Italy’s Stability Programme aims to take full advantage of low interest rates and Next Generation EU (NGEU) funds to boost economic growth through further fiscal stimulus in 2021, temporarily increasing the budget deficit, Fitch Ratings says.
Achieving lasting growth-enhancing effects through this strategy will depend on Italy’s institutional capacity to effectively deploy NGEU funds and the government’s ability to enact targeted economic reforms.
The government adopted the 2021 Stability Programme setting out its multi-annual budget plan on 15 April – the first detailed fiscal policy announcement since Mario Draghi became Prime Minister in February. The updated macroeconomic forecasts envisage real GDP growing 4.5% this year and 4.8% in 2022, close to Fitch’s latest forecasts (4.3% for both years).
The programme significantly increases this year’s fiscal deficit target by 4.8pp to 11.8% of GDP (versus Fitch’s projection of 9.2%), mainly through two fiscal packages, one of EUR32 billion already approved by Parliament and a EUR40 billion package to be voted on shortly.
In contrast to previous plans for an unchanged structural budget deficit in 2021, the Stability Programme implies significant further fiscal stimulus, estimated at 4.5% of GDP, up from 3% in 2020, although estimates of structural balances are highly uncertain at present.
This represents a shift to a more expansionary fiscal stance, although the bulk of 2021’s planned stimulus measures are temporary, explaining the sharp reduction in the 2022 deficit in the Stability Programme to 5.9% of GDP, below our latest forecast (8.1%). Deficit reduction then slows, with the deficit reaching 3.4% of GDP by 2024. The government does not expect primary budget surpluses between now and 2024 (Italy ran primary surpluses of 1%-2% of GDP in 2011-2019).
The government projects debt/GDP to rise to 159.8% this year (Fitch: 157.2%) from 155.8% in 2020, before gradually declining to 152.7% by 2024. Benign financing conditions under the ECB’s Pandemic Emergency Purchase Programme (PEPP) have enabled Italy to lock in low interest rates, so in the absence of primary surpluses, a sustained economic recovery will be key to stabilising and lowering public debt/GDP.
To achieve this, the government aims to lift public investment to 3.5% of GDP by 2023 from 2.3% in 2019, but it acknowledges implementation risks. The Stability Programme states that meeting the ambitious investment target requires simplifying the rules governing public infrastructure projects and giving public-sector bodies the “necessary project management skills”. Without a step change, the investment boost may be delayed or not fully materialise.
The government also intends to adopt rapid reforms focused on public administration, justice and competition as part of its Recovery and Resilience Plan (RRP) presented to parliament by Draghi on 26 April. Reforming the tax system (also part of the RRP) may take longer, with the government aiming to define its scope in 2H21. Previous governments’ reform efforts in these areas have stalled due to the reforms’ unpopularity.
The government has large majorities in both houses of parliament, but draws support from ideologically diverse parties, which may complicate the passage of reforms.
The EUR248 billion RRP sets out investment plans alongside a reform schedule, with specific timetables for individual reforms, and NGEU disbursements will be conditional on meeting reform milestones. As parliamentary debate intensifies in the coming months, we will be better able to assess the reform agenda’s prospects.
Efficient use of EU funds and implementing structural reforms that underpin a stronger economic recovery could be positive for Italy’s sovereign rating, consistent with the sensitivities identified when we affirmed Italy at ‘BBB-’/Stable in December. Failure to implement a credible growth strategy that enhances confidence that debt/GDP will be placed on a downward path over time could be rating negative.