Home / INTERVIEWS / In Conversation with LUIGI ZINGALES: on the Future of European Banks, Competition and the Gender Pay Gap

In Conversation with LUIGI ZINGALES: on the Future of European Banks, Competition and the Gender Pay Gap

By Beatrice Faleri and Giulia Morpurgo

You have recently analysed the changes in attitude towards Europe and the European Union since the EU’s creation. What are the main factors that have contributed the the growth of eurosceptic sentiments in recent years, and led to Brexit?

At its beginning, Europe was unified in areas where it was easier and more comfortable. So the process of unification started by introducing free trade across the continent, which was meant to, and did bring huge benefits to every member. As Europe started to integrate more, however, I think that the institutional aspect has become more important for single countries. With the creation of the common currency, issues related to a unitary monetary policy emerged – and we know that this does not suit everybody at the same time, because of the diversity of the European economies. For instance, at the beginning of the millennium Spain and Ireland experienced a boom, and the German economy was not doing particularly well – what type of monetary policy should be run? Should it be tighter, should it be looser? And vice-versa today. Aspects such as the common monetary policy, which are not as beneficial to everybody, are those over which it is difficult to find a common agreement. On these issues the European Union lacks unity because it doesn’t have a common decision-making body – the European Parliament is no national parliament, so most decisions are made in meetings among ministers – which highlight how little transparency and accountability there is at the European level.


What is the future of the European Union? After Brexit, will the Commission keep advocating further integration? If so, why?

One could argue that Brexit could make further integration easier, because the British were sceptical about further integration, so their exit would make it easier for the other member states to move forward with this project – this would be the natural reaction for an institution that faces a challenge such as Brexit. What I find discomforting on some level is that you don’t see this reaction very much among the public: this shows how much the ideal behind the European Union is fading.  In my view, the reason why Brexit happened is that there wasn’t a positive argument to make for the European Union. All the cases made by the Remain campaign were based on fear – nobody was able to articulate a convincing, hopeful message for Europe.


Many populist movements, for example the Movimento Cinque Stelle in Italy, argue that countries would be better off if they rejected the Euro and returned to independent currencies. Do you think this is the case? Do you think it is even feasible to go back to single currencies?

Everything is feasible, but it depends on how costly it is to break up the Euro, and whether in this moment it would be ideal for a country like Italy to abandon it. I think that if there are no changes in the management of the Euro and the policies of the Eurozone, Italy will be better off outside. However, this does not necessarily mean I am advocating exiting the Eurozone, because unilateral exit could be devastating for the Italian financial system. Italy is in a sort of catch-22: if Italy were to exit the Eurozone the Euro founders will try to burn the bridges behind them. It’s extremely difficult to leave the Euro, and this is where the Movimento Cinque Stelle is partially right, partially wrong: they might perceive the benefits of abandoning the single currency but I don’t think they have a coherent plan. Without a plan, Italy risks to end up like Argentina (after it unpegged the pesos from the dollar) – dealing with devastating economic and political consequences economically that are felt to this day. I think the least disruptive way to leave the Euro would be for Germany and the stronger European powers to exit the Euro from the top, but that of course would require an agreement at the European level that is exactly what we don’t have! So I think the fundamental problem is that the only viable condition is to go forward.


One of Europe’s current issues involve the fragile Italian banking sector. What has brought it to the brink it is now? Is there a solution to such crisis that is also politically viable? Has the institution of the private fund Atlante helped rescuing struggling banks and can a similar strategy by applied in the future? Or is the State responsible for recapitalising the banks?  

First of all, what causes the fragility of the Italian banking sector? Of course a big part is played by the recession: the economy in Italy has not been growing for the last five years, and has been in a recession for the last seven. For this reason one would expect to have a lot of non-performing loans. However, this is also the result of bad governance of banks, which at best don’t know how to grant credit and that at worst grant credit to family and friends of bankers. Both interpretations are true, and assessing which one is more important is crucial in deciding how to go about changing the situation. If one thinks this is just a temporary problem due to extreme recession, then ad-hoc solutions make some sense – because one only needs to deal with a short-term crisis. I am most sceptical about this, however, and I think the problem is very broad and cannot completely be solved by ad-hoc solution without incurring serious mistakes.

In this context an interesting question is: what is the value of non-performing loans? First of all, Italians distinguish between two kinds of non-performing loans. One is really bad loans, or ‘sofferenze’ and the other is called ‘Unlikely-to- pay’. The former are on the balance sheet of banks, roughly at 40-45% of the nominal value, and the others are at 70% of  the nominal value. I did an analysis in the 90s on the failure of a major bank in the South of Italy, Banco di Napoli. To save it, a bad bank was created, which ran for 20 years recovering non-performing loans. I did a discounted cash-flow analysis of what is the value of those non-performing loans knowing the BdN’s history, and my calculation found that the value of non-performing loans was 20% of nominal value for the ‘sofferenze’ and 32% of the value for the ‘unlikely-to-pay’. This opened a $100bln hole in the Italian banking sector.

Problems like this cannot be addressed ad-hoc with Atlante because in the attempt to do that, investors are grounding down the entire financial system and are creating major redistribution – for example some of the money invested in Atlante comes from companies that people bought life insurance from. I have never been a big fan of the American TARP (Troubled Asset Relief Program), but at this point I think that copying the American solution is the best thing that Italy could do. This is also because there is a big difference between the American and the Italian banking system: in the US doing the so-called bail-in was relatively easy because all the major banks had a lot of bonds that were held by institutions. In Italy a lot of the bonds and even the subordinated debt are held by families, by little investors. So the amount of pain that would be inflicted to the economy – forget the unfaireness – would be immense. I think that we need a more radical solution, and in my view this is to do a TARP either with Italian money or money coming from the European Union, and the sooner this is done, the better.


Do you think the European Union will allow this?

I don’t know to what extent the EU will maintain its hard line – I think that certainly it wants to uphold the rules, but Angela Merkel said it very clearly at the last meeting: the existing rules allow some flexibility. So, it’s not about breaking the rules as much as it is assessing how severe this crisis is. Clearly, however, if the Italian government on the one hand wants to save the banks, but on the other hand claims that everything is fine, then the ECB cannot intervene – because the European rules say that intervention is allowed only in the case of a systemic crisis. Italy must admit that it is undergoing a crisis, accept the subsequent political costs, and ask for the help of the European Stabilisation Mechanism, basically like Spain did,  but I think the problem is that the Italian government does not want to pay the political cost, it wants to have the cake and eat it too! And of course if it wants both, Europe will refuse to help.


What has the recent stress test on European banks revealed about the health of the European economy? The latest test was failed by Deutsche Bank and Santander – does this reveal anything meaningful, or is it just an arbitrary measure of bank’s fragility?

My impression is that the Deutsche bank is self-destroying. Deutsche bank is in fact mostly an investment bank – not a commercial bank – and so its ups and downs are more linked to the activities of the capital market rather than the health of the underlying economy. The German economy is doing very well, and the problem of the Deutsche Bank are its own creation – we have seen that there major governance issues, scandals, violations of the rules, major losses that had been covered up during the financial crisis…

As for Santander, up to now the Spanish economy was doing terribly and Santander was still standing – In part because Santander was diversified and had a lot of investment in  Brazil, and until a couple of years ago Brazil was doing fine. I think that part of the problems with Santander now are basically due to Brazil – in that the Brazilian economy right now is not doing well at all. My impression is that the most serious issues for Spain are due to a very severe real estate crisis. In this context I think that the Italian problems are very different, as that Italy didn’t have a very big real estate bubble and most of these loans are not tied to real estate but to companies – Italy is a very bank-centric country, where small entrepreneurs rely heavily on banks, and as a result the banking crisis has a devastating effect on the economy. So it’s difficult for the economy to grow because it’s very hard for banks to lend when they find themselves under officials’ eyes and when they face gigantic losses from non-performing loans. That’s exactly where the government should intervene because otherwise it will be very hard to recover.


Remaining on the subject of why Italy is not growing. You also wrote extensively about the cultural and institutional factors that affect economic performance. What role do these play in explaining Italy’s 20 years of stagnation? Are some underlying characteristics of Italian entrepreneurship/business culture and governance culture to blame for sluggish growth? Do corruption and organised crime have a cultural origin and to what extent does it impact the italian economy? How relevant are the difference between North and South of Italy in this context?

The fundamental problem we need to explain is why Italy did not grow for the past 20 years but did grow impressively in the previous 40. All the cultural factors that you described are absolutely true, but they were present even before. I grew up in Italy in the 70s and 80s and I can assure you that the situation was at least as bad in previous decades. But in the 70s and 80s Italy grew and now it’s stagnant. So I tried to address this in a paper that has not been translated into English yet – but my answer is: it’s an interaction between the ICT revolution and Italy’s cultural institutions. The way the developed world grew in the last 20 years is through massive adoption of ICT, and Italy seems to really have fallen behind this adoption, and also fall behind the capacity of taking advantage of it So in part the investments in ICT are less, in part they’re less productive in Italy than in other countries. And why is that? I think it’s a combination of institutions and culture, and comes down to the difficulty for Italian businesses to implement standardization and transparency. The analogy I always make is Italy has always been THE place of coffee, and coffee shops in Italy are probably the best in the world, but the biggest coffee chain in the world is not Italian. And only recently Italian coffee chains Lavazza and Illy Caffé tried to push this through with mixed results. So why is this the case? In Italy the coffee shops are intrinsically a family operation – you have the old mother sitting at the cashier, watching everybody as they work, and they work a lot, they’re very efficient, but you cannot scale this model up at all – because you cannot reproduce the old mother in every coffee shop. Compare it to Starbucks: Starbucks is much less efficient at the single unity level – for an Italian waiting for a coffee is very strange because in Italy one walks into a café and in 30 seconds the barista gets you an espresso – but he does it without using any of technology, without recording what he’s doing. In Starbucks everything is computerized, so basically one control of every sale in every unit, in real time and can use the economy of scale. In Italy this can’t be done, and I think this metaphor helps understanding why a lot of Italian businesses are fantastic at the niche level, but can’t really exploit the economy of scale.


Changing topic: you have done a lot of research on competition, and your latest papers suggest that 10% of the gender pay gap is explained by differences in competitive behaviour. How relevant are these findings for addressing the difference in retribution between male and female workers, if at all? Is the gender pay gap something that firms and/or governments should be concerned about?

I think that there should be some soul-searching on whether some of the mechanisms for promoting people inside firms are really the best mechanisms, or are the best mechanisms for males – and maybe they’re not even particularly successful overall but they’re what male-dominated companies choose. What my research is unable to tell – and I am not sure this can be measured at all – is whether all the competition that we create inside firms is really to the benefit of the overall organization, or is it simply that some testosterone-fueled guys like to compete with each other and so they create firms that allow this. I am open to the fact that men may have a certain advantage in certain moment of their career over women – but I don’t know the truth because we live in a society that is mostly dominated by men and whose rules are established by men. One anecdote that suggests why this is important, is that in economics academia, we tend to be very aggressive in seminars, very competitive and very male-dominated. And I don’t see a strong reason why women, who are present in all other fields, in science, in medicine,  are so not present in economics. I suspect that one of the reason is the prevailing culture that exists in the discipline. Now whether this is the only way of studying economics and have success in the field, I don’t think so – but I don’t think that government intervention would particularly useful, we should do some soul-searching and asking ourselves: What talents are we missing? For example the university of Chicago was started later than all the other major universities, and when it was just established the university was trying to catch up – this was 1892 – and so it actively recruited Jewish professors, because Jewish professors were somewhat discriminated against in the major universities in the East – and it succeeded. So I think male-dominated competition within firms will teach new entrants to adopt new strategies to fix this problem.


How has the understanding of competition changed in the past decades? Do we tolerate a lesser degree of competition from the financial sector and why? The gut reaction to the financial crisis was to impose stricter regulations on banks – have these been helpful in promoting healthy competition?

The increased concentration trend is not just in the financial sector – I think it’s throughout the US economy. Why are we tolerating it? It’s an interesting question to which I don’t think we have an established answer yet. My conjecture at this point is that the swinging of the pendulum in the 50s and 60s and 70s meant that antitrust enforcement in the United States was very strong. And then in the 80s there was a backlash, which started actually from academia and in many ways started in Chicago – a backlash that swept the entire academic market, the entire liberal professions, and eventually also the rest of the nation. Antitrust laws disappeared from political platforms and become an obsolete topic, because it became important to have big firms to face of globalization and compete in the global market. And this has trickled down to increases concentration in any sector, and of course the banking sector went from an extreme fragmentation to concentration very rapidly, so one can observe this path in a more severe way, but it’s present everywhere. I don’t think that competition was particularly relevant in this election, I don’t think it was a goal of the legislation, or that anyone had it in mind in trying to design the recent financial regulations. The only aspect where such regulations create more a level playing field is through the higher capital requirements. But in any ways I don’t see any concerted effort in trying to create more competition in the banking sector.


How does lobbyism fit within this picture? You said in an interview with the economist that lobbying should be taxed progressively – what is the rationale behind this? How would you implement it?

Lobbying exists everywhere in the world. In the United States it is more transparent – but it’s not necessarily stronger. I think the economic literature has been somewhat late to the game in studying lobbying and in particular in studying which institutions are more or less resilient to lobbying. I think that this is very interesting topic, and others are working on new literature that explores how to fix the problem. Clearly the phenomenon deepens as institutions become more entrenched – for instance lobbies become more effective and it becomes easier to undo the body of regulation that is in place. So in my view the reason why Europe is more active on antitrust enforcement today is that there has been a lot of transfer of power from local authorities to European authorities, so firms are still learning how to lobby at the European level. In the United States, the most obvious starting point to deal with this issues will be to change campaign financing – not only at the presidential level, but also at the Senate and House level. There has been an episode recently – someone in the House of Representatives for New York, who’s running for election in the 19th district –  she was campaigning against another candidate who had received large donations from a hedge fund manager. So she challenged to a debate not her opponent, but the financer, because she claimed he would be the one who influences his decision in the House. Representatives do not really represent the people of their district, but represent their financers – and this is in my opinion a pretty severe problem.

And the rise of Donald Trump and Bernie Sanders is also a symptom of this situation because the former claimed to be self-funded and the latter not to receive any large donation – both presenting themselves as independent from powerful lobbies and their interests – contrary to Hillary.

I think that actually Trump and Sanders represent similar responses to a common problem. The issue is that Bernie Sanders was able to raise a lot of money from individual investors, Trump mostly claimed to avoid raising that money – although now he’s being heavily funded by large groups, so he has already walked back on that promise – and surprise surprise actually losing money! I think anyway there is a lot to be said for a different funding strategy at the presidential level. The problem is however whether it is easy to do a presidential campaign based on small donors because there is so much hype in the media about the campaign that your message can get through. The problem is more severe in the Senate and the House of Representatives, because no one even watches on TVs their elections – so for them is easier for larger organization to ‘buy’ candidates for half a million dollars – and if you can do that, you can go a long way.

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