Reacting to the new Italian government’s plans to increase the country’s deficit to 2.4% of GDP to finance spending, bond markets are now charging Italy more to borrow. On Tuesday October 2nd the yield on Italy's 10-year bond rose 0.10 percentage points to 3.40%, a difference between the Italian and German benchmarks of 3 percentage points, the highest level this year.
Deputy Prime Minister Luigi Di Maio said on Tuesday that the government "will not back up one millimetre" from higher public spending to fulfil election promises. The 5-Star Movement pledged a basic income for job seekers, while its partner in the coalition government, the League, pledged to reduce taxes. Both want to repeal an unpopular pension reform.
Italy’s public debt is currently 132% of GDP. Its economy has been sluggish for years, with growth significantly below that of many other countries in the eurozone. Unemployment also remains relatively high at 9.7%.
On Monday, Economic Minister Giovanni Tria was warned by his counterparts in the 19-country eurozone that Italy's plans break the rules of the single currency bloc. These state that the budget deficit to GDP ratio must not exceed 3%, so in theory the new spending plans are safe, although a deficit running at 2.4% is likely to increase the country’s debt burden substantially. The EU's economy commissioner, Pierre Moscovici, said the plans represent "a very significant deviation from the commitment which had been taken."
That claim drew an angry response from Di Maio, who accused Moscovici of "creating terrorism with the markets." Tria insisted the government's plans would promote growth in Italy of 1.6% next year, which would keep public finances in control and prevent debt from rising again. Analysts, however, see this growth figure as optimistic.
It remains unclear what action the EU might take. France, which runs a budget deficit of 2.6%, was placed in an "excessive deficit procedure" by the EU for almost a decade without sanction. Germany has in the past broken the EU deficit limit, also without financial penalty.
As reported by AP, political analyst Wolfango Piccoli of Teneo Intelligence said that Italy's deficit target "is generally not worth the paper it is printed on," noting that the planned deficit of 1.8% of GDP in the 2013-16 period actually ranged between 2.5% and 3%.
The Euro fell by 0.3% against the dollar on Tuesday, a drop in value attributed to Di Maio’s comments.