Italy’s Weak Growth Is Becoming a Serious Problem

The simmering crisis in Italy is reflected most starkly in the country’s labor market, which is characterized by mass unemployment and poor job prospects for young people. There is a lack of flexibility for companies, work incentives are inadequate, and labor administration is inefficient. Labor productivity is low, which means labor costs are too high and uncompetitive. At the same time, Italy has the highest debt-to-GDP ratio (133 percent) of any EU member state after Greece. Unless radical reforms are implemented, it could become the next major crisis country and damage the single currency.

That is the conclusion reached by Klaus Schrader, economist and Europe expert at the Institute for the World Economy (IfW), and co-author Marta Ulivelli in their report Italy: A Crisis Country of Tomorrow? Insights from the Italian Labor Market. “Italy has fallen behind the rest of the EU in terms of competitiveness over the past 15 years. If it fails to implement structural change and successfully reform its labor market, we will see a worsening of the prospects for economic growth—and growth is absolutely essential when it comes to servicing the country’s enormous debt mountain,” said Schrader. “A tough austerity policy is unsustainable over the longer term and the flow of cheap money from the European Central Bank will eventually come to an end. Solid economic growth is therefore the only sustainable way in which Italy can reduce its huge debt. To do that, the country needs to resolve its self-made structural problems.”

Unfinished reform process

According to the report’s authors, the Monti-Fornero reform of 2012 and the Jobs Act introduced by Prime Minister Matteo Renzi in 2014 had the right intentions and delivered some minor improvements in the labor market. These reforms addressed crucial weaknesses by promoting labor mobility, increasing work incentives, and improving labor market integration for the unemployed, young people, and women. Nevertheless, the authors regard these reforms as incomplete—and insufficient to turn the labor market around.

The high rate of unemployment in the wake of the 2008 financial crisis has fallen only slightly in recent years and remains well above 10 percent. By contrast, the unemployment rate in the EU as a whole has declined considerably since 2013 and now stands at less than 8 percent. Many of the new jobs created in Italy are only part-time, while the number of working hours has not recovered from the sharp drop following the financial crisis and is still significantly below the level seen in 2000. “Also, most of the new jobs are lower-paid service positions—job quality in Italy has changed for the worse,” said Schrader.

Of particular concern is the high level of youth unemployment: peaking at 43 percent in 2014, it was still stuck at 38 percent in 2016. In other words, just over one in three young people available for work do not currently have a job. “The country is facing a ‘brain drain’—the loss of its intellectual potential through the emigration of the young and well-educated,” said Schrader.

Northern Italy no longer driving growth

While labor productivity in Italy has steadily weakened since 2000 compared with the EU average, labor costs remain above the EU average. The inevitable result is a loss of competitiveness. “There are structural problems here that cannot be resolved by simply lowering costs.”

There are still major discrepancies between the wealthy regions of Northern Italy and the poorer areas in the South. The unemployment rate in Southern Italy is around 20 percent, per capita income is only around two-thirds of the EU average, and real gross value added has been in decline for the past 15 years. Having said that, the economic weakness of the South is not the sole reason for Italy’s economic stagnation. “Southern Italy has failed throughout all these years to catch up economically with the North. However, the North has also performed poorly and failed to keep pace with the rest of the EU. It has thus been unable to act as a driver of growth for Italy as a whole,” commented Schrader.

“Italy needs effective reform of its labor market in order to regain its competitiveness and return to solid growth.” Italy is not yet another Greece, but without stronger growth it will have no sustainable means of servicing its enormous debt. The Italian government needs to implement a coherent package of reforms that will create the conditions for stronger growth and employment.”