Abstract
This Selected Issues paper investigates the factors behind the deterioration in Italy’s international competitiveness. It concludes that the loss of competitiveness accumulated by Italian firms in recent years is mainly a consequence of weak long-term productivity performance. The paper explores the link between policies and growth. Specifically, it finds evidence that rigid product markets and a high tax burden on labor have been associated with slower growth in European regions. The paper also analyzes the role of fiscal policy and its implications for household consumption decisions.
II. Regaining Competitiveness: A Challenge “Made in Italy”1
Core Questions, Issues, and Findings
What is the aim of the chapter? Amid rapidly accelerating international trade, the growth of Italian exports has not kept pace with that of foreign demand. Market share in volume terms has declined steadily since the second half of the 1990s, although in value terms market share has held up better. The shortfall in export growth contributed to the Italian economy’s growth gap, including vis-à-vis the euro-area as a whole.2 This chapter investigates the factors behind the deterioration in Italy’s international competitiveness.
What are the main conclusions of the chapter? The loss of competitiveness accumulated by Italian firms in recent years is mainly a consequence of weak long-run productivity performance. Such weakness is likely to be rooted in country-specific factors, such as the dynamic inefficiency of Italy’s model of specialization, the predominance (and vulnerability) of small and medium-sized firms, and the presence of rigidities and inefficiencies in input and product markets.
A. Introduction
1. For the last several years, the euro area’s export performance has fallen short of that of the global economy. A complex set of demographic and economic factors explains this tendency. Some of the causes are structural, connected with the convergence of poorer regions in the world toward higher levels of development, although shorter-term developments have also played a part. More specifically, in the last two years the appreciation of the euro adversely affected the growth of European exports of goods and services, while helping to sustain imports (whose expansion was however curbed by the weakness of economic activity.) As a consequence, while the external sector contributed positively to aggregate euro-area output growth in 2001–02, the strengthening of domestic demand and the more appreciated currency caused the sector to exert a mild drag on growth in 2003 and 2004.
2. However, the external sector’s contribution to growth differed markedly among the largest euro-area countries. In Germany, it was strongly positive, against a contraction in domestic demand during 2001–04. In Spain, the country with the highest GDP growth rates among the four largest euro-area economies, the contribution from the external sector was sharply negative. France incurred moderate, though substantially negative, contributions by historical standards, with the contribution of the external sector switching from marginally positive in 2001–02 to appreciably negative in 2003–04. In Italy, the weakness of domestic demand, especially in the investment component, has been coupled with a negative contribution of exports since 2002, extending a steady and significant decline in market shares that began in the mid-1990s. Thus, the weakness of the Italian economy has not prevented a further deterioration in the current account deficit, which rose from €0.7 billion in 2001 to €18 billion in 2003, before falling back to €12 billion (0.9 percent of GDP) in 2004, reflecting partly the strong acceleration of world trade.3
3. The purpose of this paper is twofold. First, it aims to assess what factors have been driving changes in Italy’s trade performances over recent decades. Second, it looks at the role of external price competitiveness as a correction mechanism for cyclical differences across euro area members. In the absence of independent monetary and exchange rate policies, differences in competitiveness should have become the central adjustment process in an economic and monetary union. A country suffering more depressed cyclical conditions than the euro-area average should normally be expected to experience weaker inflationary pressures and thereby benefit from an improvement of its competitiveness relative to other countries. The competitiveness channel should then help reduce cyclical differences within the euro area. Unfortunately, this link is found to be extremely weak. Some member states with comparatively large positive output gaps in the late 1990s have managed to contain unit labor cost pressures, while some member states with comparatively lower cyclical pressures have registered large losses in competitiveness in the last few years. This has certainly been the case in Italy.
4. The structural nature of the factors hampering Italian export growth is increasingly evident. Italy’s share of world exports in volume terms fell more or less steadily—and by a third—over the last decade, from 4.6 percent in 1995 to 3.1 percent in 2004. Nearly all industrial countries lost market share over this period, due to the gains achieved by the emerging regions of Asia and Eastern Europe. However, Italian exports also lost share to those of other industrial countries. The appreciation of the euro played a role in these developments—at least in the last three years—but the primary factor accounting for the loss of competitiveness of Italian products was the relative increase in Italian unit labor costs, due basically to an unfavorable differential in productivity growth. This development, in turn, was largely the consequence of a negative differential in the rate of growth of total factor productivity. TFP growth is a residual explanatory variable with respect to the contribution of labor and capital, and is hence influenced by long-term phenomena such as process innovation and qualitative improvements in the organization of work, managerial techniques, the level of education, and the type of capital goods employed.4
5. Divergences in countries’ international competitiveness are likely to be closely linked to differentials in underlying productivity growth. Given that asymmetric shocks of the late 1990s were more sectoral than geographic in nature, the effectiveness of the competitiveness adjustment mechanism may have shifted over the period in countries characterized by strong sectoral specialization. In many cases Italian exports have been penalized by the fact that Italy’s comparative advantages are concentrated in relatively slow-growing sectors of world demand. This “dynamic inefficiency” of the Italian model appears to have become more accentuated over time. In order to reduce the extent of the losses in competitiveness incurred by Italian exporters in the past few years, sectoral considerations thus underscore the need for investment in product upgrading and innovation. In technology-intensive sectors, for example, recent studies find some evidence of new Italian competitive advantages.
6. The remainder of the paper is organized as follows. Section II summarizes divergences in recent trade developments across the main euro-area countries, which are discussed in greater detail in IMF (2005a). Section III focuses on Italian trade performance and its determinants, while providing some evidence of shifts in the effectiveness of the competitiveness adjustment process over time. Section IV concludes by discussing causes and macroeconomic implications of these changes.
B. Diverging External Sector Developments in the Euro Zone
7. Differences in price and cost competitiveness are the most obvious explanation for the large disparity in export performance across member states observed in recent years. Even though the euro-area countries have the same nominal exchange rate, their real effective exchange rates can differ substantially, depending on relative costs and pricing behavior.
8. The data support the view that price and cost differentials can explain the varying export behavior across large euro-area countries (Figure 1). As described by the evidence presented in IMF (2005a, 2005b), the appreciation of the euro has contributed to only a limited rise in the real effective exchange rate in Germany, owing to favorable productivity developments and cost retrenchment. Developments in France have been broadly in line with those in Germany. Italy, by contrast, has experienced a very substantial real appreciation—measured in terms of relative unit labor costs or export prices—thereby contributing to its poor export performance in recent years. The deterioration in price competitiveness arises mainly from poor productivity growth and, to a lesser extent, from increases in production costs.
Real Effective Exchange Rates, Productivity, and Wages
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Sources: IMF.WEO and lFS.Real Effective Exchange Rates, Productivity, and Wages
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Sources: IMF.WEO and lFS.Real Effective Exchange Rates, Productivity, and Wages
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Sources: IMF.WEO and lFS.9. These developments reflect a variety of structural factors, including differences in fiscal stances as well as country-specific and other shocks. They are also indicative of different degrees of rigidities in product and labor markets across the zone. Differences in competitiveness can take considerable time to reverse, and—partly as a result—inflation differentials can be very persistent. This complicates national policymaking, particularly when the scope for offsetting policy action is limited.
10. This may be one reason why the competitiveness channel has not generally smoothed cyclical differences within the euro area. While member states with comparatively large positive output gaps in the late 1990s have typically contained labor cost pressures, some member states with comparatively weaker cyclical pressures, including Italy, have registered large competitiveness losses in the last few years.
11. The behavior of exporters’ margins has also dampened the effectiveness of the competitiveness adjustment mechanism among euro-area countries. If margins are maintained in the face of deterioration in competitiveness arising from unfavorable developments in productivity, export performance will suffer, with additional negative effects on growth. In Italy, for example, exporters appear to have responded to the appreciation of the euro by passing on to export prices a higher-than-average percentage of the increase in unit labor costs, in order to preserve profitability.
12. Finally, traditional macroeconomic measures of the real effective exchange rates may not fully capture competitiveness developments, especially in countries with strong sectoral export specialization. Real exchange rate measures ignore this sectoral dimension and tend therefore to provide only a partial gauge of international competitiveness. The effectiveness of the competitiveness adjustment mechanism may be limited in countries whose exports display have a strong sectoral specialization.
13. In all these respects, the experience of Italy is telling. The Italian case allows one to outline various reasons why the degree of effectiveness of the competitiveness adjustment mechanism may have changed in recent years, accentuating (rather than smoothing) structural differences with respect to other euro area economies.
C. The Deterioration of Italy’s International Competitiveness
Recent developments
14. The Italian economy continues to lose competitiveness on international markets, reflecting slow productivity growth and, to a lesser extent, fast-rising production costs (Figure 2). At constant prices, Italy’s share of the world market fell by about one-seventh between 1999 and 2004 (from almost 3.6 percent to 3.1 percent), extending a negative trend that began in 1995. In spite of the recovery of world trade, Italy has lost export share in real terms not only to the emerging countries, but also with respect to the rest of the euro area. Notwithstanding such a steady deterioration of competitiveness in recent years, the extent of external drag at the turn of 2004–05 exceeded expectations. This likely reflected other factors, including the surge in Asian textile imports due to the elimination of MFA quotas.
Italy: What’s Behind Deteriorating Trade Performances?, 1999–2004
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Source: WEO, IFS, IMF staff calculation.Italy: What’s Behind Deteriorating Trade Performances?, 1999–2004
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Source: WEO, IFS, IMF staff calculation.Italy: What’s Behind Deteriorating Trade Performances?, 1999–2004
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Source: WEO, IFS, IMF staff calculation.15. Recently, however, Italy’s market share in terms of values has held up rather better. Market share in value terms fell by about one-fifth between 1996 and 2000, but broadly stabilized (at about 4 percent) over the next four years. The divergence between the volume and value measures of market share reflects a high rate of growth in the relative unit values of Italian exports and is not easy to interpret. It involves, in the first place, the nominal impact of the appreciation of the euro, which is generally stronger than its substitution effects on the volumes exported, as can be observed for different periods and currencies. This trend can be either reinforced or curbed by firms’ pricing policies. Data suggest some variation in this respect depending on destination. The increase in the unit values of Italian exports was more accentuated in EU markets (where it was in line with the average rise in producer prices), likely reflecting greater market power of Italian firms. It was more moderate in non-EU markets, where Italian firms sought to limit the loss of competitiveness due to the appreciation of the euro. In addition, it appears likely that the euro appreciation gave a further boost to long-term trends in the qualitative composition of Italian exports: firms shifted toward products having a higher unit value and exporters of low-end goods exited the markets.5
16. Composition effects are also very important for an understanding of the trend of market shares, shedding light on the links between the structural characteristics of models of specialization and success in international trade. In many cases, Italian exports have been penalized by the fact that their comparative advantages are concentrated in goods for which world demand has grown relatively slowly. This “dynamic inefficiency” of the Italian model appears to have become more accentuated over time, with increasing incidence of specialization in the slower-growing sectors. Overall, around one-third of Italy’s loss of world export market share and two-thirds of its loss with respect to euro area competitors can be attributed to these structural effects.6, 7.
17. The deterioration in the trade balance involved nearly every sector, with the notable exception of machinery and equipment, imports of which fell sharply owing in part to the fall in investment. The overall results for intermediate and capital goods have been fairly positive, while exports of consumer goods have contracted further. Over a longer time horizon as well, the most marked contraction in shares has involved “typical” Italian finished products, while shares of intermediate goods and of capital goods used to make such products have grown.
18. Small firms’ share of the value of exports has continued to fall. While the number of Italian exporting firms rose in the last decade, prolonging a trend that appears to be independent of the variation in the value of exports, small firms’ share of the value of exports fell from 32 percent in 1996 to 30 percent in 2003. The proportion of exports produced by large firms rose, but the incidence of these firms, as measured by their share of employment, nonetheless remains far smaller in Italy than in other European countries. The difficulties that small firms have experienced for years in international oligopolistic competition play an important role in Italy’s overall results for exports (ICE, 2005).
19. Evaluation of the demand-side geographical composition effect is problematic. Examining the figures at constant prices, Italian exports no doubt have been hobbled by their relative weakness in the more dynamic markets, such as North America and the euro area. But if one looks at market shares in value terms the effect appears to have been reversed in the last three years, because in this case the nominal impact of the appreciation of the euro also lent greater weight to the dynamics of the European market, where Italian exports enjoy a more favorable position. Reflecting global trends, the geographical distribution of Italian foreign trade has shifted increasingly over time toward emerging markets, though it continues, inevitably, to be affected by disparities in trade costs due to distance and trade barriers. In particular, the share of exports and imports to and from Central and Eastern Europe has risen by 4 percent over the last decade. East Asia’s gain in share of Italian imports was slightly smaller, having not yet overcome the collapse provoked by the region’s crisis of 1997’98.
20. Lastly, Italian exports’ loss of share is partly attributable to the country’s limited ability to attract foreign investment. Italy’s share of the global stock of inward FDI is only about 2 per cent. To be sure, Italy cannot compete with the emerging countries for FDI inflows motivated by cost advantages, but the country has demonstrated little appeal among multinational corporations interested in investing abroad in order to gain access to skilled resources and/or to consolidate their market power. Measures that continue to limit competition, above all in the services sector, appear to play a negative role.
Empirical evidence
21. To quantify the relative role of their determinants, four reduced-form equations for the volumes of Italian exports and imports were estimated, using quarterly data (1980–2004) for goods and services, respectively. Each of the four long-run equations was estimated in levels within a univariate context and tested for the existence of cointegrating relationships using a battery of unit root tests. As a second step, the full error-correction models were estimated, and dynamic contributions computed to quantify the role of the various explanatory variables in the evolution of trade variables over the last few years.8
22. The empirical framework adopted has the desirable property of distinguishing shifts in long-run relations from the corresponding short-run adjustments toward this equilibrium, thereby allowing for an analysis of the corrective role of competitiveness factors in trade dynamics. At the same time, however, the results need to be interpreted while bearing in mind the limitations of the tool at hand. First, the sample considered transcends different monetary regimes, raising concerns about the relevance (and the stability) of the estimates. Second, a univariate model rules out by construction any endogeneity between trade volumes and their determinants, among them prices and competitiveness indicators. Third, the estimation of reduced-form equations mixes supply and demand behaviors, thus preventing identification of the structural parameters of theoretical interest. To settle some of these issues, recursive estimates of the relevant parameters are presented to discern how shifts in policy have affected trade dynamics, while instruments are allowed for those contemporaneous variables suffering from possible endogeneity bias.
23. Empirical evidence for Italy supports the presumption that world demand shapes export volumes. The long-run elasticity of exports of goods to world demand is found to be very close to 2, while the corresponding estimate for services is slightly lower, but above 1½. In both cases, the hypothesis of unit elasticity is rejected by the data. As for exports of services, the sensitivity to global demand was not invariant over the sample: after falling steadily over the 1980s, the long-run response has strengthened significantly since the turmoil in the exchange rate mechanism of the European monetary system in 1993, possibly reflecting the benefits of currency stability for trade integration in the services sector.
24. Since the last currency devaluation, real competitiveness has played a key role as a correction mechanism in the external sector. After 1993, Italian exporters were no longer able to adjust fully their export prices in domestic currency in response to (lasting) exchange rate shocks. Currently, exporters of services are likely to bear entirely any loss of real competitiveness over the long run. Results indicate that, if margins are kept unchanged, a 10 percent increase in the real exchange rate implies a 10 percent drop in export volumes. Similarly, exporters of goods are now able to pass through to their export prices in domestic currency just a part of the variation in the exchange rate, thus suffering some squeeze in their profits over the long run. Specifically, a 10 percent loss in real exchange rate competitiveness is likely to entail a 7 percent drop in export volumes, everything else equal. This result is consistent with different theses, including (i) a loss of market power of Italian exports in foreign markets (more acute in the services sector) after 1993, or (ii) asymmetric mark-up behavior of Italian exporters in the event of currency appreciation or depreciation, with export prices becoming insensitive to competitive pressures as the currency depreciates.9
25. Overall, corrections of disequilibria in export performance are as twice as fast for goods as for services. Interestingly, however, exports of goods have tended to adjust more slowly to their equilibrium level over recent years. Estimates indicate that it took just under two years to correct 90 percent of any deviation of the volume of exported goods from its equilibrium level in 2004, compared to slightly more than 2 quarters in 1996. This means that productivity losses in manufacturing, for instance, take longer to become evident through declines in export growth than they used to.
26. Changes in the cost-based real effective exchange rate also significantly affect short-run export dynamics. According to the estimates, a 1 percent temporary appreciation of the real exchange rate (due, for instance, to stronger inflationary pressures) is expected to slow export growth (q-o-q) by 0.4 percent in the goods market and by 0.7 percent in the services sector.
27. Over the long run, imports of goods are entirely demand-determined, whereas imports of services are also affected by relative prices. The long-run demand elasticity of imports to domestic demand is estimated to be over 1.6, while their elasticity to exports is somewhat lower, around 1.2. Conversely, imports of services are found to be more sensitive to foreign demand than are imports of goods, with a long-run response of about 0.75 for services versus 0.4 for goods. Tellingly, the long-run elasticity of imports (for both goods and services) to foreign demand has strengthened significantly since the regaining of currency stability, although—for services—it has slightly receded over the most recent years. On the other hand, the import content of domestic demand for goods has exhibited much more stable behavior over the sample, though dwindling recently. Overall, this evidence seems consistent with ISAE (2005), which finds that the deterioration of export performance and the decline of the import content of domestic demand have been chiefly responsible for the recent weakening in imports.
28. In line with previous evidence for the euro area, effective measures of international competitiveness are found to be insignificant determinants of imports.10 However, imports of services appear to respond significantly to changes in relative prices both in the short and in the long run. Specifically, as import prices for services rise by 1 percent relative to domestic prices (proxied by the domestic demand deflator), corresponding import volumes are expected to fall by ¾ percent in steady state. In addition, a temporary widening in the inflation differential between import and domestic prices is likely to hold back import (q-o-q) growth in the services sector by the same proportion. Imports of goods are instead insensitive to relative price behavior.11
29. In the case of imports, the speed of adjustment toward equilibrium is greater in the services than in the goods sector. However, for both services and goods, import volumes have tended to adjust more slowly to their equilibrium levels over time. In the case of services, the structural break associated with the regaining of currency stability is striking, but the deceleration seems to have continued even over 2003–2004. Estimates over the whole sample indicate that 90 percent of any given deviation of the volume of imported goods from equilibrium is likely to be reversed in less than 2 years. The same adjustment process takes approximately 5 quarters in the case of services.
30. The computation of dynamic contributions confirms that the deterioration of Italy’s export performance since 2001 reflects the substantial loss of international competitiveness of the economy. Results for Italy are reported in IMF (2005a) vis-à-vis those for the other major euro-area countries. Between 2001 and 2004, increases in the real exchange rate are estimated to have shaved export growth by a cumulative 1½ percent for goods and 2½ percent for services. As for exports of goods, it is interesting that as the contribution to the real exchange rate has turned from positive to negative since 2001, the estimated residuals have also followed suit, as if the mean growth rate of the aggregate had shifted down. As expected, the strength of global demand has limited the damage by contributing positively to export growth over the whole period, in spite of a slight slowdown over the years 2001–2003.
31. The key question is, however, how much of the recent weakening in export growth is due to productivity misalignments rather than to stronger inflationary pressures. Although both phenomena bring about losses in international competitiveness—thereby translating into a slowdown in export growth—productivity shifts (or, equally, increases in the level of prices) are likely to have permanent effects on exports and are unrelated to the economy’s cyclical position. This difference is thus essential to assess the effectiveness of external price competitiveness as a correction mechanism for cyclical differences within the euro area. To do this, we try to explain export growth both in terms of “long-run adjustments” in the levels of exports and in terms of the contribution of short-run changes in the real exchange rate to export growth. As Figure 3 suggests, our time-invariant error correction model does not indicate the presence of a downward shift in the equilibrium level of exports of goods occurred over recent years, independent of short-term developments in price competitiveness.
Italy: Accounting for Export Growth
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Italy: Accounting for Export Growth
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Italy: Accounting for Export Growth
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
32. Import growth has been curbed by weak exports. Overall, the estimates seem to confirm that swings in import volumes are mainly determined by demand, particularly foreign demand. Conversely, the contribution of domestic demand to import growth has proven more resilient over recent years. Likely, the high import content (mainly intermediate goods) of Italian exports (structurally oriented toward consumer goods) makes import growth move more in line with exports than with domestic demand. In the services sector, the overall contribution of relative prices to the growth rate of imports has hardly been noticeable.
33. As this study relies on aggregate data, nothing can be inferred on the role of sectoral specialization of Italian exports on export dynamics. In this respect, other empirical studies on Italian export performance may help. For instance, a recent study by ISAE (2005) on bilateral trade flows shows that the Italian sectoral specialization model—which is based on traditional labor-intensive sectors—has suffered significantly due to competitive pressures from emerging market countries (especially China) over the second half of the 1990s. According to the authors, significant substitution effects seem to characterize Italian and French exports, on one hand, and Chinese exports on the other. This is not the case for German exports. Amighini and Chiarlone (2002) move one step further by analyzing OECD imports in the manufacturing sector. They confirm that Chinese and Italian specializations are very similar. However, there is no evidence of widespread trade overlapping at the product level, and when overlapping is present, Italian goods show a substantially higher quality level. Nonetheless, during the last decade, trade overlapping increased and the quality gap narrowed, which suggests that Chinese firms are an increasing source of competitive pressure for Italian manufacturing. Monti (2003) goes further, by focusing her attention on disaggregated data up to the fifth figure of the SITC classification. Looking at quality overlapping of exports in Italy, France, Germany, and Spain using unit average values, the study finds very limited evidence for Italian export specialization on high-quality products. The percentage of high-quality products in French and German exports appear to be higher than it is the case for Italian exports, while the opposite is true for Spanish exports.
D. Concluding Remarks
34. This chapter examines the factors accounting for Italy’s deteriorating external sector performance, building on a previous cross-country study analyzing the differences in trade performance among large euro-area countries. Standard variables of demand, relative prices and relative costs are able to explain only a limited part of the recent evolution of trade across European countries. In particular, the appreciation of the euro since the turn of the century has negatively affected performance of exports in all countries, although to different degrees, while the recent recovery in world demand seems to have mitigated, overall, further deterioration in external sector’s dynamics.
35. In the absence of independent monetary and exchange rate policies, differences in competitiveness should be a central adjustment process in a monetary union. For instance, a country suffering more depressed cyclical conditions than the euro-area average is also likely to experience weaker inflationary pressures and, thereby, an improvement of its competitiveness. The competitiveness channel should then help reduce cyclical differences within the euro area. The coexistence of Italy’s weak cyclical condition and poor external competitiveness is thus a particular concern.
36. The loss of competitiveness accumulated by Italian firms in the last few years is mostly explained by an unfavorable differential in factor productivity. The chief causes of Italian exports’ loss of share are hence structural and do not hinge exclusively on the appreciation of the euro. They reflect a variety of country-specific factors, such as the country’s model of specialization, the vulnerability of its small and medium-sized firms, and the presence of rigidities and inefficiencies in input and product markets. Long-term losses in factor productivity may lead to unit labor cost slippages and loss in competitiveness even in the absence of economic overheating.
37. The effectiveness of the competitiveness adjustment mechanism may have shifted over the period in countries like Italy characterized by strong sectoral specialization. In many cases Italian exports have been penalized by the fact that their comparative advantages are concentrated in relatively slow-growing sectors of world demand. This “dynamic inefficiency” of the Italian model appears to have become more accentuated over time.
38. Lastly, another factor that may dampen the effectiveness of the competitiveness adjustment mechanism in Italy is exporters’ margin behavior. If margins are maintained in the face of a deterioration in competitiveness due to unfavorable developments in productivity, export performance will suffer, with additional negative effects on growth. In Italy, exporters appear to have responded to the appreciation of the euro by passing on to export prices a higher-than-average percentage of the increase in unit labor costs, in order to preserve profitability. Although the pricing behavior of Italian exporters appears to have changed significantly since 1993, there may be still scope for margin retrenchment to prevent further erosion of their market shares.
39. While the reorientation of the model of specialization toward more dynamic sectors is a sine qua non for regaining international competitiveness, it can only be achieved in the long term. An important contribution of industrial policy must accordingly consist in removing impediments to technological innovation and diffusion, and to investment in product upgrading and in human capital. It could also be useful to foster forms of cooperation between firms that can help them overcome the limits imposed by their small size and gain access to foreign markets, stimulating the development of appropriate brand strategies and advanced arrangements for the internationalization of production. Most importantly, structural reforms are needed to increase the degree of competition in domestic markets, so as to stimulate the growth of the best firms and create the conditions for attracting a larger share of high quality FDI to Italy.
Annex I
Data Sources
Italian data:
From ISTAT (http://www.istat.it/comest/) quarterly data over 1980Q1–2004Q4:
Exports and imports in volume for goods and services, respectively, seasonally adjusted and corrected for working days, and expressed in 1995 euros;
Total domestic demand in volume (for all goods, as no breakdown is available);
Export, import and domestic demand deflators for the similar breakdown.
External environment data:
From the WEO data base:
Foreign demand faced by selected countries: weighted GDP at constant prices of trade partners, with weights defined as the share of country’s exports to the trade partners (we kept the trade partners whose share is greater than 1 percent of total country’s exports). Detailed export data are derived from the IMF Direction of Trade statistics.
Foreign competitors prices (for all goods) for main European countries: weighted GDP deflators converted in euros, with weights similar to the ones used for foreign demand. As for foreign demand, the data are only available on an annual basis.
Export relative prices (for export equations) are then defined as the ratio of foreign competitors prices, expressed in euros, over domestic exporters prices. Import relative prices (for import equations) are defined as the ratio of importers prices over domestic demand prices. Hence in both cases, an increase in the ratio signals an increase in price competitiveness.
Other data:
From the International Financial Statistics (IFS):
Real Effective Exchange Rate based on relative unit labor costs (2000=100).
Annex II: Error-Correction Models for Italy’s Trade Equations
A. Exports of Goods:
B. Exports of Services:
C. Imports of Goods:
D. Imports of Services:
A. Exports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
A. Exports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
A. Exports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
B. Exports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
B. Exports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
B. Exports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
C. Imports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
C. Imports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
C. Imports of Goods: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
D. Imports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
D. Imports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
D. Imports of Services: Recursive Estimates of the Long-run Relation
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Testing for Cointegration
See MacKinnon (1996) for one-sided p-values.
Critical values are from Kwiatkowski-Phillips-Schmidt-Shin (1992, Table 1)
Testing for Cointegration
| A. Exports of goods | B. Exports of services | C. Imports of goods | D. Imports of services | |
|---|---|---|---|---|
| ADF 1 | −3.58 p=[0.008] | −3.72 p=[0.005] | −3.71 p=[0.005] | −3.70 p=[0.006] |
| PP 1 | −6.16 p=[0.000] | −3.90 p=[0.000] | −5.35 p=[0.000] | −3.70 p=[0.006] |
| KPSS2 | 0.11 CV10%=0.35 | 0.08 CV10%=0.35 | 0.11 CV10%=0.35 | 0.12 CV10%=0.35 |
See MacKinnon (1996) for one-sided p-values.
Critical values are from Kwiatkowski-Phillips-Schmidt-Shin (1992, Table 1)
Testing for Cointegration
| A. Exports of goods | B. Exports of services | C. Imports of goods | D. Imports of services | |
|---|---|---|---|---|
| ADF 1 | −3.58 p=[0.008] | −3.72 p=[0.005] | −3.71 p=[0.005] | −3.70 p=[0.006] |
| PP 1 | −6.16 p=[0.000] | −3.90 p=[0.000] | −5.35 p=[0.000] | −3.70 p=[0.006] |
| KPSS2 | 0.11 CV10%=0.35 | 0.08 CV10%=0.35 | 0.11 CV10%=0.35 | 0.12 CV10%=0.35 |
See MacKinnon (1996) for one-sided p-values.
Critical values are from Kwiatkowski-Phillips-Schmidt-Shin (1992, Table 1)
Recursive estimates of dynamic adjustments toward equilibrium
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Recursive estimates of dynamic adjustments toward equilibrium
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
Recursive estimates of dynamic adjustments toward equilibrium
Citation: IMF Staff Country Reports 2006, 059; 10.5089/9781451819885.002.A002
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Prepared by Silvia Sgherri (EUR)
The chapter builds on a previous cross-country study analyzing the differences in external sector performance among large euro area countries, IMF (2005a).
However, an examination of the current account deficit composition shows that the recent improvement was mostly due to trade in services, which swung from a deficit of almost €2.4 billion to a surplus of €1.5 billion. In particular, the number of Italians traveling abroad fell sharply, probably as a consequence of the deterioration in economic conditions (ICE, 2005).
For a detailed analysis of cyclical vs. structural productivity developments in Italy, see IMF (2005c) and Sgherri (2005).
In evaluating these developments, it should be borne in mind that ISTAT recently modified the method it uses for calculating the indices of unit value of foreign trade. For the period 1997–2002, these changes imply an upward revision of the average annual increase in export unit values, from 1.7 percent to 3.7 percent, and a corresponding reduction in the rate of increase in volumes.
A statistical analysis presented in ICE (2005) shows that they derive largely from the so-called “dynamic inefficiency” of the Italian economy’s model of international specialization, i.e. from the fact that Italy’s comparative advantages are concentrated in relatively slow-growing sectors of world demand. This accounts for more than 70 per cent of Italian exports’ loss of share at current prices with respect to the euro area in the period 1997–2004. In other words, there is a negative correlation between Italy’s initial comparative advantages and the changes in the sectoral structure of world demand, accentuated by the Italian model’s rigidity, its inability to change in the same direction as world demand. By contrast, the geographical structure of trade played a basically neutral role, given the limited differentiation among the euro-area countries in this respect.
Many recent studies have looked into the determinants of Italy’s loss of competitiveness. Among these, some underscore the predominance (and vulnerability) of small firms in the economy (Pagano and Schivardi, 2003) and the low degree of internationalization in the ownership structure of Italian firms (Mariotti and others, 2002; Capitalia, 2005); some call attention on the slowdown of capital accumulation (Caselli and others, 2003) and the country’s low propensity to invest in IT (Bugamelli and Pagano, 2004); others stress the importance of high sunk costs for Italian exports (Bugamelli and Infante, 2003). Larch (2005) points to unfavorable product specialization as the main cause of Italy’s dismal growth performance, while Faini and Sapir (2005) argue that such a product mix reflects the low level of human capital in the economy.
Annex 1 describes the data sources. Estimates for each error-correction model are reported in the Annex 2, along with corresponding cointegration and stability tests.
Bugamelli and Rosalia (2004) and Bugamelli and Tedeschi (2005) suggest that the insensitivity to the real exchange rate in cases of currency depreciations may be consistent with the existence of “one-off exporters”, e.g. firms entering marginal markets only to exploit competitive exchange rate advantages and exiting the market as competitive gains disappear.
See, for instance, Faruquee (2004).
This may simply reflect an inherently lower degree of trade integration characterizing the services sector. Unlike the goods market, where product differentiation seems to give exporters some power over domestic competitors, in the services sector foreign competitors do not seem to have any power in the domestic market.
