All the Tsar’s Men
Why Mobilization Can’t Save Putin’s War
Italy is in the throes of that most difficult of predicaments, a state of transition. Transition to a more open and egalitarian society; transition to new economic and financial arrangements; transition to a more efficient administrative machinery; transition to greater participation in decisions concerning the place of work; transition to a more important role for women; transition to an expanded influence for parties of the Left. The transition is made all the more difficult by the fact that the hectic, unbalanced economic growth of the sixties, which made tolerable the (lower) pace of social change, has given way to the twin evils of stagnation and inflation. Attention abroad has been largely focused on the drift toward impotence of the government, the crumbling of established authority, the current economic and financial crisis, the turbulent division of society and the growing ungovernability of the country, and above all on the advance of a party calling itself communist, apparently the only one capable of filling the void, since the balance between the parties of the Left in Italy is different from that in other Western European countries as a strong Socialist party does not exist. But the wheels of history are turning fast not only in the political sphere but also in the economic field, and transformations in the latter are both cause and effect of the socio-political changes of the past decade.
In the seventies the structural weaknesses of the economy have been accentuated and the risk of social and political regression has increased. Just as the democratic surge, the assertion of egalitarianism and the onslaught of demands on the government are not idiosyncrasies of Italy but are a familiar phenomenon throughout Western democracies, similarly the dysfunctions of its economy have many parallels in other industrialized nations. The postwar period has witnessed everywhere a major rise in governmental functions and an equally large decline in governmental authority and in governmental capacity to meet the public's rising expectations. If Italy's malaise is deeper than elsewhere, it is because of the vulnerability of its economic structure and the fragility of its democracy; and perhaps most of all, to a Latin lack of interest in minor or medium-sized reforms and routine maintenance of the bureaucratic machine. All or nothing is the cry of the reformists, and usually that means nothing. There is a helpless tolerance of certain abuses which is more Asian than European, alongside one of the most efficient and modern private sectors.
Contrary to standard Marxist analysis, the battle is no longer between workers and the owners of the means of production-for the simple reason that since the thirties the Italian state has controlled most large enterprises. Railroads, public utilities, steel-making, the national airline, banks, computers, machinery, shipbuilding, textiles and many other sectors are controlled by the state through the well-known IRI formula and its latter-day variants. In recent years, many obsolete industries have been taken over by the state, further extending its hold on the economy: over 50 percent of GNP is now accounted for by the state. Employees of these industries and many of those of the governmental bureaucracy enjoy much better incomes and job security than those of other sectors.
To attempt to dismantle the Italian welfare state means to incur the wrath of the millions of people who benefit directly or indirectly from the public largesse and who are quite unwilling to pay the cost of the social and economic changes required to bring Italy up to par with other Western European nations. In a neo-corporatist state, disparities in income and influence and the size of the unproductive, parasitic areas cannot be reduced to tolerable levels only by enlarging the government coalition, as proposed by the Italian communists with their "historic compromise" offer. No one possesses a magic wand which can solve Italy's manifold problems without going through a drawn-out, profound transformation of the economy, of the Levantine administrative machinery, and of the unions' behavior.
Over the last 10-15 years there has been a marked tendency in the industrialized economies for labor's share of national income to rise steeply, for the return on capital to fall, for the propensity to invest to diminish and for financial intermediation to increase as industries have been unable to raise the necessary risk capital. These trends have been especially noticeable in Italy since the "hot autumn" of 1969, when a massive redistribution of income began to take place. In the six years since, the share of GNP accruing to dependent labor has leaped from 57 to 73 percent. In 1973-75 the terms of trade worsened considerably because of the sharp rise in the price of the raw materials indispensable to a "transformation economy" such as Italy's, and labor productivity fell as a result of the economic recession. Yet wage rates in real terms grew by 15 percent. Redistributing income to the less well-off has had the consequence of increasing consumption and correspondingly reducing savings. Very few enterprises, especially in the unwieldy state sector, have avoided incurring heavy losses. The low profitability of the manufacturing sector has adversely affected the country's anemic stock market-which is currently stagnating on the levels of the fifties-and made it extremely difficult to raise risk capital. Enterprises have thus had to rely increasingly on the bond market and on their banks to finance investments and to cover their losses. In many ways this resembles the Japanese situation, with the important difference that the Italian commercial banking system is ill-suited by tradition and temperament to take an active part in the modernization of obsolete industrial sectors. This is nowhere more true than in its relations with state-owned enterprises, whose ultimate financial solvency is assured by the state itself. Running few risks on such loans, banks are obviously prone to favor them against loans to private companies, especially the smaller ones. And yet it is precisely the private sector which is the more dynamic and productive and which is well geared to supplying foreign markets with the goods demanded.
One important factor behind labor's capacity to augment real wages at a time of roaring inflation has been the increasing protection afforded by the "indexation" of wages to the cost of living. As much as 70 percent of the increases in the consumer price index are currently offset by the indexation clauses; on the basis of the agreement reached last year, the degree of protection against inflation is due to rise to some 85-90 percent by the end of 1977. Pensions too have been linked to the consumer price index and in several sectors also to the growth of real GNP. The widespread and growing indexation of an open economy such as Italy's may help stabilize aggregate demand from shocks of a monetary nature. But when the shocks are real-for example, a worsening of the terms of trade-then indexation is positively harmful in that it hampers the working of the adjustment process. Not only will adjustment be delayed but the fluctuations of aggregate demand will be greater the greater the degree of indexation.
There are three further drawbacks to Italy's indexation scheme. First, it tends to deprive the government of the use of indirect taxes as a tool for the management of demand, since such taxes ignite powerful inflationary pressures; this is especially worrisome in a country such as Italy which has traditionally relied mainly on indirect taxes to raise revenue. But the second drawback is much more important. In an economy which depends heavily on foreign trade, a fall in the external value of the national currency has immediate repercussions on prices and costs. Indexation of wages magnifies these effects and leads to a vicious circle typical of many Latin American countries, in which the fall in exchange rate leads quickly to large increases in prices and to another devaluation. This phenomenon has been particularly evident in the first part of 1976, when the lira's plunge almost immediately doubled the annual rate of inflation to over 20 percent. Finally, by preventing the needed adjustment of real incomes and the return to profitability of the manufacturing sector, indexation tends to exacerbate Italy's unemployment problem.
Currently Italy's active population is, at around 33 percent, some 5 to 10 percentage points below that of other industrialized countries. It seems unlikely that this relationship will change and that the high rate of inflation will be effectively brought down unless some sort of incomes policy is introduced. The British government has been quite successful in winning the labor unions to a more moderate wage policy which has sharply reduced inflationary pressures and paved the way to the restructuring of the British economy. Italy's social organization is also such as to make a permanent incomes policy indispensable not only to contain inflationary pressure but, more importantly, as a fundamental instrument of social and political management. In most Western societies direct taxation is the tool normally used to reduce income disparities, but Italy's collection machinery is rudimentary and corrupt. A Healey-like bargain between more moderate wage claims and lower direct taxes is ruled out by the relatively small weight such taxes have in total revenues and by the hugeness of the Treasury deficit. Add to this that in late 1975 the government suddenly cut direct taxes by nearly two billion dollars annually-to reduce the increase in the progressivity of the tax schedule caused by inflation during the preceding three or four years-without, incredibly enough, any political or economic quid pro quo.
The prospects for an incomes policy in Italy hinge on many factors, two of which stand out among the rest. In the first place there is the issue of income distribution. Incomes and job security differ widely between privately owned and state-owned companies. The bargaining power of the latter tends to be lower and wage increases correspondingly higher. The Workers' Statute of 1969 and several decisions rendered since by the courts make it increasingly difficult for companies to fire or lay off their work force. Add to this the fact that state-run companies are traditionally reluctant to shed surplus labor for obvious political reasons. This has encouraged labor unions to press for higher wages and better working conditions, undeterred by the fear of losing jobs since enterprises near bankruptcy are normally salvaged by one or the other state holding company.
Some unions have wielded strength more effectively than others and obtained privileged positions. For example, the labor force of the British-controlled Innocenti car manufacturer was contractually required to work less than five hours a day; that of the Italian banking system is the best paid in Europe, although Italy's per-capita GNP is one-half to two-thirds that of other industrialized countries. Many such disparities have been financed by raiding the Treasury.
In the last five years public expenditure has more than doubled with no noticeable improvement in the quantity or quality of services, more and more funds going to replenish the coffers of the countless public bodies that dot the Italian landscape. The enormous rise in expenditure during the seventies-to levels relative to GNP similar to those prevailing in other industrial nations-has not been met by an equal growth in revenues. The Treasury deficit has tended to grow without constraints as most political parties suffered from Keynesian delusions as to the cures needed for Italy's depressed economy. In 1975 the Treasury deficit was 12.5 percent of GNP and the expectations for 1976-77 are of a similar order of magnitude. The major unions and most political parties pay lip service to the need to cut the deficit. But since most public expenditure is for wages, pensions or transfers to public bodies, its reduction is an almost impossible task. The defense of such privileges is anyway growingly entrusted to small "autonomous" unions (from the three major ones) which have at heart only the interests of their narrow membership. It would take a major show of political power to break up these entrenched fiefs, and there has as yet been no evidence that any party is really willing to go beyond verbal expressions of dissatisfaction.
The battle over income distribution is thus waged largely between the labor force operating in a market economy and one largely protected from its effects and traditional "medicine" thanks to generous government handouts. Although these developments have been with us for some time, it is only recently that the Left has taken them into account in formulating its policies. There is a widespread feeling that the public sector should grow much more slowly than in the past so as to reduce the inroads on the productive private sector. Yet the calls for greater government intervention in the economy and larger social expenditures continue in a period of recession, as does the drift toward more takeovers by the state of bankrupt enterprises in order to "save jobs." To reverse these trends will require a major political effort, though it is important that some of the shibboleths of the past are finally coming under scrutiny. There is also a growing recognition of the need to moderate wage demands generally so as to restore companies' profitability. The many contracts negotiated in the first part of 1976 implicitly allow for some erosion of real wages over the period ahead in which inflation is expected to be especially strong.
The fear of "de-industrializing" the Italian economy has led to some welcome changes in attitude and behavior, but it is unlikely to lead to more important ones, since the parties of the Left and the unions want to participate in the formulation and implementation of the new policies required to redress the present imbalances. This is the second important factor on which Italy's economic and political prospects depend for the remainder of the seventies and beyond. The feeling that fairness does not seem to have determined the distribution of income and of power leads large sectors of Italian society to refuse a "social contract" which is not managed by their own representatives, a situation not dissimilar from that of the United Kingdom. The tendency of the coalitions that have governed Italy in the postwar period has been to resort to incrementalism rather than planning, satisfying demands in an incoherent, piecemeal fashion. The structural problems of the country-the underdevelopment of the Mezzogiorno, the low proportion of the active population, the maldistribution of income, the abysmal quality of public services-have thus been left largely untouched, worsening from year to year even in the midst of rising well-being for large sectors of the population. Workers at the bottom of the barrel and the large numbers of unemployed-which constitute a "lumpenproletariat" ever more estranged from society-thus believe, not unjustly, that there has to be a change in the political direction of the country for their plight to be redressed, and they are unwilling to entrust the necessary restructuring of the economy to those who have directed it for a generation and who have been found wanting.
The struggle over the distribution of income has produced in Italy, as in many other countries, a sharp upward shift of the Phillips Curve, i.e., a much higher rate of unemployment is now needed to obtain an acceptable rate of inflation. Indeed, the major recession of 1975 still left Italy with an inflation rate higher than it had experienced for most of the postwar period. Yet more than ever a high rate of unemployment is now political dynamite especially in societies racked by internal dissension. Two-digit inflation exerts a powerful influence on the distribution of income, favoring those groups which have greater market and political strength, further exacerbating social problems. And it also alienates from the government large sectors of the middle class, its political mainstay, who see their savings, a large part of which are invested in bonds and other fixed-value assets, evaporate.
Beginning in 1972, pressure on resources spilled over in the external accounts, generating a massive deficit. Having comfortable reserves and being virtually debt free, the government opted to finance the payments gap through huge borrowing abroad rather than to cut back domestic demand. Shortly afterwards an already difficult situation was made virtually unmanageable by the abrupt quintupling of oil prices. Except for Japan, Italy is the only industrialized nation which depends on oil for some three-fourths of its energy, and the higher oil prices entailed additional import costs of nearly $6 billion, some four percent of GNP.
The balance-of-payments constraint, coupled with strong inflationary pressures, has forced the authorities to pursue a deflationary policy for the past two years, with the result that industrial production in the spring of 1976 is at the level of that of 1972. Initially there was a turnaround in the external accounts and a major slowdown in the rate of inflation. But the high import propensity of the Italian economy made for a delicate situation in which attempts to reflate aggregate demand would quickly suck in imports and cause new deficits. This is precisely what happened in the autumn of 1975. The expansionary stance of monetary policy had to be quickly reversed as the balance of payments worsened and a speculative run on the lira developed. With few foreign exchange reserves available (ample gold holdings being virtually unusable) and little international credit forthcoming after having borrowed some $13 billion in 1972-75, the lira plummeted, forcing the authorities first to introduce draconian punishments for the illegal export of capital, and then a 50 percent, three-month, non-interest-bearing deposit on virtually all purchases of foreign exchange. While previously all shades of the political spectrum were united in support of a policy of borrowing abroad to finance a higher standard of living than would otherwise have been possible, in 1976 there has been a growing awareness that such a policy is no longer viable. Not only were Italy's partners increasingly reluctant-especially with elections in the offing in the United States and Germany-to provide more funds, but it was recognized that internal adjustment could no longer be postponed.
Italy's balance-of-payments predicament is partly of its own making and partly the result of the attitudes which have prevailed over the past three years as to the mode of financing oil deficits. Since for oil-importing countries as a group the oil deficit on current account was matched by a corresponding surplus on capital account, the United States pressed for market financing of oil imports rather than through multilateral mechanisms such as the oil facility of the International Monetary Fund. But financial laissez-faire has not worked out as well as its proponents hoped. Although world financial markets did function initially along the line of a Keynes-like clearing union between surplus and deficit countries, this role proved to be unsustainable. There are technical limits to the volume of international financial intermediation which banks can safely manage. When the foreign assets and liabilities of large U.S. banks are some 50 percent of their total assets and liabilities, it would seem sound banking to become increasingly prudent in extending loans abroad.
Although Italy's 1975 current account deficit was, at around half a billion dollars but a fraction of its 1974 deficit, and its foreign debt/ export ratio was well below that of many other countries, Italy was unable to tap capital markets and it has had to rely on the dwindling resources available to it from the IMF and the European Economic Community. Especially worrisome has been the plight of less-developed nations caught between the rise in oil prices and the fall in their exports because of the world recession. Not surprisingly, in late 1974 the United States proposed the creation of a $25-billion OECD safety net, yet to be ratified by prospective members. It has also suggested a host of initiatives to help the poorer members of the international community, many of which are still on the drawing table. The ideas which have come into being-a liberalization of the rules governing loans by the IMF's compensatory financing facility, sales of IMF gold and greater access to the Fund's ordinary resources-amount in practice to less than $3 billion of aid to LDCs in 1976, or about a tenth of their prospective overall current account deficit.
World financial markets, and especially U.S.-based banks and their offshoots abroad, will thus continue to play a major role in financing payments imbalances at a time when there are growing doubts as to their capacity to do so. The enormous weight thrust on the U.S. banking system is also beginning to be questioned by the country's political leaders, rightly worried about the reactions abroad to the growing clout of American big banks, whose lending decisions no longer simply affect the success of projects but, increasingly, the financial viability of whole nations. A fundamental rethinking of how to deal with the great disequilibria of the international monetary system remains a top priority, the Jamaica Accord having barely scratched the surface of the problem.
If the extent of cooperation among the industrialized nations during the past two or three years has been inadequate, that within the EEC has been especially disappointing. The economies of the Nine have drawn further away from each other when greater harmonization of policies would have been required. Inflation rates between the stronger and the weaker partners have been as much as 20 percentage points apart. While some of the Nine have continued to enjoy huge current account surpluses, others have had deficits they were hard put to finance. In such circumstances, no one still seriously thinks an Economic and Monetary Union is anywhere near the horizon, the main goal now being to hold the ramshackle structure together somehow. The Community has shown itself unable to deal with the world's economic crisis and with that of the member most seriously affected-Italy. The Community budget-three-fourths of which goes for the Nine's only joint policy, the Common Agricultural Policy-is, and will remain for the foreseeable future, well below one percent of the total GNP of the EEC countries. The medium-term financing facilities of the Nine, never large to start with, have been virtually exhausted by loans to Italy and to Ireland, and it is most unlikely that they will soon be enlarged to any considerable degree. Germany's $2 billion gold-guaranteed loan is also not easily repeatable in today's circumstances.
The apparent conclusion is that Italy will have to fend largely for itself in the period ahead. To be sure, some further balance-of-payments assistance may yet be forthcoming from the Community, and the Financial Support Fund of the OECD may finally become operational and capable of making large loans. Of greater importance is that the economies of Italy's main trading partners are once again developing rapidly and this will allow Italy's exports to grow apace. With foreign debts now close to $15 billion, it is clear that Italy must not increase further its crushing debt-service load.
Whatever the composition of the governing coalition, Italy's administrative, industrial, balance-of-payments and social problems must be faced squarely with a sense of purpose and direction all too often lacking in the past. The size of the public area must be contained and made cost effective. The major state-owned holdings need to operate within the confines of an economic and financial framework determined by the government. Recognizing that the center of power has gradually shifted from the State to the public enterprises, the communists rightly want to reverse the trend. But such is the concentration of interests and influence which state-owned enterprises have managed to capture over the years that restoring the original balance between such firms and the State will be no easy task. Even more difficult will be the job of making such holdings the driving industrial force they were only ten years ago-instead of today's patronage-ridden salvage agencies for bankrupt firms.
This problem is closely linked with the need to make the State's ineffectual bureaucratic machinery function properly. At present all of Parkinson's laws are thoroughly observed by an inflated and mismanaged bureaucracy, a remnant of Italy's preindustrial past. Contrary to a widespread opinion, it is not so much a question of spending more money-since the level of public expenditure is already quite high-but of reducing the plethoric administration to appropriate levels, of introducing modern management techniques and of obliging civil servants to put in an eight-hour day (today it is often half that, a legacy of wartime work schedules). All parties agree that the administrative crisis has to be solved if other bottlenecks are to be alleviated. But there is little doubt that the reform of bureaucracy, entrusted to a minister without portfolio for 30 do-nothing years, will require enormous political will and imagination to change the strong corporative attitudes of the civil servants involved.
The third major problem, that of modernizing Italy's obsolescent industrial base, is also a long-term endeavor. Research has been neglected for years, investment has been inadequate and poor labor relations have caused plants to be used well below capacity. More generally, Italy's industrial structure will be under increasing pressure in the years ahead from the less-developed world, which is moving into the labor-intensive sectors such as shoes, textiles and simple engineering that have long been the backbone of the Italian economy. Improved labor relations are of course indispensable but so is greater investment-yet no one knows where the required funds are to come from. As Henry Wallich has recently put it:
It is useless to argue that if internal cash flow is inadequate, and if the stock market is not receptive to equity issues, business should just continue to borrow. This advice is like Queen Marie Antoinette's "Let them eat cake." Where there is not enough profit, there will be no equity financing, and where there is not enough equity, there will not be much debt money available. An adequate flow of profits is the basis for debt financing, equity financing, and, of course, internal financing.
The Italian Communist Party seems to have understood this point and has recently come out in favor of revitalizing the stock market, of striking a proper balance between equity and debt capital, and of direct borrowing on the markets so as to reduce today's enormous financial intermediation. It remains to be seen whether the labor unions will in practice be willing to countenance an increase in profits' share of income. But without a more favorable treatment of investment and investors it is unlikely that Italy's outmoded industrial structure will receive the necessary injection of new capital and entrepreneurs. Such policies will also help to make the Italian economy less import-sensitive and to relax the balance-of-payments constraint.
To conclude, Italy's political, social, administrative and economic crises are interwined in a veritable Gordian knot whose unraveling will require much dedication and much time and a broader political consensus. To believe otherwise is to engage in fantasy politics.