Italy’s political crisis could hinder attempts to agree and implement a credible post-pandemic growth strategy, Fitch Ratings says. Failure to enact such a strategy, including the efficient use of Next Generation EU (NGEU) pandemic recovery funds, would reduce the likelihood that debt/GDP will stabilise and fall.
Prime Minister Giuseppe Conte resigned on Tuesday, according to an official communique. Conte’s efforts to rebuild his coalition government’s parliamentary support met with limited success after former Prime Minister Matteo Renzi withdrew his support, depriving the government of its majority in the upper house (the Senate).
The government subsequently won confidence votes in both houses, but could only pass legislation (such as the new EUR32 billion stimulus package) with support in the Senate from lawmakers from Renzi’s Italia Viva party and from independents on a vote-by-vote basis.
The political consequences of the crisis are unclear. We think a snap election is unlikely as opinion polls suggest that it would hand victory to the centre-right opposition parties, and holding an election may be difficult while tackling the Covid-19 health crisis.
Italy’s President Sergio Mattarella could mandate Conte to form a new government (a calculation which may have prompted Conte’s decision to resign). In this scenario, a new Conte-led coalition could take power with renewed support from Italia Viva, or from independents and Forza Italia. But a reconciliation between Conte and Renzi appears unlikely given the latter’s demands regarding government policy and personnel.
Alternatively, President Mattarella could mandate a new prime minister to try to form a government, potentially involving the same three parties that originally formed Conte’s coalition – the Democratic Party (PD), Five Star Movement (5SM), and Italia Viva. The appointment of a technocratic government appears to lack sufficient political support, but cannot be ruled out.
The advent of a substantially weaker government or persistent political uncertainty could hamper efforts to improve growth prospects after the pandemic via a coherent economic strategy. It could also increase the risk of delays in disbursing NGEU funds. The government has approved a draft national recovery and resilience plan to allocate EUR209 billion (12.8% of estimated 2020 GDP) of NGEU funds over 2021-2026, of which 70% will be directed towards investment, providing the main support for growth from 2022.
But Italy’s EU fund-absorption capacity historically has been low, and key aspects of the recovery and resilience plan – which has yet to be passed by parliament – are still to be decided, notably details of reforms to accelerate the design and execution of public works. While tensions that have emerged within the coalition government could delay political decisions, work on the plan at the technical level continues.
Italy’s 2016-2019 average real GDP growth rate of 0.9% is one of the weakest among Fitch-rated sovereigns, while we estimate gross general government debt reached 160% of GDP in 2020. Without a substantial improvement in post-pandemic growth, it is unlikely that Italy’s debt ratio will be placed on a firm downward path.
We view the efficient use of NGEU funds as inextricably linked to an effective post-pandemic growth strategy. Should Italy fail to use NGEU resources to boost medium-term GDP growth prospects, this could place downward pressure on Italy’s sovereign rating, consistent with the ratings triggers we identified when we affirmed Italy at BBB-/Stable in December.
The second wave of the pandemic and a slow start to vaccination present nearer-term growth and fiscal risks. The latest fiscal support package, worth 1.8% of GDP, will mitigate the impact on the private sector, especially in 1Q21.
But it will also lead to a higher budget deficit in 2021 than the 8% of GDP we forecast at the December rating review, although a strong GDP rebound from mid-2021, based on accelerated mass-vaccination across the EU, should support the fiscal position somewhat.
