Italy budget deficit forecast to smash EU fiscal rules

Italy budget deficit forecast to smash EU fiscal rules

Italy’s budget deficit is set to breach EU rules by a wide margin next year, according to forecasts from the European Commission that raise the prospect of a renewed clash over economic policies between Brussels and Rome’s anti-establishment government.

The Italian deficit is expected to balloon to 3.5 per cent of gross domestic product in 2020, up from an already higher than expected 2.5 per cent this year. The deterioration is set to be driven by a slowing Italian economy, Rome’s plans to implement expensive policies including a citizens’ income and its intention to repeal a landmark pension reform.

Italy’s projected deficit in 2020 has risen sharply from a commission forecast of 3.1 per cent in November. The expected breach of the EU’s limit of 3 per cent of GDP would be Italy’s first since 2011. The Italian numbers are part of a generally gloomy set of EU data, with downward revisions to expected growth for the next two years.

The forecasts raise the risk of a fresh EU sanctions procedure against Rome and will fuel criticism that the commission was too lenient with Italy when striking a deal with Italy’s populist government on its budget plans in December.

Rome promised to delay key spending measures and bring the deficit to 2.04 per cent this year. But the Dutch government has repeatedly argued that Italy was let off the hook. The weak economy has thrown the country off course, leaving Brussels to reflect on how tough to be when it reviews eurozone countries’ budget situations this year. The commission’s verdict is due a week after European Parliament elections in May.

Italian growth is expected to stagnate at just 0.1 per cent of GDP this year, down from a previous forecast of 0.2 per cent, before rebounding to 0.7 per cent in 2020, according to numbers published by the commission on Tuesday.

“Government spending is set to increase significantly following the introduction of the citizenship income and several provisions on pensions, including a new early retirement scheme,” the commission said in its new forecasts.

Brussels said the 3.5 per cent deficit projection did not take into account some planned Italian tax increases because there was no certainty about when they would be applied. The commission also warned that Italy’s public finances could weaken further if markets took fright at the government’s spending plans, raising the state’s borrowing costs.

“Renewed tensions on sovereign yields constitute a risk to these fiscal projections. Conversely, the possible activation of the VAT safeguard clause in 2020 and potential underspending for the new measures would lead to a better fiscal outlook,” the commission said.

Brussels said that EU economic activity in the second half of 2018 was hindered by “tightened global financing conditions, unresolved trade tensions, high uncertainty” and “exceptional weakness in the manufacturing sector that extended into the start of 2019”.

The eurozone was hit by a number of sector- and country-specific factors, notably in Germany, including “disruptions in the car manufacturing sector, social tensions, policy uncertainty, as well as uncertainty related to Brexit,” the commission said.

Threats to the EU economic outlook include US-China trade tensions, and possible moves by US president Donald Trump to target Europe’s car sector with punitive tariffs. Other risks include weaker than expected growth in China.

The forecasts play down the risks of a no-deal Brexit, saying that it “would dampen economic growth, particularly in the UK but also in the EU27, though to a minor extent”.

The commission is forecasting eurozone growth of 1.2 per cent in 2019 and 1.5 per cent in 2020, a slight downwards revision compared with predictions in February of 1.3 per cent in 2019 and of 1.6 per cent in 2020.

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