Italy has problems

Italy is currently experiencing troubled times. Politically, the country was put back years by its failure to reform the Senate last December. And the general elections in spring 2018 see Italy at a crossroads. If the Italians again choose a government spearheaded by the Social Democrats then there is the danger of things continuing unchanged without decisive reforms. If Italy, by contrast, votes for the anti-EU “Five Star Movement” then its membership of the European Monetary Union and the European Union would be under threat. The pending election season promises to bring a fierce battle between the political camps, which could actually end in stalemate and leave the country even more politically unstable than it already is.

Economically speaking, Italy lags well behind the other Euroland member states; its economic output is still below that before the crisis. Recently, the economy became slightly more vibrant, but this was due to cyclical rather than structural factors. The economy is hardly competitive on the international stage, as a result of both an inefficient administration and comparably high unit costs. The banking sector continues to suffer from the high ratio of loan defaults in the wake of the economic crisis and high unemployment. Fiscally speaking, Italy benefits from the ECB’s ultra-expansionary monetary policy. However, the interest savings are not being used to reduce the debt load, but disbursed by a reduction in the primary balance in parts to private households without this decisively improving the economy’s value added. Italy’s debt ratio, which is above 132%, could remain lodged at a high level in coming years, too. Should the economy not perform favourably, government debt could actually increase further. Italy’s negative rating trend looks likely to persist intact given the current situation and the outlook; we cannot exclude it being downgraded to a non-investment grade rating.

Italy’s sovereign debt is the largest in Euroland, totalling EUR 1.8 trillion. Italy’s government bonds recently benefited appreciably from the ECB’s ultra-expansionary monetary policy. However, in the last 12 months political and economic uncertainties reversed this positive trend and Italian government bonds significantly underperformed Bunds.

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