Quarterly Economic Outlook July 2017

Italy: A window of opportunity for reforms


The global economic cycle continues to be strong: +3.3% in 2017, +3.4% in 2018, despite lower than expected US growth.

In Italy, this year’s growth will be the highest since 2010: +1.2% thanks to the positive global conjecture and to the cumulative effects of the expansionary fiscal and monetary policies. A window of opportunity to secure public accounts and continue with the reforms. 

Below are the main themes of Prometeia’s July 2017 Quarterly Economic Outlook.

Italy’s Economic Outlook

  • 2017 GDP growth revised upwards from +0.9% estimated in March to +1.2% in July 2017. Cumulative growth for the next 4 years - up until 2020 - set at 4.2% read more
  • Debt reduction remains mandatory. GDP growth and rising inflation will allow the debt-to-GDP ratio to be reduced by 3.5 percentage points in 2020, but a less expansionary fiscal policy will also be necessary read more
  • Stronger improvements on the labour market, notwithstanding the end of the incentives: in 2020, the unemployment rate will fall to 10.3% 

Global Economic Outlook

  • After the slowdown of 2016, the impulse from international trade will remain sustained: +3.7% in 2017, +3.2% in 2018 read more
  • US growth revised downwards: +2.1% in 2017, +2.2% in 2018, in the absence of the expected fiscal stimulus read more
  • Monetary policies at a crossroads, but central banks stay cautious with regard to the timing and intensity of the stimulus reduction 

Italy, it’s recovery and how it is better than expected

The (cautious) feeling of optimism in Europe is spreading throughout Italy, not forgetting to keep an eye on the level of political uncertainty, which risks increasing next winter, but which, for now, has returned to minimum levels. Meanwhile, improved data between the end of the 2016 and this year “automatically translate” into three-tenths of additional GDP growth in 2017. Nevertheless, our analysis would suggest maintaining some caution when revising the scenario in an overly optimistic way.

The acceleration at the beginning of the year was driven by supplies, investments in construction and consumption, both private and public, with a negative contribution of net exports and of capital investments, contrarily to what is happening in the rest of Europe, where investments are picking up and consumption is falling.


Debt reduction remains mandatory

A window of opportunity, which may be used to secure public accounts. The context of growth and the debt financing conditions are highly favourable, but there are some risks. Although the current structure of debt maturities allows an increase in its cost to be manageable in the short-run, the absolute dimension of the Italian debt represents a weak point in itself, especially if the country should enter a difficult phase of governability.  

We, therefore, expect a changing fiscal stance as of next year - from expansionary, it will become moderately restrictive. The expected structural adjustment is of around 0.8 percentage points over the three-year period 2018 – 2020 that, added to the improvement of the business cycle, can sustain the deficit reduction to 1.1% of GDP in 2020. A reduction lower than that indicated in the official documents, which predict a headline and structural balance to be achieved from 2019. We believe that the measures necessary to reach this target would be too restrictive and costly in terms of growth and the additional improvements in terms of reduction of the debt-to-GDP ratio moderate: definitely an unfavorable cost-benefit deal. At the end of May, the government announced its goal of reducing the structural deficit reduction planned for 2018 from 0.8 to 0.3 percentage points of GDP.  

Four years of growth (4.2% cumulatively over the period 2017 - 2020) together with rising inflation, although far from the 2% target, will allow the debt-to-GDP ratio to fall by 3.5 percentage points in 2020.


Labour market: the recovery is ongoing

Looking ahead, there is a context of positive and negative aspects, which should not hide the tangible improvements on the labour market, and that we expect will strengthen over our forecast horizon. Employment will continue to increase in line with GDP, with only one setback, not a fall, in its growth rate in 2018 when the tax incentives on new hirings with permanent contracts will expire. At the end of the forecast horizon, compared to 2016, some 380 thousand working units and 480 thousand jobs will have been recovered, the unemployment rate will have decreased to 10.3% and the employment rate will have increased to 60.5%.  


Global trade regains momentum

Global trade grew more than 4% at the beginning of the year, a growth rate not seen since 2011, thanks to the contribution of the sustained increase in Chinese imports and exports of commodities.

In the Euro area, the trade recovery in the first months of 2017 is key to the consolidation of the investment cycle, and is the background for the upward revisions of GDP growth for the current and next year (+1.9% and 1.7% compared to, respectively, +1.7% and 1.4% forecast in March).

Nevertheless, credit control in China anticipates slow economic growth in the second part of the year, which will translate into a lower absorption of foreign products. This will contribute to a less than lively growth of global trade between the end of this year and the beginning of the next. 


Go back United States, the enigma of the budget policy

The greatest doubts regarding the US budget policy come from the decision to reduce expenditure supporting the poorest segments of the population, in favour of the adjustment of the public accounts, which seems to have become the top priority. A less expansionary fiscal policy is behind the downward revisions of US growth in our scenario. We expect that average GDP growth will reach 2.2% in 2018 (compared to +2.7% in March), to then fall in the coming years.


Central banks at a crossroads

In a context of moderate growth and weak inflation there are no additional elements that would change the predicted slow pace of the Fed in increasing interest rates. In our scenario, this implies a lower number of increases compared to those included in the FOMS’s projections of mid-June: we do not expect another increase this year, we expect two increases of 25 basis points in both 2018 and 2019, and stable policy rates in 2020.

The ECB is preparing markets for a reduction in the expansionary tone of its monetary policy. The economy is growing more than expected. Nevertheless, inflation does not seem to stabilize itself at values consistent with Frankfurt’s target. The strengthening of the Euro and the high labour supply potential are keeping inflationary pressures under control, even with regard to wages, suggesting some caution on the timing and the intensity of the reduction in the monetary expansion. We confirm the first increase of the refi rate in 2019 and the continuation of QE until the end of this year and, thus, a tapering which, from June, will cease to increase the ECB’s balance sheet.