Economic Bulletin No. 2 - 2022

The global economic cycle weakens; inflation rises further

Global economic activity has shown signs of slowing down since the beginning of the year, owing to the spread of the Omicron variant of the coronavirus and subsequently to Russia's invasion of Ukraine. Inflation has risen almost everywhere, continuing to reflect the increases in energy prices, supply bottlenecks and, above all in the United States, the recovery in demand. The Federal Reserve and the Bank of England are continuing with the normalization of their monetary policies that began at the end of 2021.

The war in Ukraine is exacerbating downside risks to economic activity and upside risks to inflation

Following the invasion, much of the international community responded quickly with sanctions on Russia that are unprecedented in terms of severity and scope. The immediate effects of the conflict on global financial market listings have been significant, although they have eased since mid-March; volatility remains high in many market segments. The prices of commodities, especially of energy products, for which Russia holds a considerable share of the global market, have risen further. Overall, the war in Ukraine is exacerbating downside risks to the global economic cycle and upside risks to inflation.

GDP stagnates in early 2022 in the euro area, while inflation continues to grow

Following the slowdown at the end of 2021, euro-area GDP stagnated in the early months of 2022. The tensions linked to the war in Ukraine are causing bigger rises in energy prices than in the rest of the world, and new procurement difficulties for firms, adding to the pre-existing ones. Based on preliminary data, consumer price inflation reached 7.5 per cent in March.

The ECB reviews its net asset purchases

Last March, the ECB's Governing Council judged that the conflict would have considerable repercussions for economic activity and inflation in the euro area and announced that it would adopt all the measures necessary to guarantee price stability and financial stability. It also revised the purchase schedule of its asset purchase programme (APP) for the next few months and announced that any changes in the key ECB interest rates would take place some time after the end of its net asset purchases and would be gradual.

Italy's GDP falls in the first quarter

Growth in the Italian economy lost momentum at the end of 2021, held back by sluggish household consumption and the negative contribution of net foreign demand. GDP fell in the first quarter of 2022, owing to the resurgence in new COVID cases at the turn of the year and to the dynamics of energy prices, against a cyclical backdrop of heightened uncertainty stemming from the invasion of Ukraine.

Industrial production declines at the start of the year ...

According to high-frequency indicators, industrial production fell in the first quarter as a whole, returning to slightly lower levels than those recorded before the pandemic began. Contributory factors to this fall are the cost of inputs and the difficulties in procuring commodities and intermediate products.

... as does consumption, and investment expenditure weakens

Household spending is also likely to have decreased, penalized by the rise in new COVID cases, especially at the beginning of the year, and by the loss in purchasing power due to the overall rise in prices. Based on the opinions expressed by firms between February and March, investment conditions have worsened, but the impact on the growth in investment planned for 2022 should be limited.

The current account surplus remains large, despite being affected by the worsening energy balance

In the fourth quarter of 2021, growth in exports came to a halt, while that in imports continued apace. The current account surplus remained large in 2021 as a whole, but it is being affected by the worsening energy balance.

Around two fifths of Russian gas imports could be replaced by other sources by end-2022

More than one fifth of Italian imports of energy inputs come from Russia; the share for natural gas alone exceeds 45 per cent. According to preliminary estimates, any interruption in the natural gas flows from Russia could be replaced by about two fifths by end-2022 – without drawing on Italy's methane reserves – by increasing imports of liquefied natural gas, greater recourse to other suppliers, and stepping up extraction from Italian gas fields. In the medium term, it would be possible to fully replace imports of Russian gas by investing more in renewable sources, as well as by increasing imports from other countries.

The Bulletin sets out three illustrative scenarios on the effects of the war on GDP and inflation in Italy

This Bulletin examines the possible macroeconomic consequences of the war in Ukraine on the basis of three illustrative scenarios drawn up based on alternative hypotheses for commodity price developments, international trade, consumer and business confidence, and natural gas supplies. These scenarios do not indicate the most likely macroeconomic outcome in the years to come and they are not therefore an update of the projections for Italy. In the most favourable scenario, the one that assumes the conflict will be resolved rapidly, and that the associated tensions will be significantly reduced, GDP growth would be around 3 per cent in 2022 and in 2023; inflation would rise, respectively, to 4.0 and to 1.8 per cent. In the intermediate scenario, formulated on the assumption that hostilities will continue, GDP would rise by around 2 per cent in both years; inflation would be equal to 5.6 and 2.2 per cent. In the most adverse scenario, which also hypothesizes an interruption in the supply of gas from Russia that could only partly be compensated from other sources, GDP would fall by almost 0.5 percentage points in 2022 and in 2023; inflation would rise to close to 8 per cent in 2022 and fall to 2.3 per cent in the following year. This wide range of estimates does not take account of any possible new economic policy responses, which will be essential to counter both any recessionary tendencies and any pressures on prices stemming from the conflict.

Employment growth weakens, rises in contractual wages remain limited

In the last quarter of 2021, the number of persons employed and that of hours worked continued to rise, though at a slower pace than in the two previous quarters. The growth in the creation of new jobs weakened in the first two months of 2022; the unemployment rate fell slightly. The recent price increases have not passed through to contractual wages, for which growth remains moderate.

Inflation rises to its highest level since the early 1990s, driven by energy and food prices

Inflation in Italy rose to 7.0 per cent in March, reaching its highest level since the start of the 1990s, mainly driven by the exceptional growth in energy prices and, to a lesser extent, food prices. The core component rose slightly, but is still below 2 per cent. The pressures on gas and oil prices suggest high inflation during the year. Firms also estimate marked upward revisions of their list prices compared with their assessments last December.

Heightened uncertainty leads to a fall in equity prices, then a partial recovery

In the first part of 2022, Italy's financial markets were affected by heightened uncertainty and risk aversion. Equity prices, especially those in the banking sector, fell in connection with the start of the war; they later recovered slightly. The sovereign spread and the funding costs of firms and banks rose.

Firms' demand for credit remains moderate

Lending to non-financial corporations is still contained. The demand for new loans continued to be modest, thanks to the abundant liquidity accumulated over the last two years and in a context characterized by multiple factors of uncertainty. The non-performing loan rates on lending to firms remained at very low levels by historical standards. In 2021, the return on capital of the significant banking groups more than doubled compared with the previous year. Italian banks' exposure to Russia is limited overall.

In 2021, government deficit and debt as a percentage of GDP fall significantly

Last year, general government net borrowing as a percentage of GDP fell considerably compared with the extraordinarily high levels recorded in 2020. The debt-to-GDP ratio decreased, mainly thanks to the very favourable change in the denominator. At the end of February, the European Commission issued a positive assessment of Italy's fulfilment of the milestones and targets for the first disbursement of funds under the Recovery and Resilience Facility. In the first few months of this year, the Government enacted further measures to soften the impact of higher energy costs. According to the official assessments, the cost of the provisions that introduce these measures should be covered by reductions in other expenditure and by increased revenues, including those related to an extraordinary tax on energy companies.

The Government approves the 2022 Economic and Financial Document

On 6 April the Government approved the 2022 Economic and Financial Document. Given the improvement in the current legislation scenario for the public accounts, the net borrowing targets set last September have been confirmed. In 2022, the deficit and the debt will stand at 5.6 and 147.0 per cent of GDP respectively and will then decrease to 2.8 and 141.4 per cent in 2025.

The global economic cycle weakens; inflation rises further

Global economic activity has shown signs of slowing down since the beginning of the year, owing to the spread of the Omicron variant of the coronavirus and subsequently to Russia's invasion of Ukraine. Inflation has risen almost everywhere, continuing to reflect the increases in energy prices, supply bottlenecks and, above all in the United States, the recovery in demand. The Federal Reserve and the Bank of England are continuing with the normalization of their monetary policies that began at the end of 2021.

The war in Ukraine is exacerbating downside risks to economic activity and upside risks to inflation

Following the invasion, much of the international community responded quickly with sanctions on Russia that are unprecedented in terms of severity and scope. The immediate effects of the conflict on global financial market listings have been significant, although they have eased since mid-March; volatility remains high in many market segments. The prices of commodities, especially of energy products, for which Russia holds a considerable share of the global market, have risen further. Overall, the war in Ukraine is exacerbating downside risks to the global economic cycle and upside risks to inflation.

GDP stagnates in early 2022 in the euro area, while inflation continues to grow

Following the slowdown at the end of 2021, euro-area GDP stagnated in the early months of 2022. The tensions linked to the war in Ukraine are causing bigger rises in energy prices than in the rest of the world, and new procurement difficulties for firms, adding to the pre-existing ones. Based on preliminary data, consumer price inflation reached 7.5 per cent in March.

The ECB reviews its net asset purchases

Last March, the ECB's Governing Council judged that the conflict would have considerable repercussions for economic activity and inflation in the euro area and announced that it would adopt all the measures necessary to guarantee price stability and financial stability. It also revised the purchase schedule of its asset purchase programme (APP) for the next few months and announced that any changes in the key ECB interest rates would take place some time after the end of its net asset purchases and would be gradual.

Italy's GDP falls in the first quarter

Growth in the Italian economy lost momentum at the end of 2021, held back by sluggish household consumption and the negative contribution of net foreign demand. GDP fell in the first quarter of 2022, owing to the resurgence in new COVID cases at the turn of the year and to the dynamics of energy prices, against a cyclical backdrop of heightened uncertainty stemming from the invasion of Ukraine.

Industrial production declines at the start of the year ...

According to high-frequency indicators, industrial production fell in the first quarter as a whole, returning to slightly lower levels than those recorded before the pandemic began. Contributory factors to this fall are the cost of inputs and the difficulties in procuring commodities and intermediate products.

... as does consumption, and investment expenditure weakens

Household spending is also likely to have decreased, penalized by the rise in new COVID cases, especially at the beginning of the year, and by the loss in purchasing power due to the overall rise in prices. Based on the opinions expressed by firms between February and March, investment conditions have worsened, but the impact on the growth in investment planned for 2022 should be limited.

The current account surplus remains large, despite being affected by the worsening energy balance

In the fourth quarter of 2021, growth in exports came to a halt, while that in imports continued apace. The current account surplus remained large in 2021 as a whole, but it is being affected by the worsening energy balance.

Around two fifths of Russian gas imports could be replaced by other sources by end-2022

More than one fifth of Italian imports of energy inputs come from Russia; the share for natural gas alone exceeds 45 per cent. According to preliminary estimates, any interruption in the natural gas flows from Russia could be replaced by about two fifths by end - 2022 - without drawing on Italy's methane reserves - by increasing imports of liquefied natural gas, greater recourse to other suppliers, and stepping up extraction from Italian gas fields. In the medium term, it would be possible to fully replace imports of Russian gas by investing more in renewable sources, as well as by increasing imports from other countries.

The Bulletin sets out three illustrative scenarios on the effects of the war on GDP and inflation in Italy

This Bulletin examines the possible macroeconomic consequences of the war in Ukraine on the basis of three illustrative scenarios drawn up based on alternative hypotheses for commodity price developments, international trade, consumer and business confidence, and natural gas supplies. These scenarios do not indicate the most likely macroeconomic outcome in the years to come and they are not therefore an update of the projections for Italy. In the most favourable scenario, the one that assumes the conflict will be resolved rapidly, and that the associated tensions will be significantly reduced, GDP growth would be around 3 per cent in 2022 and in 2023; inflation would rise, respectively, to 4.0 and to 1.8 per cent. In the intermediate scenario, formulated on the assumption that hostilities will continue, GDP would rise by around 2 per cent in both years; inflation would be equal to 5.6 and 2.2 per cent. In the most adverse scenario, which also hypothesizes an interruption in the supply of gas from Russia that could only partly be compensated from other sources, GDP would fall by almost 0.5 percentage points in 2022 and in 2023; inflation would rise to close to 8 per cent in 2022 and fall to 2.3 per cent in the following year. This wide range of estimates does not take account of any possible new economic policy responses, which will be essential to counter both any recessionary tendencies and any pressures on prices stemming from the conflict.

Employment growth weakens, rises in contractual wages remain limited

n the last quarter of 2021, the number of persons employed and that of hours worked continued to rise, though at a slower pace than in the two previous quarters. The growth in the creation of new jobs weakened in the first two months of 2022; the unemployment rate fell slightly. The recent price increases have not passed through to contractual wages, for which growth remains moderate.

Inflation rises to its highest level since the early 1990s, driven by energy and food prices

Inflation in Italy rose to 7.0 per cent in March, reaching its highest level since the start of the 1990s, mainly driven by the exceptional growth in energy prices and, to a lesser extent, food prices. The core component rose slightly, but is still below 2 per cent. The pressures on gas and oil prices suggest high inflation during the year. Firms also estimate marked upward revisions of their list prices compared with their assessments last December.

Heightened uncertainty leads to a fall in equity prices, then a partial recovery

In the first part of 2022, Italy's financial markets were affected by heightened uncertainty and risk aversion. Equity prices, especially those in the banking sector, fell in connection with the start of the war; they later recovered slightly. The sovereign spread and the funding costs of firms and banks rose.

Firms' demand for credit remains moderate

Lending to non-financial corporations is still contained. The demand for new loans continued to be modest, thanks to the abundant liquidity accumulated over the last two years and in a context characterized by multiple factors of uncertainty. The non-performing loan rates on lending to firms remained at very low levels by historical standards. In 2021, the return on capital of the significant banking groups more than doubled compared with the previous year. Italian banks' exposure to Russia is limited overall.

In 2021, government deficit and debt as a percentage of GDP fall significantly

Last year, general government net borrowing as a percentage of GDP fell considerably compared with the extraordinarily high levels recorded in 2020. The debt-to-GDP ratio decreased, mainly thanks to the very favourable change in the denominator. At the end of February, the European Commission issued a positive assessment of Italy's fulfilment of the milestones and targets for the first disbursement of funds under the Recovery and Resilience Facility. In the first few months of this year, the Government enacted further measures to soften the impact of higher energy costs. According to the official assessments, the cost of the provisions that introduce these measures should be covered by reductions in other expenditure and by increased revenues, including those related to an extraordinary tax on energy companies.

The Government approves the 2022 Economic and Financial Document

On 6 April the Government approved the 2022 Economic and Financial Document. Given the improvement in the current legislation scenario for the public accounts, the net borrowing targets set last September have been confirmed. In 2022, the deficit and the debt will stand at 5.6 and 147.0 per cent of GDP respectively and will then decrease to 2.8 and 141.4 per cent in 2025.

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