The Italian Candidate: the Appointment of Mario Draghi to the Presidency of the ECB

The Italian Candidate: The Appointment of Mario Draghi to the Presidency of the ECB

Kenneth Dyson and Lucia Quaglia

After prolonged negotiations, on 24 June 2011, the governor of the Bank of Italy, Mario Draghi, was appointed president of the European Central Bank (ECB) as successor to Jean-Claude Trichet. His mandate runs from 1 November 2011 to 31 October 2019. Draghi’s appointment was consistent with a long-standing practice of Italian politicians and officials seeking to engage with the process of European integration by ensuring that they were “sitting at the European top table.” In the context of the euro area, sitting at the top table for Italy was initially about gaining euro entry as a founding member state in 1999 and, subsequently, about having strong Italian representation in the governing structures of the euro area, particularly the ECB.1 Once the sovereign debt crisis became contagious in 2010–2011, it meant ensuring that financial markets drew a clear distinction between Italy and periphery member states such as Greece and Portugal that suffered from sovereign debt distress. However, retaining a seat at the European high table did not prove easy. First, Italy qualified late for euro entry, with little safety margin and the help of some last-minute and somewhat controversial fiscal measures and in the face of much German skepticism. Second, the cir- cumstances surrounding the resignation in 2005 of the Bank of Italy’s governor, Antonio Fazio, damaged Italy’s reputation. Third, by the

Italian Politics: From Berlusconi to Monti 27 (2012): 155–171 © Berghahn Books doi:10.3167/ip.2012.270109 156 Kenneth Dyson and Lucia Quaglia

summer of 2011, Silvio Berlusconi’s government was battling against a loss of financial market credibility. The view took root that the government lacked the political will and capability to push through the fiscal and economic reforms required to enhance Italy’s growth capacity and competitiveness and to reduce its heavy public debt burden. On 5 August 2011, following a Governing Council meeting, Draghi and Trichet dispatched a joint letter to Berlusconi, stressing the need for urgent reforms to strengthen competitiveness, growth, and fiscal consolidation and detailing specific reforms in order to regain investor confidence.2 The problem was that the Italian political class lacked the necessary domestic capacity for collective action to make credible the claim to a seat at Europe’s high table. Paradoxically, against this inhospitable background, the appointment of Draghi as ECB president demonstrated Italy’s ability to occupy the top seat at the top table of the euro area. This chapter argues that Draghi’s appointment was the outcome of various factors, each of which is examined in turn. The first section dis- cusses the “intangible” assets of the Bank of Italy, which have shielded it from strong political interference domestically, and examines the long-term process of pro-active, cross-national central bank networking in which the Bank excelled. Through networking, Bank officials have sought to strengthen, regularize, and formalize their relations with other central bankers; to foster long-term patterns of face-to-face relationships with their counterparts; and thereby to participate—and seek out leadership roles—in the diffusion of best practice among central bankers and to increase trust in the Bank’s professional capacity to deliver.3 The next section examines the opportunity created by the withdrawal of the president of the German Bundesbank, Axel Weber, as a candidate for the ECB presidency, thus creating the opportunity for Draghi’s appointment. The chapter then highlights the personal qualities of Draghi as a highly respected economist and technocrat. Finally, it analyzes the short-term effects of the international economic and financial crisis in distancing the Bank of Italy from the domestic political class that had failed to deliver reforms.

The Intangible Assets of the Bank of Italy and Central Bank Networking

The opportunity structure that made possible Draghi’s successful candidature for the ECB presidency was provided by the strong and respected institutional position that the Bank of Italy held domestically and the priority that the Bank had given to central bank networking The Italian Candidate 157 since the governorship of Luigi Einaudi in the 1950s. Domestically, the Bank of Italy has been one of the most respected and trusted institutions in Italy. Its role as the powerhouse of economic knowledge was augmented by the very limited expertise available to political authorities. With the exception of the Treasury, whose capabilities were upgraded in the 1990s (in particular under Draghi), no govern- mental agencies in Italy could compete in the mastery of economic knowledge. This monopoly of expertise and the reputation of the Bank meant that international organizations and financial markets regarded it as their best or only Italian resource for economic and financial data and policy analysis. Furthermore, continuous contacts between the Bank and major universities, research centers, and high-quality jour- nalism placed it at the center of major intellectual networks, magnify- ing its influence in policy-making.4 The Bank of Italy’s distinctive and cohesive organizational culture has been associated with its promotion of an image as a professional and depoliticized bureaucracy and as an island of excellence in a state in which politicization, factionalism, and rent-seeking are widespread at all levels. Its reputation as an arbiter of excellence is reflected in the number of its officials who have achieved important positions in other areas of policy in Italy and abroad. The positions that former senior Bank of Italy officials have held include president of the Repub- lic, prime minister, treasury minister, foreign minister, president and director general of Confindustria (the Confederation of Italian Indus- try, representing employers), and director general of the European Commission. Lorenzo Bini Smaghi’s move to the Ministry of Finance and then to the executive board of the ECB reflected this tradition. Notably, the manpower “flow” has generally been from Italy’s central bank to other policy locations: the Bank of Italy is the “exporting” institution. The appointment of Draghi in 2005 as the Bank’s governor reversed this trend to a certain extent, although he had earlier been an economic adviser to the Bank. The image of the Bank of Italy as an efficient, apolitical technoc- racy contrasts starkly with the somewhat colorful—and sometimes unflattering—image of Italian ministers and prime ministers. With the exception of technocratic governments, such as that led by Mario Monti, this latter image was prevalent among European economic policy elites. By contrast, the Bank of Italy had an external credibility that most of the Italian political elite lacked. Hence, Italian governments “banked” on the Bank, which performed the function of a highly regarded interface with the outside world. During the 2011 sovereign debt crisis, the Bank was a major point of reference and an authorita- tive interlocutor for foreign counterparts. 158 Kenneth Dyson and Lucia Quaglia

Central bank networking helped the Bank to adapt to the fast- changing realities of monetary and financial market integration in Europe and of international banking supervision and to secure its professional reputation as a “quality” central bank that enjoyed the respect of its peers. It involved participation in a supportive, cross- national policy community of shared values, frameworks of analysis and explanation, and projects that focused on professional and central bank independence to safeguard sound money and to promote shared understandings of the causes of inflation and financial instability. Central bank networking enabled the Bank of Italy to place itself at the apex of an Italian technocratic class, by whose efforts Italy could best seek to remain at the European top table, and to become central to the process of sustaining external discipline on Italian policy-makers.5 However, the logics of central bank networking and Italian political networking were radically different. Although central bank networking is largely hidden from public view, its most tangible forms are the quality of Italian central bank officials, their presence in international and European financial and monetary institutions, and the value and reliability of their data and policy documents. Cross-national professional networking assumed an increasing importance over time with the progressive Europeanization of monetary and financial policies. In short, this networking was the outward manifestation of inward Europeanization of the Bank of Italy. It also assumed a new significance after 2007–2008 as the international financial and economic crisis deepened and revealed the limita- tions of the Italian political class. Through cross-national networking, the Bank of Italy gained more power over policy process than policy content. The creation of the euro provided continuity in policy-making for the Bank of Italy. As with the European Exchange Rate Mechanism (ERM), the Maastricht “monetary constitution” of the Economic and Monetary Union (EMU) was founded on German ideas of “stability culture.”6 Hence, cross-national networking meant adapting to and, as opportunities presented themselves, reshaping German-centric policy paradigms. At the same time, the euro offered a new incentive for a step change in networking. Whereas the German Bundesbank lost monetary power to the ECB, the governor of the Bank of Italy gained a new voice and vote on monetary policy as a participant in the Governing Council of the ECB. Euro area membership was also the catalyst for a major expansion of the research staff at the Bank of Italy to support network-building capacity, not just in monetary policy, but also in banking supervision. In addition to having a large research staff compared to other Eurosystem central banks, the Bank of Italy was the only non-American central bank—other than The Italian Candidate 159 the ECB and the Bank of England—to appear in the international top 10 for quality-adjusted research output.7 In terms of research ranking, it surpassed the German Bundesbank. The International Monetary Fund (IMF), the World Bank, the Bank for International Settlements (BIS), the Financial Stability Board (FSB), and the Eurosystem provide opportunities for Bank of Italy officials to exercise intellectual power through the quality of their arguments. The Bank of Italy has a particular comparative advantage in European and international banking supervision. As a member of both the ERM and, subsequently, the Eurozone, its power in monetary policy was severely restricted. However, it enjoyed supervisory authority that was denied to the Bundesbank and the Banque de France (and the Bank of England between 1997 and 2011) and a reputation as an effective supervisor.8 For these reasons, it punched above its weight in the BIS, the FSB, and other international regulatory forums where financial stability issues are discussed.

Overcoming German Reluctance and Managing French Difficulties

Draghi’s appointment as ECB president represented a landmark: he was the first southern European central banker to be given this key post. In addition, his nomination faced a number of difficulties. The lack of a “stability-oriented culture” in southern Europe was perceived by German and Dutch policy-makers as a potential threat to price stability in the euro area and thus as a barrier for a central banker from this part of Europe aspiring to the top position at the ECB. In the 1990s, both the German finance minister, Theo Waigel, and the chair of the Christian Democratic/Christian Social Union (CDU/CSU) parliamentary party in the Bundestag, Wolfgang Schäuble, expressed their serious reservations about Italy’s entry into stage three of the EMU.9 Italy’s eventful entry into the euro area, characterized by a hasty fiscal adjustment in order to meet the convergence criteria, was followed by a delayed and limited adaptation to living in the euro area. Italy’s adjustment to the EMU was quicker and more effective in policies directly related to monetary union than in others, notably those related to economic competitiveness. Much-needed economic and institutional reforms were implemented only partially, if at all.10 The result was a worsening of Italian competitiveness in the context of a stagnant national economy. The sovereign debt crisis, which first hit Greece and then spread to other parts of the periphery of Europe, particularly southern Europe 160 Kenneth Dyson and Lucia Quaglia

and Ireland, seemed to confirm the worst fears of German policy-makers and public opinion, namely, the lack of a stability culture in southern Europe. As Dutch and German public opinion became increasingly anxious about the costs of bailing out “profligate” southerners in 2010–2011, their politicians became worried about the domestic impli- cations of backing an Italian to head the ECB. For this reason, the German federal chancellor, Angela Merkel, favored Weber, whose domestic reputation had risen with his active role in German financial crisis management in 2007–2010.11 The argument gained strength from the fact that Germany had not provided either of the first two ECB presidents. However, Weber resigned his chairmanship of the Bundesbank in 2011, opening the way for an alternative ECB candidate, and the German federal government lacked a central banker with the appropriate stature and professional support. The departure of Weber was decisive. It reflected a loss of confidence among professional central bank colleagues in the ECB Govern- ing Council in Weber’s skills as an effective cross-national networker. In May 2010, he had adopted a position of principled opposition to the blurring of boundaries between monetary and fiscal policies when the ECB agreed to purchase sovereign bonds as part of the emergency EU rescue package for Greece. Weber felt that Merkel had failed to support a fundamental German position. He rejected as unconvincing the argument that ECB sovereign bond purchases were justified in order to support the transmission of its monetary policy. Weber’s resignation was motivated by disillusionment and isolation.12 In contrast, Draghi was associated with a more pragmatic approach to crisis management that retained its anchor in German-style economic principles and was closer to that of Trichet. Without Weber, there was no obvious Ger- man candidate of sufficient standing and experience who would be acceptable to the other member states of the euro area. However, the German government retained the pivotal position in the appointment process. Its position became stronger as the crisis intensified. The sovereign bond purchasing of the ECB transferred risk within the Euro- system disproportionately to German taxpayers, because the costs of bailing out indebted states fell disproportionately on them. Germany is by far the largest contributor to the stabilization funds/mechanisms set up by the EU to deal with sovereign debt crisis, providing emergency funding to states at risk of default. French President Nicolas Sarkozy used the opportunity created by Weber’s withdrawal to promote the nomination of Draghi,13 despite strong tensions between the French president and the Italian prime minister over the course of previous years. Sarkozy’s eagerness stemmed from the implausibility of another French candidate after The Italian Candidate 161

Trichet, along with the lack of a French nominee of stature who com- manded sufficient support in European circles. An Italian candidate was viewed as being closer to French macro-economic policy pref- erences than a German one. As on the previous two occasions, the key context for discussing the appointment of the new president of the ECB was the Franco-German relationship. Merkel was reluctant because an Italian was a difficult political choice to sell to domestic public opinion. The issue therefore became bound up in wider Franco-German trade-offs that centered on the reform of European economic governance. This linkage took the form of French concessions with regard to making fiscal targets more binding and toughen- ing the excessive deficit procedure. In Italy, Draghi’s candidacy was supported by the main political forces in both the government and the opposition. Being a highly respected technocrat who had managed to keep above the political fray, Draghi faced no significant domestic opposition. Rather, his appointment was seen as a major achievement for Italy, symbolizing its presence at Europe’s high table and the success of Italian policy in aspiring to top positions of power. However, Draghi’s appointment raised a serious difficulty for the French government. The outcome would be two Italians on the ECB’s six-member executive board and no French representation after Trichet’s departure. The eight-year term of Lorenzo Bini Smaghi, the existing Italian member of the board, would last until May 2013. In April 2011, Berlusconi promised Sarkozy that Italy would relinquish Bini Smaghi’s place on the executive board to a French candidate in return for French backing of Draghi.14 However, this deal challenged the cherished principle of ECB independence. Bini Smaghi argued that he had no intention of stepping down early, wanting to avoid any impression that pressure on him could compromise the ECB’s independence. The only viable European-level solution was for him to leave his post for a similar, and not inferior, position, namely, the post left vacant by Draghi at the Bank of Italy. This move would have allowed Bini Smaghi to keep a vote on the ECB’s Governing Council. However, this outcome was complicated by internal rivalries in Rome. The Berlusconi government maintained that Bini Smaghi was one of three candidates for the post of governor of the Bank of Italy, the others being the deputy governor, Fabrizio Saccomanni, and the director of the Treasury, Vittorio Grilli. The choice of the new governor was delayed until shortly before Draghi’s departure from the Bank of Italy, when the appointment of his successor became urgent. The Bank of Italy, which was keen to protect its independence from potential political influence, opposed the choice of an external non-Bank candidate. 162 Kenneth Dyson and Lucia Quaglia

Accordingly, although he was supported by Treasury Minister Trem- onti, Grilli was not backed by the Bank. Even Bini Smaghi, who had spent the early part of his career at the Italian central bank, was not considered an internal candidate by the Bank. For some, the highly experienced deputy governor was too old to take up the post of governor. Eventually, in late October 2011, Ignazio Visco, deputy director general of the Bank of Italy, was appointed to succeed Draghi. At his confirmation hearing in the European Parliament, political concerns were expressed about Draghi’s previous senior position at Goldman Sachs between 2002 and 2005. He responded by stressing that this role was largely advisory and had not involved selling financial instruments. Moreover, the controversial swap deal orchestrated by Goldman Sachs on behalf of the Greek government had taken place prior to Draghi’s time at the investment firm.

Draghi and the Rehabilitation of the Bank of Italy

Draghi’s qualifications and personal qualities facilitated his appointment to the presidency of the ECB. He was a highly respected economist with an international career in banking and with a reputation for successful crisis management in Italy. His PhD in economics from the Massachusetts Institute of Technology in 1976 was supervised by two Nobel laureates, Franco Modigliani and Robert Solow. After serving from 1984 to 1990 as executive director of the World Bank, Draghi was director general of the Italian Treasury in the critical years from 1991 to 2001. During his period at the Treasury, he chaired the committee on Italian corporate and financial market reforms and drafted the subsequent legislation. Above all, Draghi was at the heart of the management of the crisis associated with the lira’s withdrawal from the ERM in 1992. This crisis had a fiscal dimension due to severe problems in refinancing the three-digit Italian public debt in the context of penalizing interest rates. Against the background of his candidacy for the ECB, Draghi drew regular parallels between the post-1992 Italian crisis and the 2010–2011 sovereign debt crisis. In the process, he also highlighted his own role in what had been a successful case of sovereign debt crisis management without a bailout. In addition, together with Treasury Minister Carlo Azeglio Ciampi, Draghi was one of the architects of Italy’s membership in the EMU. They carried out the substantial fiscal adjustment that allowed Italy to meet the fiscal convergence criteria in the Maastricht Treaty. His experience at the Treasury also equipped him with skills in dealing with politicians. Hence, Draghi had credentials as a skilled negotiator and crisis manager, as well as a technical policy-maker. The Italian Candidate 163

Following three years (2002–2005) as vice-chairman and managing director of Goldman Sachs International, Draghi was appointed governor of the Bank of Italy to rehabilitate the Bank after the “Fazio affair.” In 2005, Governor Fazio had intervened to block two foreign takeover bids: one of Banca Nationale del Lavoro by a Spanish group, Banca Bilbao Vizcaya Argentaria, the other of Banca Antoniana Popo- lare Veneta (Antonveneta) by ABN Amro. Instead, Fazio encouraged counter-bids by two Italian banks, Banca Popolare di Lodi and Unipol, respectively. He aimed to protect the italianità delle banche (Italian ownership of banks operating in Italy). Both of the adversely affected foreign banks complained to the European Commission, which had authorized their bids on the grounds that they did not jeopardize competition in the banking sector. An anti-trust inquiry by the European commissioner for competition, Neelie Kroes, was dropped.15 Pressure from other EU member states, EU bodies, and financial markets, coupled with sharp domestic criticism, led to Fazio’s resignation in the fall of 2005. His departure was followed by the reform of the governance structure of the Bank of Italy.16 This reform left the extensive supervisory powers of the Bank largely untouched. How- ever, banking competition policy was transferred to the separate Com- petition Authority, which had been established in 1990. In October 2011, an Italian court found Fazio guilty of market-rigging in the 2005 takeover battle for Banca Antonveneta. Draghi’s appointment as governor of the Bank of Italy had parallels with that of Weber as president of the Bundesbank in 2004 after the “Welteke affair.”17 Like Weber, Draghi faced the challenge of rehabilitating a tarnished institution. Draghi’s success in rehabilitating the Bank and shifting it away from the defensive and protectionist approach associated with Fazio was essential for his emergence as a credible candidate for the ECB presidency. It placed him on a par with Weber. However, Draghi brought broader international experience to his role than Weber, who was an academic economist. Draghi’s range of experience and skills and his role on the international stage in financial crisis management since 2007 rendered him a strong candidate. Moreover, Draghi was not just an ex officio member of the Governing Council of the ECB. He was also the chair of the Financial Stability Forum (FSF), later the FSB. In this latter position, he played a leading role in IMF and G20 circles by coordinating proposals for international standards in financial market and banking reforms. This experience fit well with the changing role definition of the ECB in the international financial crisis as it began to emphasize its responsibility for promoting financial stability in the euro area, acting as secretariat for the new European Sys- temic Risk Board. In short, Draghi had a superior CV to that of Weber. 164 Kenneth Dyson and Lucia Quaglia

Draghi and the Financial Crisis in Italy

Both Draghi and the Bank of Italy saw their reputations improve further during the post-2007 international financial crisis. Draghi’s skills and experience and his role at the FSB were well-suited to the chal- lenges. The Italian banking system was more traditional and robust than most, while the failures to tackle Italy’s chronic problems of low growth, weak competitiveness, and high public debt could be attrib- uted to the political class. This offered opportunities for Draghi to take up a public role as a critic of these failures. The unfolding crisis led Draghi and the Bank to do more of what they did best: cross-national central bank networking, while in the process distancing themselves from the domestic political class. For over two decades, Draghi had played an important role in the reform of the banking system in Italy. When he was director general at the Treasury in the 1990s, the Draghi law, named after its main propo- nent, reformed finance and corporate legislation in Italy. The financial system was liberalized, and new life was breathed into an anemic stock market.18 At the same time, the banking system was privatized, mod- ernized, and consolidated.19 For example, under pressure from other EU member states, the European Commission, financial markets, and increasing domestic criticism, the opening of the banking system to foreign ownership accelerated with Draghi’s appointment as governor of the Bank of Italy. The Italian banking system was converging with other EU countries, as foreign banks acquired major Italian banks. Last but not least, the internationalization of securities trading was pro- moted by the merger of the Borsa Italiana (Italian Stock Exchange) and the London Stock Exchange in October 2007. At the same time, Italian banks began expanding abroad, mainly through subsidiaries. Compared to other EU member states, including Germany and the Netherlands, Italy was not hit as hard by this first stage of the financial crisis. No Italian bank (or foreign bank operating in Italy) failed or had to be rescued through direct public intervention. This relative resilience is to be explained by two factors.20 First, the Bank of Italy had continued to nurture traditional banking principles within the Italian financial system. Italian banks therefore had low direct and indirect exposure to US sub-prime mortgages. Moreover, bank operations in the structured finance market were relatively limited, compared to other European banks. Italian banks had a broad and stable funding base, low lever- age ratio, high-quality traditional asset portfolios, limited toxic assets, and low dependence on wholesale inter-bank funding.21 This favorable situation changed in late 2011 when it became clear that Italian banks had very high exposure to domestic public debt with adverse effects on The Italian Candidate 165 their credit adequacy. The banks thus became interconnected with the mounting Italian sovereign debt crisis. The second factor in the resilience of the Italian banking system was the strong regulatory and supervisory framework,22 coupled with the capacity for intervention, and the pre-existing level of depositors’ pro- tection, which was one of the highest worldwide. The response of the supervisory authorities was “prudent” and “systematic.”23 The Bank of Italy intensified prudential oversight of risk management, liquid- ity oversight, and disclosure enforcement. However, the credit crunch began to feed into the real economy as Italian banks started to cut lending to small- and medium-sized enterprises (SMEs), which provide the backbone of the southern European model of capitalism and rely on bank financing rather than equity or bond markets.24 Moreover, the Italian economy was negatively affected by the slowdown of global demand and trade and by recession within the euro area. Italy’s membership in the euro area helped Italy to stabilize the banking sector because it effectively eliminated the risk of a national currency crisis and of the Italian government being unable to pay short-term foreign debts due to lack of access to “hard currency.” However, the risk of a solvency crisis, centered more on the Italian state and the high levels of Italian public debt, remained. This became clear once the currency crisis metamorphosed into a sovereign debt crisis and the risk of contagion spreading from Greece, Ireland, and Portugal to Italy grew. Gross public debt was around 106 percent of GDP in 2008 and climbed to 119 percent in 2010. Over the same period, the budget deficit rose from 2.7 to 4.6 percent of GDP.25 The Bank of Italy was able to insulate itself against blame for the high public debt. Unlike some other central banks, it had not presided over an excessive expansion of private sector debt and the subsequent transfer of liabilities to the state. Italy lacked the asset price bubbles of Ireland and Spain. The Italian private sector remained significantly underleveraged, compared to the euro area average, while household net financial assets were higher than in Germany. This contrast between very high public debt and very low household and corporate debt reflected well on the Bank and badly on the political class. In 2009, Italy’s total debt was 224 percent of GDP, compared to a euro area average of 249 percent. By contrast, the figures were 268 percent for Spain, 273 percent for Ireland, and 314 percent for Portugal. About one-sixth of Italian public debt had to be refinanced every year, and around half of Italian government debt was held abroad.26 Moreover, the sovereign debt problem had been mitigated by the strong prefer- ence of Italians for investing in Italian public debt. Paradoxically, Ital- ians distrusted their state—because of its political class—but trusted its 166 Kenneth Dyson and Lucia Quaglia

debt. However, this advantage eroded fast as monetary union encouraged more diversification by Italian banks and households and the Ital- ian state became more reliant on externally held public debt. The responsibility for Italy failing to seize the opportunity to con- solidate its fiscal situation after euro entry rested with the domestic political class. Italy enjoyed fiscal gains from lower interest rates on its public debts. Between 2001 and early 2008, the Italian government bond spread against the German Bund usually ranged in the low 20–40 basis points area, or even lower. On the positive side, Italy posted a primary budget surplus (i.e., excluding debt interest payments) from 1995 to 2008, despite a low average annual real GDP growth rate (0.54 percent between 2000 and 2010, compared with 1.37 percent for the euro area).27 However, the size of the primary budget surplus was insufficient to put Italian public finances on a sound footing. Declining fiscal creditworthiness was signaled by the spreads between the 10-year treasury yields of Italy and those of Germany. They rose from 35 basis points in 2007 to 140–150 basis points in late 2009, the highest since 1999.28 This was confirmed by credit downgradings of the major credit rating agencies in 2011, a further sharp rise in sovereign bond spreads, and new doubts about whether the higher borrow- ing costs were sustainable. These developments formed the context of the Draghi-Trichet letter to the Italian government on 5 August 2011,29 reflecting a further distancing of the Bank of Italy from the failings of the domestic political class. Calling for drastic fiscal measures and structural reforms, the content of the letter stirred up a heated political debate in Italy. It was instrumental in encouraging the Italian government to undertake more substantial fiscal measures than initially envisaged.30 As the crisis unfolded and evolved, Italian policy-makers were pre- occupied with their relative positions on two axes: France and Ger- many, on the one hand, and the southern European states, on the other. With respect to France and Germany, there was no consensus among Italian policy-makers about how to position themselves. The Bank of Italy sought to ally itself as closely as possible to Germany with its focus on stability-oriented policies and to differentiate itself from the Banque de France with its superior research and networking capabilities. In terms of human and social capital, the Bank of Italy was better positioned than the Banque de France to occupy a seat at the high table of the Eurosystem. This comparative advantage favored Draghi. However, the Italian Foreign Ministry, the prime minister’s office, and to an extent the Treasury were more attracted to coalition- building with their French counterparts on issues such as Eurobonds and the assumption of collective responsibility for public debts. This strategy encountered the problem that the French Foreign and Finance The Italian Candidate 167

Ministries and the French president’s office were more focused on package deals with the German federal government. Consequently, the strategic positioning of the Bank of Italy, discussed above, was more effective than that of its domestic counterparts. The Bank of Italy’s positioning represented a closer fit with the underlying power realities of Europe than that of Italy’s political class. However, there was greater consensus about strategic positioning in relation to other southern European states. The central objective was to maintain a clear differentiation, not just from Greece and Por- tugal, but also from Spain. Contagion from these states was seen as the number one risk to Italian national interest. This danger produced a striking consensus in the summer of 2011 about the emergency measures required to tackle Italy’s fiscal problems in the face of widening bond spreads and the costs of financing a huge public debt. It was an issue that brought the option of a technocratic government back into play. Mounting external pressure in favor of this recourse rested on the argument that a technocratic government could better secure a more effective firebreak for Italy by enacting tougher fiscal consolidation and more comprehensive economic reforms than those proposed by the Berlusconi government in July and September.

Conclusion

Draghi’s appointment as president of the ECB was the outcome of the convergence of a set of internal and external factors. It was facilitated by the favorable structural factor of the intangible assets of the Italian central bank and its success in cross-national central bank networking. The Bank of Italy combined high levels of human and social capital. It mastered economic and financial knowledge and built on its extensive research capacity and reputation. It also enjoyed respect and trust within international and European central banking circles, particularly after Draghi’s appointment as governor and the rehabilitation of the Bank’s reputation during his governorship. Not least, the Bank of Ita- ly’s human and social capital was at its strongest in the areas that were undergoing the fastest development within the ECB: financial stability, macro-prudential supervision, and banking supervision in particular. Because of the high level of human and social capital of the Bank of Italy, represented in the person of its governor, Draghi, Italy qualified for a seat at the high table of the ECB. This achievement was possible despite the weak political capital of Italy. Its political class—rooted in a pervasive factionalism, clientelism, and patronage that hindered the production of collective goods such as credible fiscal policies and 168 Kenneth Dyson and Lucia Quaglia

a competitive economy—continued to have limited and diminishing credibility. The Italian state contained a paradox. On the one hand, the Bank of Italy stood at the apex of Italian technocratic prowess, based on its human and social capital. It was able to help shield the national financial system from the worst effects of the financial crisis and to function as an independent domestic critic of deficient fiscal and economic policies. The Bank also demonstrated its capacity to play a leading role in collective action at the European level. On the other hand, Italy’s political class was weak in human and social capital and thus incapable of mounting effective, timely, and comprehensive collective action to tackle the sovereign debt and competitiveness crises that mounted in 2011. The humiliating resignation of Berlusconi and his replacement by a technocratic government under former EU Commissioner Monti coincided with Draghi’s succession to the ECB presidency. However, this ascendancy of the technocratic face of the Italian state remained contingent and vulnerable to the domestic idio- syncrasies of Italian politics. Draghi’s appointment to the ECB presidency depended on more than just the structural bedrock of the Bank of Italy’s human and social capital in central banking. Another key structural factor was the relatively crisis-free economic performance of Italy during the international financial and economic crisis, at least up to the time of his appointment.31 The Bank did not have to struggle with banking crises on the scale of the Belgian, Dutch, French, and German governments. Nor was it contaminated by association with a domestic asset price boom and bust. Neither the Bank of Italy’s human and social capital nor Italy’s relative immunity from a banking crisis was enough on its own to secure Draghi’s appointment as ECB president. Structural power within the euro area gave Germany the pivotal role in either proposing or veto- ing nominations for the ECB presidency.32 Despite Draghi’s strengths, a nomination from a southern European state was difficult to sell to an increasingly anxious German public, which sought reassurance that the ECB’s monetary policy would not succumb to inflation as a solution to the sovereign debt crisis. Overcoming this structural block- age depended on several factors: the marginalization of Weber in the ECB Governing Council and his resignation; the support of Sarkozy; the issue linkage with French concessions in a package of European economic governance reforms; and Draghi’s skillful appeasement of German concerns by his close identification with ascendant German ordo-liberal views on the role of the ECB—notably, the need for a clear separation of monetary and fiscal policies and for monetary policy to stay tightly focused on fighting inflation. The Italian Candidate 169

Draghi’s early, cautious pronouncements on sovereign debt purchases by the ECB suggested an acute perception of German structural power and the importance of keeping the Bundesbank on board. He aligned himself with Chancellor Merkel’s view that the resolution of the crisis was long-term and rested on governments restoring market confidence through bold fiscal and structural reforms and on the ECB retaining its hard-won credibility. At the same time, Draghi recognized that the ECB was exposed to (a) mounting UK and US critiques of its reluctance to assume a lender of last resort role and to create a firewall around fiscal and economic reforms and (b) the risk of major financial shocks to the euro area from compound banking and sovereign debt crises. This risk of seismic shocks raised the prospect that Draghi could be faced with a challenge that dwarfed anything faced by his two pre- decessors. In his first interview as ECB president on 18 December, he told the Financial Times that, unlike his predecessor, he was willing to contemplate the possibility of some countries leaving the euro area. However, he argued that any exit would only make matters worse as “when one starts with this you never know how it ends really.”33

Acknowledgments

Lucia Quaglia wishes to acknowledge financial support from the Euro- pean Research Council (Grant No. 204398 FINGOVEU). This chapter was co-authored while she was a Visiting Fellow at the European University Institute in Florence.

Notes

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