• Near term, Italy’s high debt makes it vulnerable to weak growth, high interest rates, or the need to support its banking sector.
• However, the maturity structure of its debt offers capacity to weather adverse funding conditions for a while; and to restore budget balance is not very demanding, whether in absolute terms or relative to other countries.
• In the medium term, debt can be lowered significantly by sustaining primary surpluses of 4-5% of GDP - which Italy has managed before. Structural reforms to improve growth would help; and there is much scope for this.
• As regards the long term, Italy has already undertaken some of the steps needed to contain the debt burden associated with population ageing: it is better placed than many other economies.

Italy’s fiscal challenge appears difficult, and near-term vulnerabilities are considerable, owing to its legacy high stock of debt. So, a renewed flare-up of bond spreads, which have now retreated significantly from their levels around the turn of the year, can by no means be excluded. That said, the task, even in the near term, appears manageable under plausible assumptions, and given sufficient political will, which currently seems in evidence.

 

Medium-term challenges relate primarily to Italy’s weak growth trend, but there is much scope for improvement through structural reforms, and these are starting to be undertaken. Moreover, in the long term, Italy’s projected debt burden appears less challenging than in many other Western economies – albeit remaining far from sustainable. Given the fundamentals, it is conceivable that markets will come to increase the relative risk premium that they require of the 

government bonds of other economies. Hence renewed flare-ups in Italian bond spreads could well represent attractive entry points for long-term investors with sufficient composure.

 

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