And Maybe Another One

Early, still inconclusive, results from Italy's 2-day election for another government in Rome (the 64th since 1945)  are indicating what world financial markets, and Germany and the European Commission,  did not want - no clear mandate.

Voting has been split multiple ways (as it most often is in Italian elections), this time between Mr. Bersani (the apparent favorite), Mr. Berlusconi and Mr. Grillo ( both of whom seem to have surged in popularity in the two weeks prior to voting), and incumbent Mr. Monti ( who appears to have done much worse than expected). But none of these principal political players' parties seems to have garnered enough electorate support to effectively step forward and propose to Italy's President that it form a new government, in coalition with another party. Gridlock and uncertainty prevail,  and yet another election may be required.   ​

Markets deplore this outcome. They are hanging in the balance (Italy is the world's 3rd-largest debtor, after Japan and America). The euro was under pressure today;  America's equity markets plummeted late this afternoon on the "uncertainty" news. The CBOE volatility index spiked, and America's "safe-haven" treasury-bond markets rallied.

Watch for additional election results forthcoming tonight and tomorrow, which may well confirm uncertainty.

Another One

By this writer's count, Italy is about to elect its 64th national government since it established itself as a democratic republic immediately after World War II. Political dysfunction, alive and well in Washington, is taken to a whole new level in Italy.

In this upcoming election, on February 24-25, ​the main players include an ex-Communist (Luigi Bersani), a comedian who campaigns from a van (Beppe Grillo), a nationalist from northern Italy who rails against many, including the citizens in the south of his own country (Roberto Maroni), an anti-Mafia magistrate (Antonio Ingroia), the leftist President of Apulia (Nichi Vendola), a disgraced former Prime Minister who has risen again (Silvio Berlusconi), and the current, non-elected technocrat Prime Minister (Mario Monti), an economics professor and former European Commissioner.

Prime Minister Monti was forced to dissolve his emergency government in December, when former Prime Minister Berlusconi's right-wing party People of Liberty (PdL) abruptly withdrew its support. Mr. Berlusconi, who had presided over Italy for much of this century's first decade, had himself been forced to resign in November 2011, when crucial allies deserted. Confidence in Italy's sovereign bonds had collapsed, and the country's economy was staggering through a multi-year, double-dip recession. GDP per capita in real terms was at that point lower than it was in 1999, extraordinary for a rich European country, and quite a legacy for Mr. Berlusconi.

Prime Minister Monti had begun the long process of fixing Italy, by aiming directly at an extremely over-regulated economy (even by European standards). Pension, tax and labor-market reforms were being implemented or planned, and control over public finances was underway (Italy's outstanding public debt is almost 130% of GDP, the highest in the euro zone), all with the ultimate goal of restoring international competitiveness by reigniting productivity,  and instilling economic growth to reverse the relentless rise in unemployment, particularly among the young.

All this will now need to wait. Watch for a new centre-left government to emerge, led by Mr. Bersani. Final polling last week showed his Democratic Party (PD) in the lead, though Mr Berlusconi's PdL was (astonishingly) narrowing the gap. A Bersani government, though quite different from Mr. Monti's, could be a reasonable outcome (Bersani exhibited reformist zeal as Economics Minister in a previous Italian government). Moreover, word is that, depending on results in Lombardy and Sicily, he may, or need to, invite Mr. Monti and his centrist supporters to join a coalition government, thereby securing a majority in the Senate, and imparting greater overall legitimacy and competency to the new government. The worst-case scenario would be a win by Mr. Berlusconi's party in the Chamber of Deputies, but not the Senate, making it impossible to form the 64th Italian government. This cannot be dismissed - months of uncertainty, market pressures (on the euro and bond yields), and yet another election, would ensue.

Smarter

"There is a smarter way to do this...without harming the economy", said President Obama yesterday morning. He's got it right, this time.

The President was commenting on the impending "sequester", the blunt, large and inappropriate cuts to federal government spending scheduled, through legislation, for March 1. It is clear that the self-imposed sequester cuts, which neither political party actually wants, are too much too soon for a fragile economic recovery, and, in any case, are heavily, and wrongly, focused on discretionary, especially defence, expenditures, rather than the long-term deficit culprit - entitlement spending (medicare, medicaid, and social security). So, yes, Mr. Obama, there is a smarter way to do this.

But, that smarter way has been around for some time now. Both the President and Congress have, nonetheless, chosen to ignore it, and to argue endlessly instead. Back in 2010, President Obama ordered a commission to be formed with the goal of proposing measures to achieve long-term fiscal balance. In charge were Mr. Simpson, a former Republican senator from Wyoming, and Mr. Bowles, a chief of staff to President Clinton. This Republican and this Democrat, and their 16-other-members, bi-partisan Commission, produced the 2010 Simpson-Bowles Report, focusing on a combination of federal government expenditure cuts (of both a discretionary and mandatory nature) and reform of the "complicated, costly, anti-growth, anti-competitive, unfair" tax code. The existing federal tax structure in the United States was, they noted, a morass of tax breaks, amassed over decades of attempts at social engineering, and effectively just another form of spending - totalling $1 trillion. Reform must, the report emphasized, both maintain or improve tax progressivity and promote economic growth, producing a more "efficient, effective, and globally competitive" structure. Greater tax revenues, and significant, carefully-targeted expenditure cuts, would, over the coming decade, restore fiscal balance.

This was an excellent blueprint. However, initiated by the President, it was then studiously ignored by the President, who proceeded to advance his own hybrid plan. The Republicans did likewise. Simpson-Bowles 2010 didn't even receive sufficient support to advance to the floor of Congress. Gridlock ensued.

Now, with two more years of trillion-dollar annual deficits, Mr. Obama re-elected, and the sequester looming, Mr Simpson and Mr. Bowles are trying again, except this time they are sterner, and the numbers are bigger. Details of their updated plan will be released in "coming weeks", but the thrust of the new proposals, again on both the revenue and spending sides of the budget, is to extract $2.4 trillion from debt over the next decade, lowering the publicly-held debt/GDP ratio to 70% (compared to 90% if nothing is done) by 2022.

This seems an entirely reasonable, if modest, goal. But the political headwinds in Washington blow ever stronger; Democrats, proposing more tax hikes on the rich, and Republicans, saying more tax revenue is off the table, continue to dig their positions deeper. In the interim, with Congress away this week on a "break", the March 1 sequester cuts look virtually certain. The climate of economic uncertainty, and sluggish growth at best, will persist.

Mitigating the Sequester

 Most political speeches are difficult to listen to - full of lofty statements, often unabashedly partisan with lots of intermittent applause, and absent, or at least thin, of any specific plan to implement or change policy. So it was with President Obama's State of the Union speech (like Award shows, I didn't watch). While the US gross debt clock kept ticking closer to $17 trillion (greater than the total value of the US economy), Mr Obama spoke of how "smart" it would be for the government to spend more - on education, including universal access to pre-school and vocational training programs, more on infrastructure, and more on measures to promote manufacturing and the hiring of the long-term unemployed. Fine ideas, no doubt, and, moreover, such new expenditures would (somehow) not add one dime to the budget deficit (presumably because of their ultimate impact on productivity and hence tax revenues?). One wonders whether Chinese and other foreign investors, important buyers/holders of the unending supply of American debt, woke up this morning thinking that perhaps it was time to sell their US Treasury bonds.

In his address, Mr. Obama exhibited, briefly, some sense of realism when he noted that it was hardly fitting for the "most important nation on the face of the earth" to be drifting from one manufactured fiscal crisis to another. But, rather than striking a conciliatory tone, he reiterated his now well-worn "class" theme, intoning that senior citizens and working families should not be asked "to shoulder the entire burden of deficit reduction while asking nothing more from the wealthiest and most powerful". Congressional Republicans must have been provoked anew, having conceded to tax increases on the wealthiest - while getting no spending cuts in return - just last month in a last-minute, New Year's Eve deal to avert the fiscal cliff. Whatever political goodwill was left in Congress prior to the President's speech - and it wasn't much - there is certainly none now.

Without it, it is difficult to imagine how the next "manufactured crisis" can be averted - the so-called sequester, due March 1. It mandates very large discretionary spending cuts (spending that must be authorized each year by Congress) which fall heavily on defence, and much smaller mandatory spending cuts, taken together totaling $1.1 trillion over the next ten years. Neither Congress nor the White House wants the sequester - it's a very blunt way to budget. It is too much too soon for a still tepid economic recovery, and  the mix of cuts is wrong. The principal driver of projected government deficits is mandatory, not discretionary, spending, that is, the entitlement programs - Social Security, Medicaid and Medicare, and Obama Care health-care subsidies.

These need to be reformed now, if they are to be sustainable - as does the tax code (what happened to the discussion about revamping the tax code?). But the White House and House Democrats have once again dug in their position, apparently insisting on more tax increases on the wealthy, and on oil companies, as part of any agreement to modify entitlements. Republicans, particularly the so-called "young guns" led by Eric Cantor (the House Majority Leader) and Paul Ryan (the Chairman of the House Budget Committee), are equally dug in, arguing that America's deficit problem cannot be taxed away, and that in any case they have already given in to tax increases on the rich. Mr. Ryan, seemingly frustrated, recently said, "I'm expecting the sequester to take effect" because he does not now believe Democrats will focus on mandatory spending cuts.

This time, a late-night deal on February 28, like the one hatched on New Year's Eve by Vice-president Biden and Senate Minority Leader McConnell to deter the fiscal cliff, appears improbable. The young guns won't have it, again.

Back to Tunis

The Arab Spring roils on, this past week returning to Tunis, Tunisia's capital. Chokri Belaid, a lawyer, and leader of a leftist opposition coalition, was assassinated, shot four times on Wednesday as he sat in his car. Belaid's supporters are blaming factions of Ennahda, Tunisia's largest Islamist group led by Hamadi Jebali, the Prime Minister over the past year. There have been no arrests.

Tunisia was the birthplace of the so-called Arab Spring, a movement that started in December 2010, and led first to the fall of its long-time dictator, Zine al-Abedine Ben Ali, then spread, bringing down similar regimes in Egypt, Libya, and Yemen, and now threatening others, notably in Syria. Hosni Mubarak, Muammar Gaddafi, and Ali Abdallah Saleh were all forced out; Bashar al-Assad may be next. But some two years on, it's evident that ousting autocratic leaders is the relatively easy part - replacing them with stable governments that can represent the very broad, vocal and polarized political spectrum in these and other Arab states is proving the much more difficult part. The Arab Spring is far from complete, and slipping back into instability seems like the most probable short-term scenario.

 A tiny step towards ultimately establishing political legitimacy may be underway, however, in Tunis. The secular party (the Congress for the Republic) of Tunisian President Moncef Marzouki announced it will withdraw its ministers from the Islamist-led coalition government tomorrow. And perhaps more importantly, Prime Minister Jebali, attempting to quell ongoing violence, has announced his intention to replace his government with a cabinet of technocrats not associated directly with any political party. This is a bold step, as his own Islamist party, Ennahda, is opposed. Jebali has even staked his personal political career on the move, saying he will resign if his efforts to re-structure the government along more secular lines by the middle of this week fail. 

These developments, still unfolding and unclear, will be crucial, not only for Tunisia, but across the Arab world, as the fundamental struggle between religious and secular forces to establish new political regimes, capable of addressing urgent economic and social issues, remains not nearly resolved.