Italy Business Forecast Report Q4 2012

Italy Business Forecast Report Q4 2012 - new country guide report published
2013-01-01 00:41:53 - Italy Business Forecast Report Q4 2012 - a new country guide report on

Mario Monti´s technocratic government will seek to implement further structural reforms. The coming months are likely to see the conclusion of a comprehensive spending review, reforms to the funding of political parties and plans to streamline Italy´s sclerotic legal system. However, with previous reform efforts having been diluted, we do not expect radical reforms given that the government is already



haemorrhaging popular support.

The implementation of a series of austerity packages, both under Mario Monti and his predecessor Silvio Berlesconi, have improved Italy´s fiscal trajectory. However, the size of the country´s debt load and the gradual pace at which we expect it to be reduced will make Italy vulnerable to instability in the eurozone. A major debt restructuring or outright monetisation by the European Central Bank are serious risks. Under pressure from escalating capital flight and a surge in short speculative positions in recent months, the euro dropped to a 2012 low of US$1.2061/EUR on July 24 – its weakest reading since 2010. European Central Bank (ECB) President Mario Draghi subsequently ratcheted up the rhetoric by hinting at a shift in monetary policy towards government bond purchases, which has buoyed the euro over the last month.

Following the announcement at the September 6 monetary policy meeting of a new framework for buying sovereign paper, the euro punched through US$1.2600/EUR and was trading at US$1.2781/EUR at the time of writing on September 10. Market momentum could push the euro towards US$1.3000/EUR in the short term, especially should the German constitutional court ruling on September 12 prove favourable, but we would see this as a tactical opportunity to switch back to a bearish position and target a move below US$1.2600/EUR.

Major Forecast Changes

Notwithstanding our positive view for the government´s dedication to fiscal consolidation and economic growth, we currently forecast real GDP dropping by 2.3% in 2012, down from 0.5% growth in 2011. This negative result will be driven by fiscal consolidation, tighter credit conditions as a result of high sovereign debt yields and a weak eurozone economy. We expect the current account deficit to narrow from 3.2% of GDP to 1.3% in 2012 and 0.5% in 2013 as imports contract sharply in response to the ongoing Italian recession and non-EU demand keeps export growth positive. There are also tentative signs that capital outflows are easing.

Key Risks To Outlook

A stalling economy could see the government miss its fiscal targets of a balanced budget by 2014. Moreover, given that Italy has the third largest sovereign debt load in the world, an increase in servicing costs would further accentuate the debt burden. The political parties that support Monti´s technocratic government may force an early election. The major parties performed poorly in local elections in May, while the government´s austerity measures are increasingly unpopular. An early election would likely undermine market confidence in Italy.

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Mike King
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