slated for welfare handouts and public works that Italy can’t deliver without waste and corruption. None of this will boost economic growth, potentially leaving other eurozone countries to bail out an insolvent Italian state down the road.
But other parts of the Italian budget deserve support—in particular the two-rate flat tax proposed by League leader Matteo Salvini, which is the best shot at supply-side tax reform Italy has had in recent memory. As a first step toward this reform, the 2019 draft budget cuts the rate on small firms to 15% from 24%, with the top rate on larger companies to fall to 20% in the future.
No one at the European Commission seems able to distinguish between tax cuts that increase incentives for growth and spending that doesn’t. Part of the Brussels demand has been that Italy raise the value-added tax rate to 25% in 2021 from 22% today. Europe’s budgeteers must have missed the economic research suggesting that balancing the books by raising taxes is self-defeating as slower growth weighs on revenue.
The two sides will now descend into political and bureaucratic wrangling. The main risks are that Brussels imposes a fine of 0.2% of GDP or that Rome is forced to abandon the pro-growth flat tax. In either case, Rome could say with reason that unelected European bureaucrats are thwarting the will of Italian voters. If Brussels really wants to win a budget fight, it should worry less about dubious fiscal targets and more about policies that help Italy grow.
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