ITALY

Italy is targeting the biggest fiscal stimulus among Eurozone peers in 2021-22. Italy avoided a technical recession by growing +0.1% in Q1 after contracting by -0.4% in Q4. Inventories and gross fixed capital formation were the main drivers (+0.7pp contribution). Net exports together with private consumption contributed negatively (-0.6pp), affected by sanitary restrictions and inventory imports. From now on, we see the economic outlook brighten. Prime minister Draghi’s “calculated risk” of accelerating the reopening at an early stage of the vaccination campaign seems to be paying off so far. The summer seems to be saved for the tourism sector (13% of GDP). This should reduce the strong asymmetry between manufacturing and services. Industrial production has already recovered to pre-crisis levels, thanks to intermediary and investment goods, confirming Italy good position in global value chains. Consumption will rebound as the economy reopens. The recent strength of investment could be a signal of borrowing switching from crisis mode (focused on working capital and debt restructuring) towards new investment. We expect real GDP to grow by +4.4% in 2021 and +4.6% in 2022. 

The strong fiscal stimulus remains the underlying force of the recovery. Italy has played the fiscal card more than other Eurozone countries. The government so far mobilized EUR170bn (10% of GDP) during the Covid-19 crisis. This year alone, the deficit has been revised twice from -7.5% to -11.8% of GDP. It is still expected at- 5.8% of GDP in 2022 in addition to disbursements of the NGEU (around 1.2% of GDP in 2022). The flip side is the public debt level rising to 159% of GDP, and likely to remain above 140% for the next 15 years. But this need not be a problem if the national recovery plan (EUR 248bn, of which EUR192bn by NGEU) succeeds in increasing potential growth (target of 0.4% to 0.6% p.a.) while financing costs remain low. So far, markets have been complacent with Italy’s aggressive fiscal policy. The 10y spread over Germany has stabilized in a range of 110 to 90bp. As with ECB purchases, fiscal variables have lost much of their explanatory power for spread movements; a dangerous spread-widening is only likely if political risk (“Italexit”) arises. In this context, the general elections of H1 2023 are the next decisive event. In the meantime, the “Draghi-Put” should work its magic. - June 2021