Why Italy lost the Bra Wars

They seem to be at the heart of everything Italy does right. But as cheap overseas imports flood the market, are the country's thousands of small, family-run businesses too tiny for their own good?

We are in a leafy suburb of the northern Italian city of Modena, and here in front of us is a working model of the way this dynamic industrial city got to be the way it is.

This large brick house is where everything pertaining to the Carretti family happens. It is home to the two older generations; the younger ones live across the road. All three generations, including grandparents well into retirement age, continue to labour for the family's greater good.

Upstairs is the office of the family lingerie company SG3, which was founded by the grandparents, Albano and Fernanda, during the Second World War.

Downstairs on the ground floor is the small factory where the brassières, panties and corsets are made. At the back entrance is the showroom, exhibiting the latest lines for the Carrettis' upmarket brand, Mediterranea. The house is also the location of the Carretti family museum; no one has had the leisure to think about display cases and mannequins, but express an interest in the firm's origins, and the bustiers and oversize back-fastening panties that the founding couple began cranking out during the war are speedily produced from drawers and held up to be admired: "Che bello, bellissimo!"

Families like the Carrettis seem to be at the heart of everything Italy does right. But suddenly, as textile imports from China wallop cities like Modena, scything through old family firms and nearly killing off the city's knitwear sector, depriving thousands of local companies of their traditional customers, Italy is asking itself an uncomfortable question: is the precious Italian family also the source of Italy's woes? Italy's industrial weaknesses are nothing new, nor are they a secret: a chronic lack of big firms that can dodge and weave their way out of trouble; a long addiction to the self-indulgence of lira devaluation, which four years of eurozone cold turkey have yet to cure. Recently The Economist hung a nasty label round Italy's neck: "the new sick man of Europe".

Italians don't like that, but they cannot refute it.

There are thousands of companies like the Carrettis in Modena, tens of thousands around the country, and they have powerful virtues that have served Italy well for many decades. They stick together through thick and thin, they have tiny overheads, they are open to change, they have humane, personal relationships of loyalty with their workforce; often they work fiercely hard, far harder than those employed in larger and more impersonal firms. And they keep it up indefinitely. "People often talk about crises today," says Mattia Carretti, 24-year-old commercial director of the firm, "but it makes me think of my grandparents and the conditions they had to work in during the war. My granddad gets cross when people say things were better in the Sixties and Seventies. He swears it's not true." But as the new wave of competition decimates Italian industry, firms like the Carrettis' are being singled out as Italy's biggest problem.

In his medieval headquarters in the city centre, the president of Modena's Chamber of Commerce, Alberto Mantovani, gives me an upbeat assessment of the performance of the city's businesses, which include Ferrari and Maserati. So everything's fine, then? "No, everything's not fine," he said. "The problem is nanismo, dwarfism, the tiny scale of our enterprises. We are paying a heavy price for the fact that our companies are too small. Because a tiny company can't compete at the global level. They can only export to the traditional markets, which means western Europe. I believe that to survive we must make a jump in quality and extend our reach much further - but our companies are too small to do that. They simply go round and round on the same spot, like a dog chasing its tail.

"And exports are just one of the problems. If someone comes up with an invention but doesn't have the means to develop it, it just remains an idea. You need a large company to take full advantage of it."

Modena is two different cities. As a ride around the ring road makes clear, this is one of northern Italy's major industrial hubs. But at its centre is a refined and labyrinthine medieval city, which contains, besides the ducal palace and a romanesque cathedral, a famous art collection built up by the Este family that ruled Modena for 250 years.

Town and family, family and town: individuals growing up in energetic, supportive families are the building blocks of a place like this. Its most famous modern scion is Enzo Ferrari, founder of the racing marque. The factory is just south of the city, and the house where he was born, plain, two-storey and stuccoed, is being turned into a museum.

The Ferraris no longer own Ferrari: it's been subsumed in the biggest Italian family company of them all, Fiat. The boss of Fiat today, Luca Cordero di Montezemola, made his reputation as the head of Ferrari before taking over at the parent company, and still has his office at the Ferrari plant. He is regarded as an adoptive member of the founding Agnelli family. Two grandsons of the deceased patriarch Gianni Agnelli are poised to take over when Montezemola goes.

Fiat has long been Italy's most famous firm but, despite Montezemola and a new line of cars, it has become far more a symbol of Italy's problems than of its potential. When Lapo Elkann, one of the two heirs to the Fiat throne, was taken to hospital in October in a cocaine-induced coma after late-night partying with a trans-sexual, it only intensified doubts about whether the fate of the world's seventh-largest economy could continue to be entrusted with Italian families. This, after all, was the young man in charge of Fiat's image.

Fiat, of course, is unique among Italian family firms, both in its importance and its wealth. The Carrettis of Modena are far more typical: in the province of Modena more than 3,000 family firms work in knitwear, lingerie and other textile specialities, employing 17,000 people.

But they are dropping like flies: last year 200 went out of business. The problem, as the Carrettis explain, is there are some challenges that family firms can rise to, but others they simply cannot. And the hardest thing is changing their family nature.

"I like to think that this company is made out of people before anything else," says Mattia Carretti. "Mass production as I see it does not consist of people but of cogs in a huge machine, lots of numbers. But it shouldn't be like that. The sort of thing family firms like ours do is valuable and should be supported."

But as his grandfather Albano, now 80 but still working hard, explains, in previous decades the firm's small scale was no bar to the mass market. "In the past we had an automated factory with many workers making products for other companies. That's how we started, not under a brand name of our own.

"We invented a machine for making the cup of a brassiere by machine, not by hand. We held the patent, we were the only firm supplying these items, the market was enormous and for 16 years until 1978 this was the only thing we made." Even when that heyday was over, the demand of the mass market stayed strong, and, like dozens of similar firms around Modena, SG3 worked exclusively as a supplier to bigger firms or department stores.

But steadily the tiny Italian factories lost ground to giant companies overseas. "Some local firms tried to beat the odds by setting up factories abroad, in eastern Europe or north Africa, and just keeping their commercial office here," says Albano. "The really big companies in the region have fired all their workers and are importing everything from China, India, some African countries. They do all their production abroad, and just retain the commercial office here."

But that is no panacea, says Mattia. "They have had a lot of problems running the factories and maintaining quality. Just to keep that together you need a big corporate structure." One of the biggest local names was bought out by a British company - and though it advertises its lingerie as "sourced in Italy", from the Italian perspective it is no longer one of them.

The Carrettis were in difficulties like all the rest as their traditional market vanished. "We supplied a major department store called Standa," says Mattia. "But the purchasing director changed and their orders dropped away. Today, all the big stores are only taking their bulk items from abroad." As the Carrettis saw their orders plummet, the threat of closure loomed. The workforce shrank from 18 to nine.

The firm might well have gone the way of the hundreds that had already folded. Instead they tried something new: they reinvented themselves in 2000 with a top-end lingerie brand called Mediterranea. "One of my daughters did a course at a college in Milan that specialises in lingerie," says Albano, "and another course at La Perla in Bologna, one of the biggest lingerie companies in Italy. And by combining this with the experience of my wife, who has been designing for more than 30 years, we set up Mediterranea. We sent our new products to the market and they were liked. We even began working with the fashion designer Valentino. The thing is, with a little company like ours, it's easy to change, it's not that there is a big bureaucratic operation to go through. What's important is always to offer new things, new ideas."

The massacre of Italy's family businesses has been slow and stealthy. Because they are so tiny, they expire in silence, unnoticed outside their trade: the 200 family textile firms that died last year in Modena was barely news, even in Modena. Many that survive today only do so on the wits and good fortune of the luckier or smarter firms that have survived: when orders for the Meditterranea line outstrip the modest production capacity, their erstwhile competitors around the town, desperate to survive, are glad to handle the excess.

Today it is the received wisdom that the "dwarfism" of Italian companies is a major problem: even the companies agree. "Business would be much better if we could get together in larger companies," says Mattia. "But this is really hard. The big problem is the jealous way each company regards the others."

Fernanda, his grandmother, 76, sounds optimistic. "The generations are completely different. The young ones have a completely different mentality. 'Unione fa la forza', they say, 'coming together gives us strength'."

"But the trouble is everyone wants to keep their own space, their own ideas," says Mattia. "Sometimes I feel like I'm suffocating." Going upmarket has given the Carrettis a break - but with the Chinese already moving into top-end fashion, it's only a breathing space. Unless the family firm can outgrow its cosy yet suffocating confines, soon there will be no hiding place.