- The end of the political crisis and next steps for the new government: The new pro- European government looks to be willing to move in a different direction vs the previous one, with an agenda focused on green and socially inclusive policies. It is difficult to project how long this new coalition will last, but it will certainly have to address the next budget law. We expect to see some expansionary measures (lower labour costs plus investment spending), but without putting public finances at risk. However, the available room for manoeuvre is narrow.
- Italy vs the EU: The change in the relationship with the EU is the most important shift regarding this new coalition, keeping in mind that it voted for Ursula von der Leyen as new President of the European Commission. The new Italian Finance Minister will likely be able to obtain the maximum level of flexibility allowed at the EU level, but this will not lead to meaningful fiscal expansion in Italy. The good news is that momentum is building with the EU for some accommodative fiscal measures, but completely new rules are not something that Italy should hope for in the short term.
- Structural outlook for Italy: The most likely scenario, in our view, is one in which some of the international uncertainty is removed (such as no-deal Brexit) and where trade dynamics normalise gradually yet remain subdued vs the historical average. In this environment, where a certain degree of uncertainty remains, Italian growth could gradually pick up, but remain around the potential level (0.6-0.8%). In a low yield environment, with interest rates below nominal GDP growth, the debt/GDP ratio could stabilise and eventually fall, leaving some fiscal room for manoeuvre.
- Investment implications: Given a lower probability of confrontation with the European Commission, spreads on Italian BTPs have been falling. We expect this trend to continue, thanks to ECB support. ECB vigilance is critical: in a low growth scenario, it gives some guarantee that low yields will be maintained relative to nominal GDP growth, meaning the debt/GDP ratio (high for Italy) will remain on a sustainable trajectory, thus providing some fiscal room compared to the past. Moreover, the ECB is ready to act in case of crisis. De facto, the ECB is behaving like a sort of “Treasury” in a changing framework of “fiscalisation” of monetary policy and monetisation of budgetary stances.
- The appeal of Italian bonds for investors in search of yield: Our preference is for the longer part of the curve (30Y). Given our cross asset allocation view, we favour BTPs vs Italian equities which look more vulnerable to the external uncertain scenario (trade war and economic slowdown).
- Equity dependent on trade: Possible some relief in the medium term. Moving ahead, we could see more IPOs from Small to Midsized companies and interest from ESG investors, which could potentially benefit the Italian market. Relief from trade wars does not appear to be likely in the short term, but could materialise in the coming quarters, and this could support more constructive Italian and EU equity outlooks.
UK, September 18, 2019
Trade war escalation and impact on world trade and economic growth Alessia Berardi, Deputy Head of Macroeconomic Research Trade tensions re-escalated during the summer. Starting on 1 [...]
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