Fitch on Italy’s Debt Reduction
Higher Rates, Energy Shock Challenge
In a recent report, Fitch Ratings stated that Fiscal policy under Italy’s (BBB/Stable) next government will have to adapt to higher interest rates and the energy crisis if public debt is to be reduced.
Fitch’s analysis suggests that if 10-year sovereign bond yields stay close to 4%, higher primary balances would be needed to keep debt-to-GDP on a downward path.
Opinion polls suggest the right-of-centre (ROC) coalition will win a parliamentary majority on 25 September. It consists of the right-wing Fratelli d’Italia (FDI) and Lega parties, as well as the centrist Forza Italia and the smaller Noi Moderati.
Each party advocates tax cuts, and there are also proposals for higher minimum pensions and new provisions for early retirement. These proposals would entail some fiscal loosening and continue the Draghi administration’s strategy of prioritising growth and backloading consolidation. However, the energy crisis and higher interest rates will complicate implementing such policies. The 2023 budget law will help assess fiscal policy direction, and will probably focus on protecting households and businesses from the energy shock.
Fitch’s updated simulations show the impact of changing economic circumstances and higher sovereign yields. If yields remain at around 4%, when assumptions are similar to our May rating review, debt is stable at around 150% of GDP. A second scenario, consistent with our September Global Economic Outlook forecast, incorporating a 2023 recession from the energy shock and little consolidation sees the debt ratio rise to 157% by 2031. In a third scenario where debt reduction is prioritised, it declines by 10pp.
Fiscal constraints make NextGenerationEU funds even more important for growth. FDI and Lega have previously expressed strong Eurosceptic views, but FDI leader Giorgia Meloni, Italy’s likely next Prime Minister, advocates working constructively with Brussels. We also believe eligibility requirements for the ECB’s Transmission Protection Instrument will incentivise the next government to keep fiscal policy broadly in line with EU rules.
Reference Link
https://www.fitchratings.com/research/sovereigns/italys-public-debt-reduction-faces-challenges-16-09-2022
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