An employee handles a washing machine drum unit during assembly on the production line at the Electrolux AB factory in Olawa, Poland, on Tuesday, Oct. 16, 2012. Electrolux AB is the world's second largest appliance maker. Photographer: Bartek Sadowski/Bloomberg

The boxy white and grey factory of this rainy northern town makes fewer than half the washing machines it did when Italy joined the euro. It is one of the many symbols of southern Europe’s industrial decline. Today, however, the Porcia plant is also a testing ground for the region’s industrial future.

Home appliance maker Electrolux, which owns the factory, wants to cut the salaries of some 5 000 workers at the plant and three other factories across Italy by up to 15 percent over the next three years. The Swedish company says lowering labour costs is the only way its washing machines, fridges and other home appliances can compete against rival products made in eastern Europe and Asia.

The Italian government, unions and workers say any wage cut will impoverish thousands of families who rely on the plant and its suppliers.

Then, Italy was the leading world exporter of home appliances. Now it is ranked third, far behind China, which has grabbed more than one-third of the e100 billion (about R1 trillion) global market. Like many others, the Porcia plant has progressively downsized.

The battle over Electrolux wages is at the heart of one of the most pressing dilemmas facing the battered economies of Italy and other southern European countries: competing needs to both cut costs, and spark growth.

Companies across Europe’s southern rim struggle because wages and prices have risen higher than their products can justify. But euro zone countries can no longer depreciate their currencies to make their products cheaper in foreign markets. That leaves so-called “internal devaluation” – pushing down wages and prices – as the best way to stay competitive.

Spain, Greece and Portugal have pushed through deep wage cuts and made it easier to hire and fire, allowing firms to trim the price of their goods. This has helped Spain’s economy grow for the first time since 2011. Italy, where labour costs are still high, is flatlining.

But there are risks. A squeeze on pay could choke off already feeble consumer spending because workers have less money to spend. And as producers lower prices, it risks triggering what economists call a “deflationary spiral”, in which consumers no longer buy goods, in the expectation that prices will continue to fall – a belief that creates a deeper recession.

Inflation helps countries lower their debt by increasing the money at their disposal to pay it off. Deflation, on the other hand, makes reducing debt harder because money is more expensive. It also puts companies off borrowing and investing. That’s a problem in Italy, which has e2 trillion in debt – the second-highest in the euro zone after Greece, as a share of gross domestic product.

“Pushing down wages is dangerous: The most worrisome consequence would be depressing consumption where there is already a demand crisis,” Carlo Devillanova, an economics professor at Milan’s Bocconi University, said.

In many ways, the factory in Porcia mirrors Italy’s economic rise and decline. It was built in the 1950s, just as the economic miracle that lifted Italy from the rubble of World War II got started. Lino Zanussi, whose blacksmith father Antonio had started out making stoves and ovens in a workshop in Pordenone in 1916, used the plant to help transform Zanussi into a top European home appliance maker.

Along with Germany, Italy became the leading exporter of home appliances. Porcia was a vibrant artery of Italy’s industrial heartland. Locals in the Pordenone province called the area the “Manchester of Italy” for its huge output.

By the 1980s, though, Zanussi had run into financial troubles and in 1984 the family sold to Electrolux.

The Swedish firm kept a big presence in Italy until the mid-2000s when competition prompted it to move a chunk of its production to low-wage eastern Europe. Over the past 14 years, Electrolux has shed 71 percent of its workers in western Europe and 60 percent in the US. At the same time, the company’s staff in eastern Europe has risen by one-third to 8 480.

Luigi Bidoia, an economist and co-founder of research firm StudiaBo, said after the mid-2000s it made little sense to keep producing in Italy. “Other countries now offer the same skills and pay at a half, a quarter, a tenth in wages,” Bidoia said.

Cutting wages is not the only way for Italy to compete. The southern economies would all benefit if Germany boosted its internal consumption and encouraged more imports from its neighbours. The European Central Bank (ECB) could also do more to try to stimulate southern European economies, allowing inflation to rise from its 0.8 percent.

So far, though, there are no signs of either happening. ECB president Mario Draghi has welcomed “relative price adjustment” – wage cuts – in Spain, Portugal and Greece.

Such an adjustment has not happened in Italy. According to the European statistics agency Eurostat, unit labour costs rose 4.2 percent between 2000 and 2012 in Italy, against a fall of 2.8 percent in the EU.

Part of the reason is that Italy’s labour laws make it difficult for companies to adjust pay and hours to fluctuations in the economy. The cost of employing workers is also pushed up by the high labour taxes and social contributions employers must pay. According to the OECD, those make up just under half the cost of employing a worker in Italy. In other developed countries, they total 35.6 percent, on average.

At the end of last month, when he first took office, Italy’s Prime Minister Matteo Renzi promised to reduce the burden on companies, citing the Electrolux stand-off as a key issue for his new government.

The other way to compete is to produce high-value products that warrant higher prices, innovating to create products that people crave.

But as spending on research and development has shrivelled – Italy’s is among the lowest in the developing world – the country has lost out in other areas, including home appliances. In a speech last year, Bank of Italy governor Ignazio Visco singled out the sector as emblematic of the country’s industrial decline. One example: Italy made 2 million refrigerators last year and 10 million in 2001.

Ernesto Ferrario, the firm’s chief executive for Italy, last month put together a proposal with union leaders aimed at securing the plant’s future. Under the proposed deal, Electrolux would not touch wages, but would reduce the plant’s workforce by at most 400 people over three years. It would also guarantee some investment in exchange for a government commitment to cut some labour taxes. Officials from Renzi’s government met Electrolux management a week ago, but no decision was taken. – Reuters