Italy has, of course, it’s own version of the twin deficit: on the one hand a political system which maintains serious democratic and credibility deficits (viz the mutual ppresence of Tremonti and Fazio in Washington this weekend) and the equally important financial deficit which has generally received less attention in the press. (We can leave on one side the growing Balance of Payments current account defecit for the time being). Last Friday Morgan Stanley’s Vicento Guzo drew attention to the government budget deficit issue, describing the task of introducing auterity measures with the backdrop of such lacklustre growth as ‘daunting’, and pointing to one highly ‘perverse’ consequence of Italy’s euro membership:

Market reaction was muted, as usual. Italy keeps benefiting from the euro’s shelter effect. Had this political turmoil occurred ten years ago, outside the common currency influence, it would have probably led to a noticeable rise in the country’s borrowing costs with dangerous ripple effects on its financial system. It may sound as a great achievement, but the path ahead is more treacherous than it looks, in our view. The currency is playing a perverse role, by reducing the incentive to seriously tackle the debt problem. Markets’ appraisal, however, is inherently binary: either they assume Italy will put its debt on a sustainable trajectory or they assume it won’t. This is why the cost of further procrastination might be suddenly high.