The Oxford Political Review speaks with Carlo Cottarelli, former Executive Director of the IMF (Italy etc.) and Prime Minister-designate of Italy in 2018 during the political crisis. Cottarelli is a veteran IMF bureaucrat and Italian public economist. In the conversation, Brian and Cottarelli speak over the state and future of Italian politics, the EU and Brexit, and the limitations of policies in favour of fiscal tightening.
Carlo Cottarelli is a man with many hats. To many in the IMF circles, he was the veteran bureaucrat who helmed the IMF’s Fiscal Affairs Department (2008-2013), winning him the accolade of “Mr. Scissors” for his determination to cut public affairs budgetary spending as a solution – “one amongst many”, he muses over a cup of coffee – to countries undergoing debt crises. For others, he was the Executive Director for the country – amongst others – at the IMF. To the ordinary Italian, however, Cottarelli is probably best remembered for his being appointed Prime Minister-designate in an attempt to forge a viable government, and his extensive economic commentary and writings.
A man of impressive stature, Cottarelli has a captivating nonchalance about him. As we begin our conversation with 1 hour to go until Brexit in the Middle Common Room of Nuffield College, he transitions quickly from his laid-back, dinner demeanour into that of a pensive technocrat. It’s an acquired habit that perhaps reflects years of experience and practice on part of a policy expert who had – in the past – partially struggled to find his place amongst the common men.
We open with a question on his experience at the IMF. I note that Cottarelli’s career at the IMF launched around the same time as the debt crisis that struck Africa and Latin America. The Structural Adjustment programmes, introduced by the organisation in line with its broader objectives of ensuring that countries undertook greater fiscal discipline and kept to stricter requirements concerning budgetary allocation, were extensively panned by many for being oblivious to the needs and sensitivities of different countries – particularly those in Latin America. I probe Cottarelli for his thoughts.
He offers the preliminary caveat, “Things have changed quite a lot since I joined the IMF – and I have nothing to do with it anymore as we speak. Because of that… I can speak more freely.” He chimes amicably.
Cottarelli admits that the IMF was certainly flawed in its initial handling of the wide range of target countries – it neither possessed the sensitivity nor flexibility that was needed for successful rebuilding of economies after collapse. Yet since the heyday of its Structural Adjustment regime in the 1990, the organisation has paid far more attention to establishing a safety net for the poor, he notes. Such transformations include installing insurances and checks against excessive cutting spending on healthcare and education, which, whilst not always necessarily upheld or possible, have significantly mitigated the worst damages of IMF intervention – whilst preserving its benefits. The IMF has now focused significantly more on the needs of present countries than in the past – and it is this transition that is emblematic of its continued viability and necessity.
Furthermore, in its defense, the decision over what to cut often rests with the country itself.
“If Greece does not want to cut military spending, what could you do?”
I push back here – it appears that the IMF often, by historical advantage or established, entrenched economic power, possesses disproportionate influence over weaker countries. This is particularly in light of its historical alignment with its largest voters – i.e. not the small countries. Yet I also have in mind more particular criticisms of its leadership, as seemingly obstinate and unresponsive to the calls for change from smaller countries.
Cottarelli is unconvinced – “Give me an example.” He notes and highlights the plausible observation that whilst “there have been and will continue to be a lot of criticisms, these are the very criticisms that prompted the IMF to change, to become far more open and willing to publish material and information.”
I raise to him the recent example of Ecuador, where the March 2019 agreement between the country and IMF – featuring $4.2billion of loans over three years – called for a substantial reduction in the country’s public spending through a tightening of 6% of its budget. This would, intuitively, lead to the transferal of the economic costs to those with the least political capital and bargaining power – the thousands of public sector workers and the poor who are reliant upon the country’s already-unstable welfare services.
Cotarrelli is somewhat defensive here; he notes that countries coming to the IMF are often in a bad shape, and in a “very difficult situation”. He posits that money must come from somewhere – and that this vacuum is best filled by the international community, who understandably is unlikely to lend to those with proven track record of fiscal indiscipline. I appreciate his argument, but remain skeptical as to the extent to which such tightening is necessary, particularly in light of the substantial capacity-centric damages that cuts on spending and raised taxes are likely to induce.
The economist flags here his frustration with the IMF-centrism of our conversation. Taking note of his point that he has not served in the organisation for a while, and thus would be more comfortable speaking over other matters, we shift our conversation onto his theoretical home turf – on the dynamics of interaction between fiscal and monetary policies. I raise the broad question concerning Eurozone’s monetary policy – does the homogeneous and highly rigid nature of its monetary policy pose distinct gains or disadvantages to the many left-behind by “two-speed Europe” (a term usually applied to describe the phenomena of segmented developments in the European Union, but borrowed here to reflect those struggle within the monetary union)? Is continued monetary policy harmonisation the way forward for the Eurozone?
The economist shrugs. As an empiricist, Cottarelli is wary of big ideas and grand theories without applicability to specific contexts or cases. His methodological preoccupation shows through as he asks for an example, again, to ground my question. I duly comply – how about Italy?
Cottarelli sees the issue as lying less with a homogeneous monetary policy than with domestic policy failures. “Italy has always had problems with integrating within the Eurozone. Some folks argue that we should opt out of it, and that we were always bound to have problems with the Euro.”
The real culprit, however, lies with Italy’s appalling economic state as it sought to join the IMF. It was inevitable, in his opinion, that the pegging of the country’s exchange rate to another country’s (or a monetary union’s) would induce inflation that is significantly higher than in other states. Whilst such inflationary pressures could have been reduced through the tightening-up of fiscal policies and cooling-down of the economy, Italy opted instead for expanding its fiscal policies. He laments that the administration then “felt that the country no longer had any issue with public debt.”
“Our GDP was reduced from 5% to little more than 1%. This put a lot of pressure on inflation, but also saw the government then significantly increase public sector wages. We became very uncompetitive – between 1999 and 2009, our exports increased by a few percentage points… over the decade.” [Between 1999 and 2009, Italy experienced significant negative economic growth ~ -3% – during the Global Financial Crisis, and did not exceed 2% in growth rates during the decade]
The Pandora’s Box was opened by unbridled, poorly mismanaged public spending.
I offer a rejoinder – maybe the issue isn’t so much about spending per se, but bad spending. This is to say, Carlo is right to note that poorly mismanaged state investments and spending are a bad idea – but this is true of any and all poorly executed state policy. Take the Keynesian model of stimulating Aggregate Demand, which perhaps tax cuts and state injections into the economy could uniquely attain. Why not support strategic demand-side or supply-side spending by the government, especially if the subset of consumers or investors crowded out in the first place is likely to be minimal?
Cottarelli jokes – “if the issue is about supporting demand… you must know Keynes’ analogy. You can dig holes to bury money, unearth the money, and bury the money again. That is, trivially, a GDP increase. But there’s no good reason to do it.”
His concern about fiscal expansionism is as follows – if a country has already accumulated a lot of public debt, other countries or investors may not be so rational as to say that such spending is good spending. Markets don’t work as such – they do not recognise long-term or hidden returns to investment. He adds that recklessness over public spending is why Italy’s GDP collapsed in the 2011 crisis.
“Is austerity a good idea?” I enquire, shifting the discussion to a more general and global level. Carlo has seemed very keen on focusing on the Italian context, so I am keen to gauge his thoughts on countries besides Italy.
“You do it when it is necessary – it is not something that always makes you feel better.” Carlo muses, somewhat cryptically, and ominously evasively. The sceptic would say that the bureaucrat had dodged the question, although I am far more sympathetic. After all, economics requires complexities, and there is little most mass media enjoy running away from other than nuances and technical caveats.
“The question is, what is the alternative?” He adds. Take the Monte administration [the administration governed Italy between 2011 and 2013, and played a critical role in its post-debt crisis governance] – everyone knew that the high interest rates were not sustainable, but what was Monte supposed to do other than to raise the interest rates and discourage instant spending and reckless borrowing?
The solution, he believes, rested with tightening fiscal policies, with the hope that the market will “see the truth”. He is sanguine in his outlook and evaluation of the European Central Bank (ECB) – where there are difficulties, the ECB would play the critical role in supporting national banks of European states. For Italy, this moment of relief came in July 2012 – it was “late, but better than nothing”. He attributes the delay in relief to Northern European states.
When it comes to other countries (in response to my question above), he emphasises that the bottom-line remains largely the same – where one lacks financial funding sources, one hopes that one makes it easier for foreign financing. It may be convenient or pleasant to think that increased spending would be what garners foreign spending – but “if you start with a massive hole, the market will say that, the hole is too huge to fill”. Thus Cottarelli’s take on austerity – do it when necessary; this does nevertheless beg the question of, when is it, and whom should decide, if such necessity arises…
Our attention moves quickly onto Italy’s current economic state. Cottarelli vigilantly resists my characterisation of the status quo as a debt crisis. He irreverently quips, “The status quo is not a debt crisis, but it may turn into a debt crisis if there is an external shock.” He does hope that Italy would do more to structurally reform itself prior to the next shock hits. To Cottarelli, the solution is growth.
Growth matters in two distinct ways: firstly, it reduces the public debt ratio, by increasing the denominator, trivially, in the Debt/GDP ratio. Less trivially, one also need reduction in deficits amidst an ever-growing debt, which requires the right strategy and reforms that would lead Italy to a stable growth rate between 1% to 1.5%. If there’s one piece of advice he’d give to the current administration – the key is to keep spending constant, with neither austerity nor spending surges, subsequent to that equilibrium.
I find his prescription helpful, but could not resist thinking that it is slightly idealistic. The Salvini administration (2018-2019) seemed very keen on spending massively, to cater to his base through populist pandering. Whilst Salvini is now gone (for now), it appears that the anti-technocratic, pro-spending tendencies underpinning his campaign remain ever so prevalent and dominant amongst the Italian public. How would Cottarelli’s advice sit well with the increasingly fragmented and perturbed Italian state of politics?
Cottarelli confesses that he does not know – “I don’t know. Whilst the Five Star Movement has become far more mainstream, so there’s the hope that with the current coalition [Left-Centre-Five Star] we could avoid unsustainable spending patterns, there is indeed the possibility that the League comes back.” He forecasts the possibility that Salvini would then hypothetically be swayed by a moderate center-right coalition, “or he may decide to take chances”.
Is the problem then not with Italy’s innate political instability? It appears that much of what Cottarelli laments about reckless economic policies and spending could be attributed to the constant need to pander to and win over the public – is this not an issue best resolved through restructuring the political design in Italy, to ensure that greater certainty and stability could be injected? Elsewise, would the incentives not be excessively perverse?
The former IMF director muses, “It’s a Chicken and Egg problem…”
“Today’s GDP numbers are indeed terrible, and I hope it’s not the beginning of a new economic crisis.”
Expressing clearly that his commitment to past austerity measures was not ideological, but pragmatic, Cottarelli notes that “if Europe had a European budget that we could utilise, this would the time for an expansionary policy. The budget of the EU is 1% of its GDP [roughly 1% of its EU-28’s GNI], with a requirement that bars it from being in deficit.” Cottarelli laments the fact that where expansionism is warranted, the EU has neither the resources nor unity to push forward such ambitious but needed measures to stimulate growth. Perhaps his openness to interventionism here is acquired after years of reflection upon criticisms of his being excessively fiscally conservative – but this is clearly a man who has learned and thought more about economics than many of his peers.
“There’s something rather dangerous, and against the spirit of Keynes, which is for economists to have the same view all the time: people who want to tighten fiscal policies all the time, and people who want to deploy expansionist measures all the time. You need both.”
Our conversation moves onto a topical discussion about the role of China in Italy’s and Europe’s future growth – does Cottarelli see a future for Italy in One Belt One Road?
He is skeptical – he notes that there are clear issues posed by China for Europe, and that Europe must engage and negotiate with China in a united way. Divided, Europe falls; united, it stands. This principle, he notes, applies to the USA and also the world at large. I find his cynicism towards China understandable, but perhaps under-substantiated – yet I press on with a more pragmatic, instrumentalist question: is the issue with Cottarrelli’s advice not, once again, that Europe is divided and disunited, and it is deeply unlikely that it would be able to unite “in time” to parry against the alleged foreign interference.
He admits to this – “We are far more French, Italian, German… than we are European. From a political point of view, we must decide – either we adjust in time, or we will flounder. It won’t be good.”
Does the European Union have a future? I articulate my reservations over his optimism – I point to the Elephant in the Room, of course, that is Brexit (it is, by now, T-40 minutes until the Big Ben strikes 11). To the “B” word, Cottarelli opines, “It’s very bad news for Europe and the UK.”
Then he adds, waving his right hand nonchalantly as he stares out of one of the Nuffield windows into the distant night – “But sometimes a divorce is better than endurance.”
I probe for his thoughts on the question of Euroscepticism – are the 2019 MEP Elections reasons for us to feel slightly more optimistic about the prospects of the Union? Or are they mere the dying breath of a dying structure?
Cottarelli is relatively buoyant about the future of the EU – he notes that his own country was the only one with an increase in Eurosceptic, isolationist tendencies. Whilst things may become more difficult in Italy with regards to European integration and solidarity, especially in the event of another economic crisis, he is insistent that the EU must stick by its fiscal disciplinary principles and ensure that countries adhere to guidelines stipulated by the ECB. For the economist, Euroscepticism stems from poor economic performance, and the only well to quash such tides is to ensure that immediate interventionist measures are undertaken by the leaders of the EU in propelling reforms in otherwise-lethargic polities. “The only way to convince anti-EU denizens is to make their lives better.”
My worry is that most Brexit and Eurosceptic voters vote on the basis of affective heuristics – on judgments guided by their emotional and instinctive reactions to what they perceive as symbolic and normative impositions by an inherently unjust, hierarchal entity, the EU. I point to the example of Wales, where 52.5% of voters opted for Leave, over 47.5% who went for Remain. Wales is one of the more apparent beneficiaries within the UK from the country’s EU membership – and it is likely that its economic performance would have been even worse had it not been for EU investment. Is this not a counter-example to Cottarelli’s thesis?
His response is emblematic of a wizened, perhaps slightly jaded, and enlightened-by-real-world bureaucrat – “People must see some change. What happened in 2016 was that people in the UK did not see change. For example, Portugal benefited greatly from the EU – and people saw that. They responded to the drop in interest rates as a positive trajectory and shift in the EU’s growth, and that’s why there’s increasing Europhilia in the country.” I am left with the lingering worry – perhaps it is thus making people see changes, as opposed to achieving actual changes, that is what sells the EU the best.
How did Cottarelli feel as the Prime Minister-designate for Italy… for four days?
“It was a relief when I could leave!”
“I had to do it,” He sighs, “It was an honour to do so, but at the same time, the situation was getting very difficult. There was no chance that I would have won a vote of confidence.”
Yet he is not regretful that he was “displaced” – after all, “things worked out – even the previous Italian administration [formed after Cottarelli’s brief tenure as caretaker Prime Minister-designate] did scale down the deficit enormously.”
I close with a question asking Cottarelli for his advice to prospective academic-politicians. What advice would he give to those seeking to straddle economics, politics, and governance?
“There’s definitely a difference between theory and practice. Just remember that.”