TCS Daily


Read Italy's Lips...

By Carlo Stagnaro - April 13, 2006 12:00 AM

Italians have once again voted to change their governing coalition, choosing Romano Prodi's center-left alliance by a narrow margin over the incumbent center-right group led by Silvio Berlusconi. In the next few weeks the new parliament will have to vote for the new head of state, as President Carlo Azeglio Ciampi's mandate expires. The next president will appoint the new prime minister, most probably Prodi, who will have then to agree with the center-left parties on the makeup of the new government.

Prodi's coalition, Unione, didn't really win so much as the center-right Casa delle Libertà, or House of Liberties, lost. Despite gaining in the polls as the election came to a close, Berlusconi could not convince Italians that his government performed up to the promises he formalized in 2001 through the "Contract with Italians". These included the creation of local police forces, the increase of minimum pensions to more than €500 euros per month, the creation of at least a million jobs, and the start of a number of public works. But virtually everybody agrees that the most important, and ultimately decisive, promise was that regarding personal income taxes. Berlusconi committed to getting rid of a complex, highly progressive tax system in order to shift towards a simpler system with just two rates, 23 and 33 percent.

The government actually reformed the Italian tax system, shifting from five to four brackets, with the marginal rate falling from 45 to 43 percent. Since public spending remained constant, the government had to raise more revenue from other sources, such as an increase in indirect taxes, including excise taxes on gasoline and stamp taxes, as well as a cut in fiscal transfers to regions, provinces, and towns, which all consequently had to raise local taxes. All in all, fiscal pressure decreased by a negligible amount, and Italians didn't perceive any change. This explains much of Berlusconi's failure in convincing his former supporters to vote for him again.

Still, Berlusconi's performance was not as bad as expected. His coalition had lost all elections in the last few years -- particularly European elections in 2004 and regional elections in 2005 -- and opinion polls predicted the Unione to take over 10 percent more than the Casa delle Libertà as late as December 2005. How could Berlusconi make up so much lost ground? Since January 2006 he has been on television repeating the mantra: We maintained our electoral promises; even though our performance was poor, it was because of external conditions over which we had no control, such as 9/11, an economic stagnation that is European rather than Italian, etc. Five years ago his mantra was, I'm going to cut your taxes; now it was, the Left is going to increase your taxes.

The new government will have to deal with the reality that Italians are deeply concerned about taxes, as the late-stage upward trend in the vote for Berlusconi indicates. Italians voted him in 2001 to cut taxes and sanctioned him in 2006 for not having done so. But cutting taxes also implies cutting government expenses -- something the center-right government didn't even try to do in the past five years -- as well as a comprehensive program of liberalizations and privatizations.

The challenge Prodi faces is to undertake the necessary reforms while relying on a majority that ranges from Communists to center parties more friendly to freeing market forces. How Prodi will address the issues of taxation and labor market flexibility (a primary target in the extreme left's propaganda) will be significant tests that will tell more about what Italians should expect in the next few years.

Mr. Stagnaro is Free Market Environmentalism Director of Istituto Bruno Leoni.

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