Why is Italy doing so much worse these days?

by on October 25, 2011 at 7:39 am in Economics, Uncategorized | Permalink

Here is the graph from yesterday.  So why has Italy done so much worse?  During 1950-1990 or so it was a stellar growth performer, though some of this was catch-up growth from wartime destruction.  It does not satisfy me to cite Italy’s corrupt and dysfunctional political culture, since that has been the case for a long time, maybe forever.

A good introduction to the bright side of Italy’s economy is Michael Porter’s 1998 The Competitive Advantage of Nations; Porter portrays Italy as having some vital clusters of family-owned businesses, largely in the North.  Do you want your kitchen redone with some nice marble tile?  Italy can supply just the right stuff.  This neat graph shows just how much Italy has specialized in small business.

Perhaps therein lies the problem.  With the advent of modern communications and information technologies, arguably the return to “small family firms” has fallen.  The return to “largish projects consummated over large distances” has gone up.  For Europe, the big winners here are the Nordic countries, which have worked very effectively with information technology and which do not rely so much on family ties to get efficient, non-corrupt management.  The losers are Italy and Greece and Portugal too; read this superb paper on how Portugal is cursed by being stuck with all these small firms, inefficiently small for legal and regulatory reasons.  These countries seem to be locked out from some of the major sources of contemporary economic growth.

Here is a very important and insufficiently appreciated sentence from the Portugal paper: “…the largest part of the productivity gap between developed and developing countries can be attributed to the inefficient allocation of resources across firms in the latter countries.”  And alas Italy stands with one foot in the underdeveloped world; I am reminded of Yana’s excellent sentence, voiced upon visiting Sicily for the first time: “This reminds me of Mexico (pause) — except it’s not as nice!”  (Fear not people, she loved Sicily, as do I.)

And those are the countries with the biggest problems in the eurozone.  Ireland is closer to the Nordic model, as they do lots of software and hardware with MNCs, and you can see them recovering from this mess more quickly.  AD matters, but real shocks and competitiveness matter too.  Negative real shocks don’t have to involve “forgetting how make ice cubes.”  Ex ante, countries specialize in production methods and networks, and the subsequent evolution of technology does not always bear out their choices as wise.

Viewed in these terms, it is hard to see policy changes bringing a quick Italian recovery.  Italy remains good at what it long has been good at, and you can think of their superb restaurants as further and highly visible examples of small, family-run firms.  Sadly for them, those efficiencies are not worth quite as much these days.

Addendum: Here is one extensive look at Italy’s growth slowdown in the 1990s.

Steven Kopits October 25, 2011 at 7:57 am

Italy’s problem: weak governance. Is this news?

Solution: align incentives. Is this news?

The only problem with Italy is the unwillingness of OECD economists to prescribe what any management consultant would in about five minutes of analysis: pay for performance.

david October 25, 2011 at 8:02 am

Requires an agency of minimal corruption to measure performance metrics to begin with. Which Italian institution would you nominate for the task?

And you may be overestimating the influence of OECD economists relative to, say, Berlusconi’s media machine.

babar October 25, 2011 at 7:58 am

superb restaurants? what in the world are you talking about? have you been there and eaten in them?

dearieme October 25, 2011 at 9:09 am

Depends on your criteria. I’ve had better steak in Italy than anywhere in the Anglosphere.

Norman Pfyster October 25, 2011 at 9:17 am

Plus, they have the best italian food.

thehova83 October 25, 2011 at 12:24 pm

Italy has little variety. It’s an oddly conservative food scene.

But still great, IMHO. It’s impossible to get a bad meal. Very simple, good food.

Sbard October 25, 2011 at 12:46 pm

When I visited Rome a couple years ago, I found the food underwhelming. There’s certainly excellent food to be had, but unless you know a local it can be virtually impossible to distinguish the good restaurants from the tourist traps next door. We quickly learned to ignore the concierge at our hotel after they recommended a couple of truly awful places to us (most likely owned by a friend of the manager).

Jean October 25, 2011 at 2:26 pm

The food is Rome is known to be bad – the Italians themselves call Roman food ‘scraps’. The best food in Italy is found in Bologna.

charlie October 25, 2011 at 8:22 am

taxes, taxes, taxes. Or lack of them. The small family owned firms are Berlusconi’s biggest supporters — because it is much easier to hide money when you business than when you are a salaries employee.

Yes, Sicily is a real mess. Has been for ages.

Bill Harshaw October 25, 2011 at 8:34 am

Wait a minute: I thought the Republican orthodoxy was that small businesses were the source of job growth, so Italy and Portugal should be growing fast

Andrew' October 25, 2011 at 8:48 am

I certainly don’t doubt Republicans have it wrong. I also don’t doubt Democrats have it wronger. What we probably should focus on is allowing firms to move towards their optimum scale.

Norman Pfyster October 25, 2011 at 9:20 am

The other Republican orthodoxy is to support Big Business and corporations.

Andrew' October 25, 2011 at 9:28 am

So the story goes.

question the question October 25, 2011 at 9:52 am

So: talk a big game about empowering the little guy but always remember who butters your bread (or supplies it).

Floccina October 25, 2011 at 3:17 pm

What we probably should focus on is allowing firms to move towards their optimum scale.

I agree. I think that there is an optimal size for each type of business maybe even for each business.

John Schilling October 25, 2011 at 3:35 pm

Small businesses are the source of job growth to the extent that the small businesses themselves grow. If you encourage small-business creation but limit small-business growth, e.g. by tax or regulatory policy, you may indulge yourself with the fantasy that five million new mom-and-pop businesses will create fifty million new jobs, but that won’t actually happen.

What can happen is that one million new mom-and-pop businesses will create nine hundred thousand broken dreams, and ten of tomorrow’s Apples and Microsofts. If you help them, or at least let them. The ones that muddle through as successful small businesses, are personally enriching but mostly economically irrelevant.

lukas October 25, 2011 at 8:47 am

Switzerland, Austria and the most prosperous regions of Germany rely just as heavily, if not more, on small(-ish), family-owned businesses, many of them export-oriented manufacturing businesses.

EB Hansen October 25, 2011 at 9:17 am

Are Swiss, Austrian and Germany small/mids more capital intensive? Are they making high end, costly specialized equipment which has a small, but world wide customer base?

Maybe the export oriented is the main difference? Maybe the perfect size for a maker of high end technical equipment firm is fairly small, because the

In what sectors are Italy and Portugal’s small business? If they are concentrated in sectors which are not exposed to international trade (retail, services?), maybe they are not particularly productive.

londenio October 25, 2011 at 11:18 am

I agree. The median company size cannot explain Italy.

GOLDMAN SACHS October 25, 2011 at 2:40 pm

How much does wealth-hiding explain Italy?
I was shocked when I found out that you couldn’t hold a burglar liable for burglary if you left your windows un covered and thus tempted them with what was visible inside your house from the street.

The Anti-Gnostic October 25, 2011 at 8:55 am

“read this superb paper on how Portugal is cursed by being stuck with all these small firms, inefficiently small for legal and regulatory reasons.”

LOL. Yes, the problem is these firms are so darned small that they evade all the laws and regulations government would like to pile on them. How can multinationals swoop in and exercise regulatory capture with all these small firms around, clogging up the place? They probably employ neighbors and family members too. How is a parasitic government/banking elite supposed to do business with that?

doctorpat October 26, 2011 at 3:38 am

“inefficiently small for legal and regulatory reasons”
So change the laws and regulations. Problem solved.

Is the issue that the ever growing thicket of rules and laws bog down small business? So take a chainsaw to the thicket.

PK October 25, 2011 at 9:03 am

Small family businesses can nicely thrive by using internet. On the contrary, internet allows small firms to reach the whole world with modest marketing expenses.

The real reason is that Italy is (1) overtaxed, (2) overregulated, (3) suffering from crappy Chinese competition, (4) demographically unsound, (5) too expensive because of monetary expansion, especially since the introduction of euro. Hence The Great Stagnation.

I know Sicily. It used to be a rich country, but now it’s lost its competitiveness as loads of subsidies from Rome and the EU have driven expenses up, and the public sector has sucked up most of qualified workforce.

Otherwise, Sicily is very different from Mexico, as it has very low criminality in urban areas. (Meaning street safety – not speaking about mafia.)

Hoosier October 25, 2011 at 11:06 am

Except for places near the US border, you don’t have to worry about criminality in most large Mexican cities either.

PK October 25, 2011 at 1:35 pm

Mexico City is dangerous enough. Probably the worst place I’ve ever been. I felt safer in poor districts of Nairobi during the tribal clashes in late 2008.

Scott Sumner October 25, 2011 at 9:04 am

I wouldn’t dismiss the governance angle so quickly. In a study I did back in 2007 I found that countries with more civic-minded cultures (such as Denmark and New Zealand) tended to move away from statist economic policies much more quickly after 1980, as compared to cultures with less civic-minded cultures (such as Greece and Italy.) The correlation is quite strong.

If so, then your comment that Italy has always had governance problems may be beside the point, for the same reason that Krugman’s references to a Golden Age in American growth are beside the point. The fact is that almost all countries on Earth grew very fast during the post-WWII golden age. And almost everyone slowed after 1980 (China and India excepted.) Why did that happen? Presumably for reasons you outlined in The Great Stagnation. But it’s also true that growth slowed much more sharply (on average) in the countries that reformed less quickly. And those tended to be the less civic-mined cultures.

I’m not discounting your small firm argument, as that complements my governance argument. But I wouldn’t dismiss the governance angle so quickly. Inability to work together in governance for the common good, and inability to work together in large firms for the firm’s good, are just two sides of the same cultural trait.

tomcollins October 25, 2011 at 9:34 am

“It does not satisfy me to cite Italy’s corrupt and dysfunctional political culture, since that has been the case for a long time, maybe forever.” There was also political change in this time period. 1992 saw the” Mani pulite”(http://en.wikipedia.org/wiki/Mani_pulite), which saw the collapse of both the Christian Democrats and the Socialists. I remember tremendous hopes for a change in the political culture that didn’t bear fruit. But maybe the political instability had negative effects.

GermanGuy October 25, 2011 at 11:03 am

Governance is crucial. Italy performs extremely bad in most indices, especially for a developed country.

Corruption Perception Index: 67th
Ease of Doing Business Index: 80th
Start a Business Index: 75th

The high rate of youth unemployment underlines how rigid the Italian labor market is. Not to mention the number of governments Italy had since the end of WW2 (about 50 in little more than 60 years). Looks to me like Italy ate all the low hanging fruits in the post-WW2 era. ;-)

dearieme October 25, 2011 at 9:07 am

“With the advent of modern communications and information technologies, arguably the return to “small family firms” has fallen.” And arguably not. When I lived in NZ I talked to a colleague about some neat engineering fabrication that he needed done. “There are some good firms in Italy” I said. He took to the internet and eventually placed an order.

doctorpat October 26, 2011 at 3:49 am

I’ll go along with that. Improved communications can make small firms MORE competitive, just as easily as less competitive.

Charles Young October 25, 2011 at 9:29 am

It’s too glib to say that Italy’s politics have always been corrupt. The early 1990s saw a wave of popular revulsion against corruption, associated with the Mani Pulite trials and culminating in Craxi’s humiliation. In the late 1990s things improved, and governments between 1996 and 2001 cut back the share of GDP being used by the public sector by around five percentage points. But Berlusconi – Craxi’s protege – was able, partly thanks to his media power, to persuade the electorate that he was the antidote to the corrupt political class. He promised, but never delivered, a liberal economic revolution. From his election in 2001 onwards both corruption and the public sector share of GDP began to rise again. Craxi is the father, Berlusconi the son, and corruption the less-than-holy spirit of the current regime. Public revulsion against corruption is again building to boiling point.

tomcollins October 25, 2011 at 9:35 am

I type too slowly.

Michael G Heller October 25, 2011 at 10:06 am

Should not forget there were glamorous *models* driving Italian underdevelopment. The actual descent to stasis and inflexibility will be disappointing for post fordist proponents of flexible specialization, the new cluster model of industrial district organization based on craft principles of production with lighting reaction speeds in small or medium sized businesses, an academic idea that was predicted to transform the world and which drew inspiration from case studies of the business pattern in Italian idylls like Tuscany — and other nice conference locations — with borrowings from Japanese JIT.

key text – Piore and Sabel 1984.

Post fordism joined hands with ‘post-whatever’ literature on for example community trust, social capital, and the economic sociology of personal networking and informality, all of which suggested foundational principles of world beating social justice economics that happened to be efficient too. Cynically-speaking it was a utopia fabricated by post marxists. My generation were spoon-fed this very exciting nonsense at university. It was real fun. A sad legacy is much development aid has been sunk into post fordist social capital production models for poor countries. Since aid industry is not itself flexible, that damage will take ages to undo.

(note none of this gentle criticism applies to neo-Schumpeterianism, which remains convincing. It had a link with the post fordists but that was a fraternal rather than logical).

stalin October 25, 2011 at 10:09 am

Ireland is closer to the Nordic model, as they do lots of software and hardware with MNCs

Yes, Ireland won round 1 of the race to the bottom. And when the corporate tax rate is 0% everywhere…?

The Anti-Gnostic October 25, 2011 at 11:23 am

Low taxes are only a problem when people consume more in government services than they pay in taxes and government obligingly issues debt to buy votes. The crisis here is among government bureaucrats and people who foolishly loan money at negative interest to bankrupt governments.

Italians famously do not pay taxes. They seem content with their small businesses and local idiosyncracies. If the Italian people are content then I’m content. In fact, here in America I am content even if they are not content.

Ton October 25, 2011 at 12:27 pm

“corporate tax rate is 0% everywhere” Race to the bottom?

Corporate taxes are the least efficient taxes out there.

Millian October 25, 2011 at 4:45 pm

The corporate tax rate is not 0% in Ireland.

When you account for the dodges that other countries put in their laws, the effective corporate tax rate in Ireland is higher than that in (say) France.

techreseller October 25, 2011 at 10:40 am

To Andrew re the Republicans being wrong and the Democrats being more wrong. You are correct. It is a small subset of very successful small businesses (sometimes called gazelles) that drive the vast majority of job growth. When Google was founded in 1998 until about 2006 it was considered a small to medium business. It is those that rapidly grow to be a large business that account for the new jobs. Neither the Republicans nor the Democrats can admit this. It alienates their base by showing the facts.

Hugh October 25, 2011 at 11:57 am

This is the wrong way round.

Italy as a whole does not function. The small businesses DO function – although it is uphill work against the bureaucracy.

italy needs to work on the 75% that is NOT small business.

E. Barandiaran October 25, 2011 at 12:07 pm

Once we take into account the research on the shadow economy of Italy and other European countries, I’m not quite sure that Italy is doing worse these days (serious scholars can quickly access that research and there is no reason to ignore it as in the official EU report that Tyler refers in his addendum). Because of the large and variable size of the shadow economy in the past 60 years, Italy’s official NGDP is a poor measure of the growth of the country’s output, income and consumption.

In addition, there is the general issue of the economies of scale in compliance of regulations which David Henderson has written about. Tyler refers to a paper on Portuguese firms that focuses on labor regulations but the issue is relevant to all regulations everywhere.

BTW. Perhaps Italy is an extreme case, but it’s another reason not to use NGDP for any serious policy purpose. One that is different from Goodhart law (once a social or economic indicator or other surrogate measure is made a target for the purpose of conducting social or economic policy, then it will lose the information content that would qualify it to play that role).

Wonks Anonymous October 25, 2011 at 12:19 pm

I thought “real shocks” were supposed to be high-intensity low-frequency. Long term stagnation is another matter.

juan October 25, 2011 at 12:37 pm

Has the drop in fertility hit Italy harder than the Nordics because Italy relies more on family firms and familial relationships to conduct business?

I know many ethnic restaurants in America are limited in their growth potential by the # of cousins they can bring over. They just don’t trust people outside the family.

Does the Italian model require large extended families to be successful?

The more impersonal culture of the Nordics seems more compatible with small families.

Marian Kechlibar October 25, 2011 at 1:33 pm

Our software corporation (Czech one) had participated at a trade fair in Milano, 2006, as a part of the common Czech exhibition.

It was an IT exhibition, so you would expect the crowd to be at least able to speak English. No!

We took two interpreters to Italian with us, and that was a good decision, because the share of the managers and experts who were actually able to speak English was around 20%; and, you mostly found out that these were people with long-term employment experience in Germany or Britain. The locals were hopeless, which was a bit shocking in an industrial center like Milano.

People from the Czech embassy in Rome told us that this is commonplace, and that almost no one in Italy does business in languages other than Italian.

Isn’t this quite a significant export disadvantage when compared to Ireland or the Nordic countries, where even street-cleaners speak usable English?

Urso October 27, 2011 at 12:32 pm

I think it might be the other way around – the Italians are handicapped by the fact that no one else speaks Italian. Think of the other European G8′ers – English is spoken by everyone, everywhere. German is spoken widely in Germany, the ministates surrounding it, the East, and much of the Baltic. French in large portions of Africa, Quebec. Spanish throughout most of Central and South America.

But who (other than Italians) speaks Italian? Some Croats, maybe a few old Ethopians. That’s it. Time was, there was a large Italian diaspora in America, but they (we) are on the fourth generation now, and barely anyone actually speaks Italian anymore. The residents of the Italian peninsula would be a lot better off if we’d all just stuck with Latin.

Ted Craig October 25, 2011 at 2:47 pm

How does it look when you break it up into Pre-Risorgimento states? Is Piedmont really doing worse now than 20 years ago? That much worse? And have you considered the role of immigration?
Looking ahead, the PIGS (minus Ireland) have one thing going for them – the weather. There are worse fates than becoming retirement communities for all those Nordics.

TGGP October 26, 2011 at 11:52 pm

Razib of Gene Expression broke down the economic performance of Italy by internal region here. Northern Italy looks a lot like southern Italy, perhaps why there is a secessionist northern party. “Garibaldi didn’t unite Italy…”

canuckistan October 25, 2011 at 4:28 pm

Dismissing the corruption/dysfunctional polity angle because Italy “has always been corrupt” assumes that these distortions are somehow linear in growth. This is not true. These distortions have always been there, but they become more pronounced in downturns or productivity slowdowns. Put simply, when things are going great, the distortions from corruption are either ignored because people are doing well enough not to care or because the pace of growth overcomes them (or both). When growth slows down, people tend to start asking why and at the same time these distortions become more costly. I have a feeling this is what has been going on in China during the last decade.

Gianmarco October 26, 2011 at 3:17 am

Yana’s comment is really annoying. You are welcome to choose another holiday destination next time.

Merijn Knibbe October 26, 2011 at 8:04 am

While investigating ECB 2007 monetary analysis I stumbled upon an article showing differences in sub-sectoral TFP growth 1996-2004 for a whole bunch of European countries in the Monthly Bulletin of the ECB, including Italy (see the graphs p. 60 and onwards):

http://www.ecb.int/pub/pdf/mobu/mb200710en.pdf

Italy is, for instance compared with France, very low all across the board.

italian October 26, 2011 at 10:17 am

Someone who claims that Sicily is not nice must be blind. Or dumb.

Alex Malgaroli October 26, 2011 at 4:09 pm

Sadly the only two comment of people which names – like mine – qualify them as italian, really miss the point of this analysis. That could probably end any other arguments: we don’t know why we’re falling and we’re happy with that, focusing and criticizing the petty details and missing completely the crucial points.
Wether be it due to our low english skills (as someone pointed out) or the real lack of arguments, I can’t say.

Anyway, I think that the OP misses one crucial point: in 1992 there has been the last devaluation of the italian lira, the last one before the creation and the beginning of the euro course which forbids such operations. Italy had a periodic devaluation of its currency (every 3-5 years during the 80s); this helped its SMEs, especially those that lived on export, practically realigning the labour costs and making the products competitive on foreign markets.
Blocking that – perverse – mechanism and adding the arrival on the scene – due to the fall of the iron curtain in 1989/1991 – of new, thriving countries (basically all the east europe), pushed the Italian SMEs in a terrible mistake: try to match labour costs and produce mid-low quality products instead of focusing on high quality products (a market sector that Germany was guarding with military discipline). This exposed basically what is my country’s weak spot: a deep inability to focus on technology and innovation (there are exceptions, of course), due to many factors (legislation, government, culture, …). I could go on for hours writing about them (especially because I can’t write them quickly in english), but it would be too long.

John October 27, 2011 at 5:56 am

I would bet there are cultural issues in Italy, like the kids living with their moms through adulthood. In northern Europe, mobility is key with transplants from north, south, east and west. And although most Europeans have long vacations, Italian factories virtually shut down for the month of August. Meanwhile, German offices forbid their staff to eat lunch simultaneously in order to not miss any incoming phone calls or visitors. Northern Europeans are just more flexible.

Martin October 27, 2011 at 2:47 pm

First, adjust for exchange rates. Second, remember the acquis communautaire.

Giovanni Astinti November 4, 2011 at 11:36 pm

I don’t care what anyone says. Italy is awesome overall. Culture, history (to me), language (is awesome), and sights to see (also awesome) make it awesome. I don’t want to start anything, I’m just Italian American and I’m proud!

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