Markets continue to mount pressure on Italy, demanding a prudent budget; Rome’s political response is not coherent.
Markets mount pressure
On Friday Fitch ratings changed the outlook for Italian debt from “stable” to “negative”; the agency held its overall ‘BBB’ credit rating steady. Moody’s was expected to publish its own report on the Italian economy on September 7 but decided to postpone that until the end of October. Standard and Poors’ (S&P) will publish their own report on October 26.
Until the budget is formally submitted, Rome will face mounting pressure to respect the EU’s 3% deficit ceiling. Markets estimate that Italy is too big to fail, but Rome’s investment-grade sovereign debt profile can be undermined.
On September 27 Giuseppe Conte’s government is due to release its Economic and Financial document, that is, a precursor to the budget. A draft budget will be submitted to the European Commission on October 15, which may be rejected if it does not abide by the EU fiscal compact.
Rome sends mixed messages
In a statement to the Italian public news agency ANSA on Saturday, the Italian Minister of the Economy Giovanni Tria vowed that Italy will abide by the EU 3% ceiling. “We have commitments to Europe that must be respected,” Tria said.
However, as noted by Fitch Ratings, the new government’s fiscal credentials remain untested.
Tria’s reassurances contradict political commitments from the two deputy Prime Ministers Luigi di Maio and Matteo Salvini, who are pushing forward with campaign promises for a guaranteed minimum income threshold for all Italians and a flat tax for corporations. The commitment on tax cuts was reiterated on Saturday by Salvini, who Twitted that tax cuts would fuel economic growth.
In fact, Cabinet Secretary Giancarlo Giorgetti confirmed on Friday that the government “may breach” the EU’s 3% budget deficit-to-GDP ratio if it is “necessary to put the country into safety.” “Safety in this context means growth above 2-3%, Giorgetti clarified.
If implemented to the letter, the government’s program is estimated that the Italian government’s program could cost additional spending to the tune of 5% of the GDP, undermining Italy’s debt profile. Italy is the second most indebted sovereign after Greece in the Eurozone with a 131% debt-to-GDP ratio.
Pressure is mounting as economic indicators suggest that the Italian recovery is lagging behind the rest of the Eurozone, leaving a thinner fiscal space for manoeuvre.
As Italy is the third biggest economy in the Eurozone, the crisis has systemic implications. The Vice President of the European Central Bank, Luis de Guindos, offered reassurances on Friday.
Speaking at the University of Ovideo, Spain, de Guindos expressed confidence in the Eurozone’s economic recovery but said it was “essential” for Rome to abide by the EU deficit terms. He also called for the acceleration of capital markets union so that Europe can improve “the private sector’s capacity to absorb local shocks, reducing the burden on fiscal policies.”
De Guindos was apparently referring to increased concerns about the exposure of Spanish, French and Italian banks to Turkish debt.