The Strategist

Moody`s lowers Italy credit rating, S&P to follow

10/22/2018 - 15:21

A draft budget proposed by the Italian government, suggesting a threefold increase in the deficit, to 2.4% of GDP, caused criticism not only in Brussels. On Friday, the rating agency Moody`s lowered the country's credit rating by one notch. A similar review can be undertaken in a week by Standard & Poor`s. The parliamentary coalition, however, declares its intention to adopt the budget unchanged, despite the objections of the EU authorities.

Late last Friday, the international rating agency Moody`s downgraded the rating of Italy by one notch - from Baa2 to Baa3 with a stable outlook. The agency’s analysts referred to the country's “substantial loosening of budget discipline”. Now, only one point separates the country's debt from losing its investment status. On Friday, another agency, Standard & Poor`s, could review its credit rating. A year ago, it raised the rating of Italy to BBB (corresponding to Baa2 Moody`s) for the first time in 30 years. Since the beginning of the year, the required yield on ten-year Italian securities has already more than doubled (to almost 3.6%), although this is still significantly lower than at the peak of the 2011–2012 crisis.

Recall, the coalition of two main parties - the Five Star Movement and Lega Nord - previously approved a draft budget with a tripled (up to 2.4% of GDP) deficit: there are € 37 billion of additional expenses, of which € 22 billion will not offset by cost reduction. The proposal provoked sharp criticism of Brussels, which stated that this was "an unprecedented deviation from the EU budget rules." Note that the Stability and Growth Pact obliges the EU countries to have a budget deficit of no more than 3% of GDP, and formally Italy does not violate this requirement. However, its national debt is 131.8% of GDP (€ 2.3 trillion, the second largest after Greece) is significantly higher than the threshold set by the same pact at 60% of GDP. If the European Commission does not approve the draft budget, sanctions can be applied to Italy. However, in France, the nine-year budget deficit exceeds the 3% level; similar violations by Spain and Portugal also did not lead to any consequences, other than official warnings.

Prime Minister Giuseppe Conte said on Saturday that the budget was supported by all parties and that Italy is ready for a “constructive dialogue” with the EU in the coming weeks. However, the Lega Nord leader Matteo Salvini promised that the government would stick to the draft budget, despite the actions of rating agencies and warnings of the European Commission. “The rating agencies were wrong about the account of Italy before, this is a good budget, and we will bring it to the end,” the politician said. According to Moody`s, implementation of this scenario will cause the growth of public debt, and not its reduction, as previously assumed (the coalition insists that an increase in government spending will support economic growth and thus reduce the debt burden). "Even in the short term, the positive effect of fiscal mitigation will be more modest than that expected in the government," the agency warned.


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