Monday, July 23, 2012

Europe of the Regions

The latest economic news out of Southern Europe with Spain’s borrowing costs hitting unsustainable levels and Monti’s fears that Sicily may be on the brink highlights an interesting angle on the euro crisis.  This is the role the regions and their financial woes play in the current crisis.  Some of the fears roiling Spanish markets today seem to stem from the fact that Valencia, the home of the world’s best paella, has applied for a bailout from the government in Madrid.  Valencia is not just the country’s most indebted region but it has become a poster child for wild excesses that left tax payers holding the bag for regional spending sprees that created little in the way of long term growth.

In Italy last week, Mario Monti expressed ‘serious concerns’ about Sicily's unsustainable debt level. There, the problem is more long term, related to corruption and extreme mismanagement of funds, if on a somewhat smaller scale compared to Spain’s most indebted regions. Even if the chances of a default there are relatively low, the case of Spain shows Monti is right to be concerned if markets overreact and drive Italian bond yields up.

As Europe has decentralized more powers to its regions, it has become harder for some governments to maintain control over their finances.  This is particularly true in Spain where regional autonomy is a powerful political force and the regions account for a third of the public sector deficit.

If part of the solution to the crisis is ‘more Europe’ as Angela Merkel has stated, that might also have to entail a little ‘less regions.’ While financially necessary, that will be a very tall order politically.

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