Photographer: Tony C French

There's a Reason Italy's Losing to Spain in the Recovery Stakes

The euro's mediterranean giants are taking different paths out of the crisis

While Matteo Renzi and Mariano Rajoy may be lacking some clarity about their political future as prime ministers, the score card on their respective economies is easier to read. 

Italy and Spain, the euro zone’s third and fourth-largest economies, have taken different routes out of the severe recession that followed the financial crisis. An early clean-up of its banks after the bursting of a property bubble, coupled with reforms aimed at increasing competitiveness, have given Spain an edge over Italy. There, legacy issues are holding back growth that has historically been slow.

“Spain, we feel, may be be exiting the periphery — its banking sector issues are largely behind the country and underlying growth is robust,” said Mark Dowding, a partner at BlueBay Asset Management LLP in London, which oversees about $55 billion and holds both Italian and Spanish bonds. Italy, on the other hand, remains “stuck with high levels of debt, weak growth and ongoing banking-sector worries,” he said.

Non-performing loans are clogging Italian banks' balance sheets, threatening financial stability and damping the economic recovery. While Renzi has pushed for reforms to modernize the country since he took office in 2014 — from liberalizing the job market to trying to streamline the country's unwieldy bureaucracy — his efforts haven't been enough to turn the tide yet. Now, his future as prime minister is at stake, with a December referendum on a constitutional overhaul also serving as confidence vote on his leadership.

Rajoy's government in Spain is benefiting from a series of measures taken earlier in the crisis, including a controversial labor market reform in 2012 that made it easier for employers to fire staff. Most crucially, the country took early action on its banks, using a 41-billion euro bailout to recapitalize failing lenders. NPLs have declined in response. Initially driven by a surge in exports, confidence in the recovery has unleashed pent-up demand in investment and consumer spending.

But even Spain faces challenges. Its unemployment rate is the second-highest in the European Union, its deficit and debt are too high for the region's rulebook, and a third national election in less than a year is looming unless Rajoy succeeds in forming a government by the end of October.

-- With assistance from Giovanni Salzano and Mark Evans.