Italy: Risk Assessment
Country Risk Rating
Business Climate Rating
- Reform efforts (labour market, banking sector, insolvency, etc.)
- Manufacturing industry still important
- Renewed competitiveness and stronger export sector
- Improvement in the financial position of companies
- High-quality infrastructure
- Major tourism potential
- Public debt still high; very negative net external position
- Labour market duality; high unemployment rate
- Large proportion of small, unproductive companies
- Fragmented political landscape; national unity weakened by regions’ push for autonomy
- Regional disparities
- Low administrative efficiency
Sluggish growth in the face of political uncertainties
After recovering strongly in 2017, the Italian economy was unable to avoid the slowdown that hit the eurozone in 2018. In addition to external factors, political uncertainties increased following the March 2018 parliamentary elections. The subsequent market tensions eroded business and household confidence, adversely affecting activity over the final two quarters. Growth is expected to slow further in 2019. Household consumption, which remained flat in 2018despite an improvement in labor market conditions, is set to grow marginally. Deteriorating economic prospects will weigh on job creation, and weak wage growth will continue to dampen disposable income as inflation rises. Investment, the main driver of the recovery, is expected to moderate due to weaker confidence and a worsening of corporate financing conditions. Sovereign interest rate increases are expected to continue to affect the balance sheets of Italian banks that hold public debt, eating into their profits and limiting their lending to business. In addition, although they have become more capitalized and resilient since 2015, banks remain exposed to non-performing loans (9.7% of the total in June 2018) and will continue to be among the European banks that are most impacted by the adoption of the EU IFRS 9 accounting standard. The expansionary fiscal policy planned by the government should support domestic demand, but the effectiveness of these measures will continue to depend on a return to confidence. Unlike in 2018, external trade should make a positive contribution to activity.
Agreement with the European Commission on fiscal policy
Following two months of negotiations between the European Commission and the Italian government, an agreement on the 2019 budget was reached, allowing Italy to avoid an excessive deficit procedure (EDP). The announcement of a deficit target of 2.4% in October, even before the finance law was presented to the Commission, triggered strong market reactions, pushing up sovereign rates in the eurozone’s second most indebted country. With a deficit target of 2.04% for 2019 and a revised growth forecast of 1%, the coalition government's budget continues to fall outside the stability programme but with Brussels approval. By incorporating the broad outlines of the programmes of the two parties in the majority, it should make it possible to finance the government's flagship measures, such as repealing the planned VAT increase, lowering the retirement age, introducing a guaranteed minimum income targeting low-income households and boosting public investment. However, the allocations for certain measures have been reduced. They will have to be financed through privatizations, a tax amnesty and the expected increase in budgetary revenues. Although it remains below 3%, the deficit target set in the budget law is not only higher than the 0.8% target set in the stability programme but should also lead to an increase in debt in a context of higher debt costs, especially since the public balance will probably be higher than that announced.
A two-headed government, but for how long?
The Italian legislative elections resulted in a Parliament without a majority where the traditional parties on the left (PD) and the right (Forza Italia) were ousted in favor of movements on the more extreme ends of the spectrum. The Five-Star Movement emerged as the big winner in the parliamentary elections, with the largest number of deputies, while the right-wing coalition comprising Mattéo Salvini’s League and Forza d'Italia led by Silvio Berlusconi came in second place. After several months of negotiations, a coalition between the League and the Five-Star Movement was proposed. Based on an unprecedented agreement centered on the key proposals of the two political parties, a unity government was presented to the President of the Republic, Sergio Mattarella, in May 2018.
The government comprises members from the majority as well as ministers without a political affiliation, including the minister of finance and Prime Minister. The two coalition party leaders, Matteo Salvini and Luigi di Maio, who have each given themselves a ministry, are both deputy prime ministers. This alliance of two parties from opposite ends of the political spectrum, with no political experience and whose programme and manifesto are, in part, unashamedly eurosceptic, has fuelled tensions on the markets by raising fears of an Italian systemic crisis. Despite the crises that have marked the early months of this government, including the face-off with the Commission on the 2019 budget, the coalition looks to be solid, although snap elections cannot be ruled out. If new elections are held, the League, which is riding on the growing popularity of its leader as Minister of the Interior, is likely to emerge stronger, at the expense of the Five-Star Movement, which would suggest a possible right-wing majority.