The economy grew by 1.5% in 2017, supported by household consumption and a recovery of investment and net exports. The monthly indicators suggest that growing capacity constraints, and a steady improvement in expected export orders should lend continuing support to investment and net exports going forward. We do not anticipate consumption to improve meaningfully relative to the current trends, despite the unemployment rate continuing to fall. There are two reasons for this: we expect Italy to continue its process of wage compression, which should last throughout 2018E and 2019E, in our view, and consumer surveys are signalling a rising appetite for savings.
The business sector has achieved significant progress in restructuring its balance sheet and indicators of perceived competitiveness, length of order book and increased liquidity at hand bode well for the near term. Companies continue to cut bank loans. We highlight that retail borrowing rates for mortgages and loans to non-financial corporations have been rising since summer 2016 and stand well over 2% in real terms currently. This is likely to force an ongoing restructuring of private sector balance sheets and is a strong constraint, among others, on house price prospects.
Inflation has picked up, but not as much as our models suggested. This is a trend we see in most of the European countries we monitor and is likely reflective of a slower pass-through of the output gap and inflation, and an underestimation of actual inflation. We do not change our projections at this stage, but we note that sluggish inflation is likely to force the ECB to stay fairly dovish in the foreseeable future, and it also means a harder challenge to meet the budget targets.
Italy has committed to continue to consolidating the budget deficit, having narrowed the deficit to 1.9% of the GDP last year, from 2.5% of the GDP in 2016 – and showed only tiny progress towards reducing the public debt ratio to 131.5% in 2017 from 132% in 2016.
The general elections that took place in March 2018 delivered a relative victory to the centre-right coalition, primarily to the Northern League, and the 5 Star Movement. Negotiations are progressing and they increasingly signal that a cooperation between the 5 Star Movement and the Northern League is likely to be the cornerstone of the next government. We highlight that the opinion polls signal that both parties have gained further support since the election: 5 Stars polls around 35% currently and the Northern League polls around 23% – both gaining about 10 points in a little more than two months in the surveys. Forza Italia, instead, is weakening sharply, and the Democratic party has lost further support after an already weak election result.
In our view, the consensus economic projection forecasts have considerable scope for upside surprises: Bloomberg’s real GDP projections show a decelerating trend to 1.3% this year and 1.2% in 2019E. We instead consider it highly plausible that growth could accelerate towards 2% this year already and stay there in 2019E.
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