Economic Bulletin No. 4 - 2019

The global slowdown continues and monetary policy is more accommodative

International trade has continued to contract and global economic growth has slowed. There are still significant risks associated with trade tensions, the economic slowdown in China and the uncertainty surrounding the timeframe and the arrangements for the United Kingdom's withdrawal from the European Union (Brexit). Global financial conditions are now highly expansionary; greater uncertainty about the outlook for growth and the very accommodative stance adopted by the central banks have led to a sharp fall in long-term yields.

The ECB Governing Council introduces new expansionary measures

In the euro area, there has been a marked contraction in German industrial production, which is particularly vulnerable to world trade conditions, but the slowdown has spread to other sectors and countries. There is a growing risk that the unfavourable cyclical situation will determine a prolonged decline in the inflation expectations of the financial markets, firms and households. The ECB Governing Council, confirming the assessments made in previous months, adopted an ample package of expansionary measures with broad consensus, although with differing views on the individual instruments. The Bank of Italy's analyses confirm that the measures taken are necessary and appropriate to counter the cyclical risks and the weak outlook for prices.

In Italy, the industrial cycle is holding down growth ...

Economic activity in Italy increased only slightly in the second quarter and, in the light of the available data, it could have remained almost stationary in the third: like other countries, Italy has also been affected, above all, by a slowdown in manufacturing while there has been slightly positive growth in the service sector and a modest recovery in construction. There is still the risk that the unfavourable developments in industry will be transmitted to the other sectors of the economy.

... but investment increases

In the second quarter, however, investment in capital goods increased, also thanks to the reintroduction of the tax incentives in force since April. In the Bank of Italy surveys carried out in September, firms reported slightly more expansionary investment plans, with more positive assessments of investment conditions, the economic situation and of the trend in demand for their own products.

Exports grow ...

Exports continued to increase in the second quarter, despite the contraction in international trade. The current account surplus rose further, to 2.8 per cent of GDP; foreign sales may have faltered in the following months. The new tariffs applicable to the European Union, announced by the United States administration, will affect a relatively limited share of Italian exports to the US but the indirect effects could be significant.

... and inflows of foreign capital pick up

From June to August, non-resident investors made substantial pur-chases of Italian govern-ment securities; the inflows helped to improve the Bank of Italy's negative balance on the TARGET2 European payment system, which then widened slightly in September because of the technical effect of high net redemptions of government securities concentrated in that month. Italy's net international investment position is close to balance.

The number of persons in work is stable and the number of hours falls

In the second quarter, the number of people in employment increased, thanks to growth in services, whereas industry stagnated; the number of hours worked fell, however. According to the available indicators, employment appears to have stabilized in the third quarter. Growth in contractual earnings slowed, following an increase in the number of contracts which, following expiry, are still waiting to be renewed.

Cyclical weakness affects actual and expected inflation

Cyclical weakness continues to hold down price growth and inflation expectations. In the third quarter, inflation was held back, mainly as a result of the fall in energy prices, to stand at 0.3 per cent; the figure for core inflation was 0.5 per cent. The Bank of Italy's own surveys indicate that firms' expectations of an increase in their own prices remain weak, well below a 2 per cent increase.

The fall in government bond yields is significant ...

On the Italian securities markets, conditions have become significantly more expansionary: in the third quarter, the yields on ten-year government securities reached their lowest level since the introduction of the euro and they have remained very low by historical standards (0.94 per cent). The spread in relation to the corresponding German Bund (down to 138 basis points) has returned close to the level prevailing in the first few months of 2018. This is in part attributable to the reduction in the uncertainty perceived by market participants as regards the economic policy stance and the stance vis-à-vis the Euro-pean institutions. Premiums for public debt redenomination risk returned to the levels recorded in the first half of 2018.

... and has spread to the cost of funding the economy

The fall in the yields on government securities has significantly lowered the cost of bank wholesale funding (which has returned to the levels seen at the start of 2018) and of corporate bond yields. The cost of loans to firms and households has gone down slightly.

The Government estimates that net borrowing will remain unchanged this year ...

The Government estimates net borrowing at 2.2 per cent of GDP this year, the same as in 2018. The debt-to-GDP ratio is expected to rise from 134.8 to 135.7 per cent of GDP.

... and it is planning higher net borrowing for next year than under the current legislation scenario

For 2020, the Government programmes net borrowing almost one percentage point of GDP higher than in the current legislation scenario; the deficit is expected to remain unchanged at the level estimated for this year; the expected fall in interest payments should offset the reduction in the primary surplus. The fiscal policy stance appears to be slightly expansionary, reflecting the sterilization of the safeguard clauses - only partly offset by other measures - and further interventions, including a lower tax wedge on labour costs and higher investment. These budget decisions are motivated by a less favourable macroeconomic climate than expected and by non-negligible downside risks. The Government's plans indicate a pathway that will gradually reduce the weight of the debt on Italy's economy.

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