Facing up to Italy's crisis

Andrew Gumbel looks at the fragile state of the economy

Italy has already seen one supposed knight in shining armour, Silvio Berlusconi, come and go without addressing the profound ills at the heart of the economy. It is going to take a lot of faith to believe that prospective shining knight number two , the newly designated prime minister Lamberto Dini, can do any better.

Business leaders have been crying out for political stability over the past few weeks, watching in dismay as the government crisis prompted by the collapse of Mr Berlusconi's coalition caused the lira to tumble against the German mark and spurred investors to bale out of the Milan bourse.

But they are far from sure that Mr Dini, whatever his personal qualities and experience as a career banker, can deliver in the present fractious climate. The more pessimistic economists see only a grim future of high interest rates, high taxes, little encouragement to the small investor and a general lack of confidence.

"There are Italians buying houses in Monte Carlo, in New York, in London. Some of the most dynamic smaller companies are not bothering to register in Italy at all, but are floating their shares in the United States. Everyone's had enough. At this rate, investors will do better with the Turkish lira than with the Italian one," said one expert with a big investment bank in Rome.

As Mr Dini assembles his team of technocrats to address the immediate issues - correcting the 1995 budget and bringing the country's bloated pension scheme to order - he has some depressing facts to face.

Italy's national debt remains at more than 120 per cent of gross domestic product, roughly where it was a year ago when Mr Berlusconi promised his economic miracle, and twice the size it needs to be to conform to the norms stipulated by the Maastricht treaty for European economic and monetary union.

Inflation, which had seemed under control if a little high by European standards, has shown worrying signs of moving up again in the last month. Prices rose 4.1 per cent in the year to December, well above Mr Berlusconi's 2.5 per cent forecast.

The figure for January risks being even higher, because the fall in value of the lira has pushed up the price of imported goods. Only the relative weakness of the dollar, the currency in which Italy buys nearly all its energy, has prevented even greater damage.

Interest rates are also on the rise. Banks put up the charges made on loans to customers by between 0.5 and 1 percentage points at the beginning of the year. The yield on treasury bonds has jumped from the 8 per cent anticipated by the government to morethan 10 per cent. And while the discount rate remains at 7.5 per cent, Bank of Italy governor Antonio Fazio has not ruled out an increase to counter the rise in inflation.

Some of the bad news was exacerbated by the political void, and the situation is now likely to calm down - assuming Mr Dini can form a viable government. The lira rebounded after his appointment, trading at around 1050 to the German mark on Friday night compared with 1066 in New York 24 hours earlier. The Milan bourse's Mibtel index, meanwhile, recovered 2.55 per cent of its value in one day.

But the recovery could be temporary. The international rating agency Standard & Poor's was so worried last week that it put Italy under observation for two months, warning that it might consider reducing Italy's AA rating if the situation worsened.

All of this comes as very bad news for Confindustria, the Italian version of the CBI, which had prided itself on achieving steady increase in output and was hoping for growth of around 3 per cent in 1995. "Either we get some political normality and a balanced budget, or else the instability in the nation's finances risks upsetting the manufacturing economy," it said in a statement.

Mr Dini can expect some tough opposition in parliament when he tries to plug a budget hole estimated at L20 trillion (£8bn). The public spending cuts and increases in VAT on fuel and consumer goods that he is likely to advocate may not be medicine that the left-wing parties are prepared to take.

He has also vowed to revise and radically cut outlays on state pensions - an issue which sparked a popular revolt and a government climb-down when it was first mooted last November.

Even if Mr Dini succeeds in his immediate aims, he will not easily be able to dispel the deep economic gloom among ordinary Italians. Nearly half a million jobs have been lost in the past year, overwhelmingly in the service sector, and small businesses lumbered with ever higher government-imposed overheads - particularly taxes on property - are gasping for breath.

The threat to small neighbourhood shops and family businesses poses a further headache for a government trying to raise revenue. When small entrepreneurs find themselves faced with higher tax bills that they cannot pay, they will almost certainly resort to a time-honoured Italian tradition: not paying them at all.