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The Globe and Mail

As Europe’s middle class goes, so goes the euro

Hunting the rich is a devilishly difficult exercise in the austerity-trapped bits of Europe. The rich have endlessly clever ways to shelter income, such as floating away on yachts to Montenegro and Gibraltar. The poor pay little or no tax because they use all their income to survive. That leaves the middle class.

In a follow-the-money strategy, governments in Italy, Spain, Greece, Ireland and other hapless denizens of austerity land are plundering that store of wealth like buccaneers. It will backfire; just give it time. And then we'll have a real crisis.

In North America and Europe, the disappearing middle class is the theme du jour. U.S. President Barack Obama has vowed "to reignite the true engine of America's economic growth – a rising, thriving middle class." The effort is going nowhere fast. The U.S. Census Bureau recently reported that household incomes have fallen for five straight years, taking median income to 8.3 per cent less than its prerecession peak, in 2007.

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In Canada, former Reuters and Globe and Mail journalist Chrystia Freeland has made the yawning gap between the rich and the poor her signature theme.

Ms. Freeland, who is now the Liberal candidate in Bob Rae's old Toronto riding, writes about the "devastating hollowing out of the middle class in the Western industrial democracies."

In Southern Europe, members of the middle class are on the run. Some are being taxed out of existence as governments ramp up consumption, property, fuel and income taxes to plug budget deficits. Others are throwing in the towel and fleeing to lower-tax countries, such as Britain.

In Italy, the tax grab approaches the obscene. In 1975, Italy's total tax as a percentage of gross domestic product was 25 per cent, according to the OECD. By 2007, it had climbed to 43 per cent (compared with 28 per cent in the United States, and 36 per cent in Britain) and it's probably higher now. That is why Italy is able to run a primary surplus, the budget calculation that strips out interest expenses on debt. And that's in good part why tax evasion in Italy has reached epidemic proportions, guaranteeing that honest taxpayers will have to pay more. The middle-class taxpayer is carrying the ever-rising weight of the Italian state, which is groaning under a debt-to-GDP ratio of 130 per cent. That's the measure of the accumulated sins of government over the decades.

In Italy, tax has triggered the equivalent of government civil war, with Silvio Berlusconi's centre-right loyalists demanding the abolition of a property tax and fighting the planned increase in the value-added tax. In the opposite corner is Prime Minister Enrico Letta, who is scrambling to keep the deficit from exploding for fear the European Commission will take control of Italy's finances. Mr. Letta's fragile government may not survive the tax wars.

How will the middle class be saved? Not easily.

To save money or ensure they have a roof over their heads as jobs vanish, Italians, Greeks and Spaniards are relying on the generosity of their parents and relatives. Almost a third of all Italian adults live with their parents. Among 18- to 29-year-olds, it's an astonishing 60 per cent, which makes you wonder why the parents don't take to the streets in anti-freeloader protests. Couples can't afford to have large families; one-child families are the norm in Italy, which has one of the lowest birth rates in the world. The savings rate, once one of Europe's highest, is plummeting. Italians are eating through their wealth.

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The best way to save the middle class from extinction is to give them jobs and decrease their tax burdens. An Italian revolution is needed to overhaul everything from the sclerotic judiciary to labour laws that make it hideously expensive to get rid of unwanted workers. Job creation and labour mobility is impeded by the professional guilds that stifle competition and keep prices high. Land-transfer fees are outrageous. No wonder employers are giving up and shifting business outside the country. No Fiat 500s, the Italian car maker's hottest product, are made in Italy.

The revolution will not happen because there are too many powerful vested interests and too few governments with the courage and stamina to fight them. Which takes us to the next option: Exit from the euro.

Mediterranean countries thought the euro was a great idea when the currency was launched a dozen years ago. Taxpayers and employers saw it as a way to outsource monetary policy, taking it away from feckless governments that tried to devalue their way to prosperity. If that strategy had worked, Italy, Spain and Greece would have been among the world's richest countries.

Support for the euro is still relatively high, though not as high as it used to be and anti-euro parties are on the rise. That's because the middle class is losing wealth and jobs. Some see an Argentine-style devaluation as a way to get the economy going again. And if GDP were to climb, taxes might come down. The end of the euro is not nigh. But if the middle class is eradicated in Italy, Spain and Greece, its longevity cannot be assured.

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