The Covid-19 Epidemics and the Issue of Italy’s Public Debt

We are back again to the usual routine of a too little too late approach in the EU, both for the Italian health spending and for the equally high one of the other countries affected by the epidemic. Creating debt to set the economy into motion again is of no use in the long run - if not as a stopgap measure. Direct interest-free financing from both the Bank of Italy and the ECB is needed

Archive photo: Reuters

How will the E.U. resources be defined in the near future for the coronavirus issue? The issue is, in fact, much more complex than we may think.

The actual European Funds that are theoretically available are manifold: the European Regional Development Fund, the European Social Fund, the Cohesion Fund and, finally, the European Maritime and Fisheries Fund.  All of them have been activated by President Von der Leyen in the initial phase of the COVID-19 spreading to Europe.

The resources identified by President Von der Leyen for providing support against the epidemics and its economic effects are all drawn from these budget items, which are also those transferred to the States, usually as pre-financing, i.e. as advances on operating expenditure.

The unspent part of these advances will soon be renamed without any particular bureaucratic problems and these funds will cover at least some past expenses, precisely as from February 1, 2020.

President Von der Leyen’s proposals affect also the General Regulation of European Funds, which will also enable us to use the Regional Development Fund to finance capital and investment, particularly to improve the efficacy of regional health services.

In principle, contributions from these Funds will only be used to cover the losses caused by health crises, climate events, environmental accidents or accidents at sea which, however, account for at least 30% of the turnover of the affected company, calculated on the average of the last three previous years.

For severe diseases and epidemics, this new E.U. system envisages that these Funds can be activated if damage greater than three billion euros or 0.36% of the usual GDP can be proved (well, what next? No end to bad news).

Hence a total of only 8 billion euros are expected to be made available to all the European economies affected, plus further 29 billion euros as cascading effects of investment already being made.

Too little, as is evident to us all.

The 2021-2027 EU budget, however, has not been approved yet. The resources are therefore already scarce and, to tell the truth, completely insufficient for all EU countries. Nevertheless, approximately 850 million euros will be transferred to the Italian regions alone to face the epidemics, in exchange for a not so formal guarantee of "enhancing the managerial approach" to health management - which is already high in Italy - and also to the relationship between spending centres and political authorities.

However, we are back again to the usual routine of a too little too late approach in the E.U., both for the Italian health spending and for the equally high one of the other countries affected by the epidemics, such as Spain, France and Germany, in the very near future.

In the German case, however, the public budget cosmetics - which I am surprised is not well known to the international financial markets - will make it possible to turn a plater, i.e. the German public finance, burdened with colossal debt, into a very fast Varenne.

It will not be with this little money and these post factum bureaucratic criteria that the European Union will rebuild its image in the European productive forces and industrial systems destroyed by the epidemics.

In the meantime, Prime Minister Conte’s government has already funded - - with 25 billion Euros, mostly as debt instruments- the whole package of measures to face the Covid-19 pandemic.

The government bonds that can be issued are valid only as from 2020 - as a starting date - but there will be specific "aid" for Air Italy, the Sardinian airline being closed, and the Solidarity Fund for Air Transport and the airport system will anyway have additional 200 million euros available.

All these measures can be found altogether in the Prime Minister’s Decree, so that we have the feeling that, in the end, with a view to setting again the economy into motion in the productive Northern regions after the epidemics, there will be less money than it is needed just to rebuild the industrial system of Small and Medium-sized Enterprises, which - as is well-known to all scholars and experts – have a much shorter time of permanence on the markets than large companies.

These 25 billion euros - which are clearly too little - also include funds for the publishing sector, given the unavoidable decline in advertising revenue, as well as an anti-spread shield for insurance companies to face the tension recorded on Italy’s public debt bonds. This is a very technical issue on which I will not elaborate in this article.

As always happens, however, if investors know it, they discount the insurance value on the amount of bonds acquired or on their price.

It is a painful mystery how, today, we can take a measure like the spread seriously, considering it measures a difference between the ten-year Bund of an ailing country, namely Germany, with the ten-year BTP of an equally ailing country, namely Italy.

Indeed, I have always had little faith in the average intelligence of private financiers.

Prime Minister’s Conte government, however, is ready to implement the E.U. changes to the volatility adjustment, which has always had a very discontinuous trend and a very limited effectiveness.

Thus, by purchasing the tools for estimating the spread parameters, the companies that hold public debt bonds should be in a position to evaluate the functioning of the mass of bonds and calibrate the mix of investment in "paper" instruments, as well as the duration of all the bonds they own. But there is no guarantee in this respect.

With specific reference to business support, the 25 billion additional public spending will allow to apply for the ordinary wage subsidies or for access to the ordinary allowances, but only for a period of nine weeks. 

Once again there is not a single word about the companies’ operations to recover market shares, as well as to recover the profit already forecast. All these measures would apply for just nine months, which, even if the pandemic ended immediately, would probably not be enough for the many Italian SMEs affected by the epidemics to recover their place and positioning in the E.U. and international markets which, meanwhile, the others will have already taken.

The fact that economic intelligence exists has not yet been understood by Italian politicians.

With specific reference to the healthcare sector, the 25 billion euros - which, as can be seen, are becoming ever less available - also include only 150 million euros for the increase in overtime for the medical and paramedical staff.

Based on the Decree enacted, the potential of specialized military medical staff will be increased by 320 doctors and nurses, but more money will be invested in local control offices for checks on goods and people.

Moreover, a total amount of 340 million euros will be available to use the beds in the private healthcare facilities’ intensive care units. What about the already available direct funding for private healthcare facilities?

It should also be recalled that the Supreme Defence Council has not yet been convened, which would be the minimum in the current situation.

Once again, too little too late. There is no reliable data on the permanence of the virus and its distribution throughout the country.

For SMEs, however, the Central Guarantee Fund will have only one billion euros available, which is still too little.

If we overlap the maps of the infection areas, from the province of Lodi to the Veneto region, we can also have the map of the development area of Italy’s Small and Medium-sized Enterprises in the North.

They face the international markets "barehanded", just as Karate or Judo men fight. Whatever happens, the COVID-19 epidemics has put an end to Italy’s particular system of development and industrial organization, precisely in the most productive regions.

Now for Northern Italy there is a possible future either as a "guaranteed" area or as an area completely dependent on the other countries’ economic cycles. This is the real game at stake. Especially for Germany, which thinks strategically about its economy within the EU.

The guarantee, however, will in any case be increased up to 5 million euros per company. For those who are still in difficulty, there will also be easy access to the "Gasparini Fund" for the suspension of mortgage payments. Said Fund has been increased with as many as 500 million euros for the whole 2020.

For the usual nine months after the entry into force of the Decree, access to this Fund will be provided also to the self-employed and freelancers who self-certify - and it will be very easy - a drop in turnover higher than one third which, however, shall be connected with the COVID-19 emergency (although no clear details are provided on how this correlation shall be proved).

For banks, as well as for the other companies’ creditors, the turning of debt into tax credits is envisaged for a maximum amount of 2 billion euros.

Hence we are well over the 25 billion euros initially envisaged, as debt instruments, by the Prime Minister’s package of measures, well knowing the debt conditions of many and often excellent SMEs in Northern and Central Italy.

For restaurants, cafés, gyms, entertainment and culture, as well as transport services, there is an exemption at source of withholding tax payments on income. However, real income support would be needed rather than the usual tax exemptions on income that is no longer there.

Finally, there is income support for freelancers only to the tune of 500 euros per month. Income support is envisaged also for those who have an active VAT number, as well as for the Made in Italy sector, which has always been the key for the SMEs’ economic penetration abroad. As to the latter, this income support - the amount of which is not specified - will be managed by the Institute for Foreign Trade (ICE). What about SACE for the companies which are already active overseas? In this case, everything is too vague.

However, there are already all the signs of the E.U. trip.

In one day the alleged gaffe of current ECB Governor Lagarde has already destroyed the Italian Stock Exchange, which, indeed, is owned by the London Stock Exchange, but the Franco-German banking axis has been speculating for years on the difference between the interest rates paid by Germany and France and the Italian ones.

This is a real industry. Hence Lagarde’s alleged gaffe can be easily understood.

Obviously all this is also a prelude to a sale of Italian companies and real estate sector, while it is increasingly likely that the rating agencies will downgrade Italy to junk from the current valuation of its public debt bonds, as a result of the 25 billion euros - albeit insufficient - spent as debt instruments to face the COVID-19 emergency.

As already mentioned above, while describing President Von der Leyen's plan, nobody within the E.U. is still outside the old "austerity paradigm", which works badly even when things go well. Let us not delude ourselves, in the future, about what the Popperian epistemologists called "paradigm shift".

Hence de facto industrial stoppage due to the epidemics and E.U. Member States’ subsequent joint speculative action on the Made in Italy companies, as well as downward operations against all listed SMEs. In this regard, we should also recall the 2019 ruling of the Strasbourg Court on insolvent Municipalities, in which it was decided that the whole amount of local debt plus interest shall be taken over directly by the central State.

This is already a huge blow. Currently there are, in fact, 66 large insolvent Municipalities, with 54 small administrations in the Calabria region and 409 medium and small Municipalities in crisis, for various reasons, as well as 111 insolvent Municipalities in Sicily, all for amounts which are currently difficult to assess but, however, very close to the famous 25 billion euros invested as debt instruments to face the COVID-19 epidemics.

This is an evident manoeuvre to circumvent our fiscal and economic crisis, which will be used at the right time by our E.U. and non-E.U. competitors.

Furthermore, if - as many current leaders of the ruling parties maintain - there will be Italy's access to the European Stability Mechanism, a European Court will judge whether private assets should play their role in the default procedure, in addition to the public ones.

It should also be recalled that 91% of Italian Municipalities are at risk of landslides and soil crumbling.

Hence, for all public assets and companies, there would be the classic bankruptcy procedure, which may also involve private assets. Just as happened with Greece.

And as was the case with Germany in Versailles, at the end of the First World War, thus paving the way for Nazism and the Second World War and, above all, for the European one.

What about temporary solutions? A double circulation of the old lira, which should be made interchangeable with the euro - something that, in fact, former Prime Minister Monti prohibited in 2012 and that Germany never dreamed of abolishing - or the circulation of forward and futures contracts, as done by Hjalmar Schacht, the Jewish and Freemason brilliant President of the German Central Bank under Hitler's rule, who invented the MEFO bills to ward off the last blows of Weimar Republic’s hyperinflation.

With specific reference to public debt, the Bank of Italy speaks about an increase in debt - precisely with additional 9.8 billion new liquid assets of the Treasury, which brings it to 55 billion euros - with a further central government’s debt that has increased by 7.2 billion euros and that of local governments - whose bad financial situation has already been mentioned above - by 0.5 billion euros in 2020.

For the long-standing theory of Eurobonds, called for by many more or less experienced economists, there is still a key question.

What if, in fact - as a result of a possible persistence of the COVID-19 epidemics - the investors, skilfully manipulated - and we can well imagine by whom - turned to other bonds, such as BTPs?

Currently Italy’s public debt is held by 80% of private markets/operators, by 33% of European institutions and central banks and by 20% of "other entities", namely small and medium savers or other organizations.

According to the European Commission, with a zero economic growth, at the end of this year the Italian public debt could reach, ceteris paribus, 2,435.7 billion euros out of a total EU-27 debt of 12,814 billion euros.

If the Italian economy is set again into motion at the end of May, as forecast by Cerved, our companies could recover a level of turnover even 1.5% higher than the one recorded at the beginning of the epidemics.

In essence, between 2020 and 2021 the COVID-19 epidemics is expected to cost companies 275 billion euros.

Certainly too much, but nothing that cannot be spread by a public debt carefully managed in its main components, if this data is disseminated among international investors. Hence we can definitely expand the range of buyers of our public debt bonds, carefully calibrated and even renewed, to open up to the financial markets in which we have ventured little in recent years: Great Britain, which certainly has a political, strategic and financial interest in opposing the E.U. policies, now that it is no longer a E.U. Member State; the United States, a market in which we have been present with our large companies, but much less with listed SMEs and other excellent companies; obviously China, but even India, not to mention Australia and New Zealand which, thanks to the London Stock Exchange - which knows the Milan Stock Exchange very well - could buy our bonds confidently.

Hence, we should no longer ask for charity from the E.U. financial markets, which have not shown any interest in our internal and economic situation. We should begin to make high-level propaganda and skilful promotion of Italy’s "image", not with a tourist-oriented approach but with excellent financial expertise.

Moreover, there are those who - not heeding danger and experience - propose to turn the European ESM into the E.U. "Economy Ministry", which could issue the famous Eurobonds or other instruments that, hopefully, would "sell like hot cakes" on the markets.

Does anyone know that nowadays countries compete, by all means, on their public debt bonds?

This operation - as debt instruments of the whole EU-27 - could raise the whole E.U.  budget, so as to help the less "fortunate" countries.

The idea is good, in principle, but it does not take for granted what now seems obvious: the E.U. project to make Italy end up just like Greece - as in slow motion, like in sport events such as football and athletics.

Moreover, the famous one trillion euro budget for the Green Compact, equal to seven years of the E.U. whole budget, was in fact an advertising idea, but we cannot even imagine where we can get this huge amount of money.

According to other reliable banking sources, the situation of Italian SMEs in the COVID-19 epidemics phase will have an impact on the working capital of our Small and Medium-sized Enterprises equal to over 18 billion euros, out of an already calculated total of 342 trade receivables and payables.

Nevertheless, only for the whole 2020, the requirements for SMEs could reach 46 billion euros, including repayments of debt coming due and investment.

50% of this amount regards companies in Lombardy, Veneto and Emilia Romagna.

Creating debt to set again the economy into motion is of no use in the long run - if not as a stopgap measure. A direct interest-free financing from the Bank of Italy is needed but - and this is going to be tough - also from the ECB, an institution in which experts study the old microeconomics and believe that it is the whole economic theory.

With a view to solving the COVID-19 crisis, the State Rescue Fund - the well-known ESM - could resort to its “toolbox”, albeit this is very dangerous.

Within the ESM, there is the possibility to activate the Precautionary Conditioned Credit Line (PCCL), i.e. loans granted quickly to avoid the default, but which are NOT conditional upon a Memorandum of Understanding (MoU) of mandatory cuts in public spending and "structural reforms".

This would mean a significant increase in unemployment, further compression of the internal market, as well as subsequent and obvious impact, as well as knock-on effects, for Italy’s companies. For an indebted government it is enough to sign a Letter of Intent, which is similar to a MoU, but is less imperative. Hopefully so, although no one has experienced it yet.

Furthermore, in the case of an Enhanced Conditions Credit Line of the ESM, with MoU-style reinforced guarantees which, I imagine, would be required from Italy, the effects would be directly proportional to the amount of credit granted and the average return time.

The ESM is therefore a trap and, in the long run, it would create the same disasters it would like to solve.

Microeconomics is not the whole economic theory. Today there is no soup, like the Marginalists’ one, having the maximum marginal value at the first spoon and the minimum value at the last one. Usually, you finish earlier.

Another nonsense, albeit very widespread, is the wealth tax called for by the IMF and other scarcely experienced economists.

The first house owned does not produce income, but an increase in taxation is created immediately during an economic recession and you do not need to be John Maynard Keynes to understand what would happen next.

Meanwhile, the big financial information agencies say far and wide that "there are 40 billion U.S. dollars of reasons to avoid the Italian public debt".

Hence the real and future struggle will also be fought with the careful and authoritative explanation of how the Italian public debt is made, and above all by avoiding the counter-propaganda of some of our scarcely affectionate E.U. friends.

Professor Valori is President of the International World Group

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Photo: Reuters

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