Italy: Staff Concluding Statement of the 2021 Article IV Mission
IMF News, March 30, 2021
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- Published: March 30, 2021
Economic situation and outlook
- Pandemic impact and recent performance
- GDP dropped by almost 9 percent in 2020.
- At end year, output remained about 6½ percent below the level at end 2019.
- Very strong rebound in Q3 2020; manufacturing returning close to pre-COVID levels.
- Hospitality, tourism, and transport were most affected.
- Near-term outlook and baseline
- Assuming the vaccination program is well advanced by late summer, that social distancing persists in the interim and economic support to the most affected is maintained for the duration of the health crisis, GDP could grow by around 4¼ percent in 2021, with a weak start followed by an acceleration in the latter part of the year.
- Thereafter, return to pre-COVID conditions in much of the economy, reinforced by substantial spending under the National Recovery and Resilience Plan (NRRP), would boost growth well-above the previous trend over the medium term.
- Key uncertainties and alternative scenarios
- Upside scenarios:
- Faster defeat of COVID through accelerated vaccinations, both in Italy and internationally, could bring forward herd immunity and could release pent-up demand, with output surpassing its pre-COVID level already this year.
- Efficient utilization of Next Generation EU (NGEU) resources accompanied by successful implementation of growth-enhancing structural reforms could generate a larger and more persistent boost to medium-term output.
- The large U.S. fiscal package is a further upside support.
- Downside scenarios:
- Slower resolution of the pandemic would delay the recovery, increase firms’ leverage and worker layoffs and preserve elevated saving rates.
- Marked deterioration in loan quality could constrain banks’ capacity to lend and lead to contingent fiscal liabilities.
- A jump in U.S. long-term interest rates could lift European and Italian real interest rates more quickly than warranted by low underlying inflation and persistent excess capacity.
Fiscal policy as income backstop
- Assessment of fiscal response
- Prompt and decisive policy responses helped shield the pandemic’s impact through large fiscal resources, STW programs, grants, temporary moratoria on taxes and loan servicing, government-guaranteed loans, supervisory flexibility for banks, and low cost ECB funding conditioned on banks maintaining lending.
- Aggregate household disposable income decreased only modestly.
- Policy guidance as recovery proceeds
- Accelerate vaccinations and gradually wind down support measures as the health crisis recedes and the economic recovery takes hold.
- Phase out relief measures in tandem with the recovery but keep them available until the recovery is firmly established.
- Ensure adequate funding for the health system and vaccination program.
- Provide more targeted fiscal support to individuals and viable firms most affected by lost income, with faster distribution of benefits.
- Conduct a comprehensive review of eligibility and benefit levels of support programs to better align compensation with lost income.
- If demand in hard-hit sectors remains subdued after the health crisis, consider a targeted-but-temporary demand stimulus to unlock high accumulated savings and kickstart activity.
- Debt strategy and fiscal sustainability
- Spending to address the pandemic shock and secure the recovery should be accompanied by a credible plan to anchor significant—albeit gradual—debt reduction once the recovery is entrenched.
- Even if interest rates remain low, the public debt ratio is expected to decline only slowly, and sustaining the decline into the next decade would require additional fiscal effort to offset effects of population aging until the full impact of prior pension reforms is realized.
- Risks to debt dynamics include calls on guaranteed credits and equity support to the corporate sector and tightening financial conditions.
- Recommendations: identify reforms to raise growth and increase efficiency and equity of spending and tax systems; save part of the tax windfall from NRRP-driven growth; further lengthen debt maturity to lock in low rates and sequester COVID-related and maturing debt.
Reviving the business sector and maintaining financial stability
- Restoring firm balance sheets and market reallocation
- Rapid rebound in activity is the best cure; many firms could still emerge with too-high debt even with a strong recovery.
- Smaller firms and those in contact-intensive and affiliated sectors are likely most affected.
- Mobilize part of private savings to strengthen firms’ capital or provide long-term participatory financing.
- Facilitate private sector-led financing decisions with state co-financing or insurance to limit moral hazard and diversify risk.
- Eligibility for support should be limited to firms likely to be profitable on a forward-looking basis.
- Encourage business startups by lowering legal and administrative hurdles.
- Increase capacity and efficiency of courts and streamline debt restructuring procedures given insolvency regimes are among the least efficient in the EU.
- Banking sector and credit flow
- Banks’ loan quality is expected to weaken once temporary policy supports expire.
- Maintain credit flow to firms with good prospects; phase out moratoria gradually linked to normalization of firms’ activity levels.
- Increase banks’ risk retention on guarantees by lowering the coverage rate to direct guarantees mainly to viable firms.
- Consider incentives for banks to actively manage fully guaranteed loans.
- Increase government oversight of the guaranteed portfolio; SACE’s planned acquisition by the Treasury is welcomed.
- Intensify efforts to assess underlying loan quality taking account of current conditions, borrowers’ liquidity buffers, and expected post-pandemic performance.
- Adopt a flexible timetable for rebuilding capital in line with international and European peers, conditioned on realistic loan quality assessments.
- Maintain an active secondary market in NPLs, building on the success of the GACS scheme.
- Plan prompt, targeted action to deal with any individual distressed banks.
- After expiration of current European restrictions, use case-by-case supervisory decisions on permitting dividend payments to avoid penalizing well-capitalized banks.
Cushioning the labor market
- Transitioning labor support as the health crisis recedes
- STW schemes and the firing ban preserved job attachments; as the crisis recedes, subsidizing frozen employment relationships and hours-not-worked should be replaced with rewards for getting employees back to work and for new hiring.
- Combine a gradual winding down of exceptional measures with a strictly temporary wage subsidy for heavily-affected businesses that restart operations to incentivize reopening and restore labor market turnover.
- Existing unemployment benefits and the Citizenship Income program would provide a social safety net during transitions.
- Skills, retraining, and structural considerations
- Effective retraining and skills upgrading programs (including through online platforms) are crucial to increase within-sector productivity and facilitate across-sector mobility.
- Because at-risk employment could exceed near-term capacity of growth sectors to absorb workers, retraining is vital.
- Permanent wage subsidies to specific groups and regions would not address persistent weak productivity; consider faster phasing out of these measures.
Investing for the recovery
- Role of the NRRP and public investment
- NRRP sets out a comprehensive medium-term investment and reform agenda, financed by sizable EU resources, to facilitate green and digital transitions, increase growth potential and secure more balanced gender, regional and intergenerational outcomes.
- Implementation will raise demand and help compensate part of lost output and mitigate scarring.
- Some backloading of public investment spending as foreseen in the Plan would afford additional time to prepare projects and raise spending efficiency.
- Policy measures to improve effectiveness
- Envisaged tax incentives could support smaller-scale private investments.
- Modernize public administration and streamline civil procedures and the judicial system to improve project implementation and the business environment.
- Lower regulatory barriers to competition and enhance transparency and accountability of public procurement to maximize dividends from public investment.
- Pursue a comprehensive base-broadening tax reform beyond the NRRP to promote growth and inclusion and tackle tax evasion.
Italy: Staff Concluding Statement of the 2021 Article IV Mission — March 30, 2021, IMF Communications Department.