What does Italy's economy depend on?
Italy is more dependent than ever on the ECB
So that the corona pandemic does not lead to a global economic crisis, the states now have to spend a lot of money. The additional debt should be accepted. This is what the former ECB President Mario Draghi is calling for. Germany and the USA have advanced particularly quickly. In no time at all, they launched aid pacts in the order of magnitude of 5% to 10% of GDP. In addition, generous lines of credit were made available. The aim is to avert mass unemployment and a wave of bankruptcies.
Almost all countries in the world will not be able to avoid putting together similar packages - if they can afford it. Italy has been particularly hard hit by the virus epidemic. In order to ensure that human tragedy is not followed by an economic tragedy, the state must intervene courageously here. Due to the very strict and lengthy curfews and the high importance of tourism, the Italian GDP is likely to collapse the most in Europe. We expect GDP to decline by at least 10% this year. This alone is likely to tear a hole in the national budget of around 7% of GDP.
In addition, there is the necessary aid package, which is supposed to prevent slipping into depression. We estimate another 5% of GDP for this. Including the existing deficit, the negative budget balance should be around 15% of GDP in 2020. The financing requirement in the current year is therefore an impressive EUR 260 billion. Who should pay for that?
The easiest way would be to tap the capital market directly. Italy, however, is already in debt with 135% of GDP. The scenario outlined above would push the rate further towards 160%. This means that the situation is almost Greek and rating downgrades are inevitable. Funding via the capital market therefore requires the support of the ECB. Only with their help can the risk premiums be capped. The central bank is already active and is buying Italian government bonds on a large scale as part of the new securities purchase program (PEPP). In the long term, however, their share in the total portfolio should not exceed 18% (= Banca d’Italia’s share in the ECB). The interventions of the ECB are therefore not intended as a permanent solution.
Instead, Italy is calling for a euro relief fund to be set up, which will be refinanced through the issue of communal bonds ("Corona Bonds"). This would have two advantages. On the one hand, Italy would only be liable with its ECB share (18%). On the other hand, the bonds could easily be placed on the capital market on favorable terms. However, the construct would first have to be launched. Numerous euro countries (including Germany, the Netherlands, Austria) have already announced their resistance.
It is therefore easier to use an existing instrument such as the ESM. This would currently amount to EUR 410 billion. These would be refinanced with an ESM bond. Each country that accesses funds, however, would have to answer for it alone. In addition, ESM loans are subject to conditions. The German finance minister has indicated that it will be accommodating in this regard. The result is likely to come down to ESM loans. However, it has so far been provided that each country may only draw a credit line of 2% of GDP from the pot. In the case of Italy, that would be just EUR 35 billion.
All in all, the last word has certainly not been said on the refinancing of the Italian debt. For the time being, the main responsibility rests on the ECB. It has already announced that it will do everything it can to keep the Italian spreads under control. If necessary, it will throw the capital key overboard as a benchmark for purchasing government bonds. Then the mutualisation of the debts finally takes place via the central bank.
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