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FINANZA - ITALIANI IN EUROPA - DA RIUNIONE EUROGRUPPO STATU QUO DIALOGO ECONOMICO CON ITALIA E DUE IPOTESI POSSIBILI DELLA COMMISSIONE PER ATTUAZIONE ART.126/3 DEL TFEU

(2018-11-19)

Focus on: Italy ’s 2019 DBP
Current Council Recommendation under the preventive arm of the SGP The 2018 fiscal CSR for Italy adopted by the Council in July 2018 is the following:  “ensure that the nominal growth rate of net primary government expenditure does not exceed 0.1 % in 2019 , corresponding  to  an annual  structural adjustment  of  0.6  %  of  GDP .  Use  windfall  gains  to  accelerate  the  reduction  of  the  general  government  debt  ratio. 

Shift  taxation  away  from  labour,  including  by  reducing  tax  expenditure and reforming the outdated cadastral values. Step up efforts to tackle the shadow economy, including by strengthening the compulsory use of e -payments through lower legal thresholds for  cash payments. Reduce the share of old-age pensions in public spending to create space for other social spending .”

In accordance with EU economic governance rules (Regulation 473/2013), the Italian Government submitted its  2019 Draft Budgetary Plan  to the Commission on 16 October. The plan sets the deficit to 2.4% of GDP in 2019 (with the structural deficit of 0.8%), for which the Government had obtained the Parliamentary approval.

For 2020- 21, the deficit targets are 2.1 percent and 1.8 percent of GDP, respectively, underpinned by a VAT safeguard clause The Government projected real GDP growth  to raise from 1.2% in 2018 to 1.5% in 2019 and 1.6% in 2020, before decreasing to 1.4% in 2021, with the debt -to -GDP ratio falling from an estimated 130.9% in 2018 to 126.7% in 2021. The Government  emphasised that the projected deficit ratios were well below the 3% limit.

IPOL | Economic Governance Support Unit The  2019  DBP  implies  a  nominal  rate  of  growth  of  net  primary  government  expenditure  of  2.7%, which exceeds the recommended maximum  increase of 0.1%. The structural deterioration in 2019 amounts to 0.8% of GDP, which points to a significant deviation from the structural improvement of  0.6% recommended by the Council on 13 July 2018. This means that, in structural terms, the budget  plan shows a deviation of around 1.4%.

Exchange of letters On 18 October, the Commission sent a  letter  to the Italian Government, where it sought clarification on the planned deviation from the recommendations addressed to Italy, which were considered a “source  of  serious  concern  to  the  Commission.”  After  recalling  the  targets  recommended  to  Italy,  the Commission assessed that the proposed net primary government expenditure nominal rate of growth  and  the  structural  deterioration  in  2019  point  top  a “significant deviation”  of  SGP commitments. The Commission also pointed out that “

Italy's plans would not ensur e compliance with the  debt  reduction  benchmark  agreed  by  all  Member  States ”  and  that  the  “ conclusions  of  the  Article  126(3)  [of  the  TFUE]  report  may  need  to  be  reviewed  if  such  broad  compliance  can  no  longer  be  established in light of the planned significa nt deviation.

”. In May 2018, the Commission had adopted a similar  report  that,  taking  into  consideration  all  the  relevant  factors  and  the  fact  that  Italy  was  compliant  with  the  preventive  arm  of  the  SGP,  concluded  that  the  debt  criterion  should  be  considered  complied  with  (even  if  the  debt  did  not  decrease  by  the  amount  required  in  the  regulation 1467/1997).

The Commission further noted that the MTO is not planned to be achieved and that the forecasts underpinning the Government plans were neither produced nor endorsed  by the Italian Independent Fiscal Institution (PBO). The Commission concluded that “Those three factors would seem to point to a “particularly serious non -compliance with the budgetary  policy obligations laid down  in  the  Stability  and  Growth  Pact”  as  set  out  in  Article  7(2)  of  Regulation  (EU)  No.  473/2013.

”  The  Commission asked Italy’s views by the 22th October.
The Italian authorities reacted  on 22 October. While acknowledging that its budget was not in line with  Italy ?s  current  commitments  under  the  SGP,  the  Government  argued  that  the  revised  deficit
levels  were  necessary  to  restore  growth  and  repositioning  citizens’  economic  conditions.  The
authorities  stated  that  even  if  the  PBO  forecasts  were  not  adhered  to,  the  Government  had 
explained to Parliament the reasons for doing so. The Government also pointed o ut that it remained convinced  that  the  foreseen  public  and  private  investment  would  be  implemented,  due  to  proposed simplification and rationalisation measures. It also recognised that the DBP forecasts on interest rates are lower than those recently experienced, but considered them still in line with past average  levels,  and  that  they  would  stabilise  once  markets  become  familiar  with  the  budget  proposals and the structural reforms therein.

The Government also reaffirmed its intention to strictly  adhere  to  the  targets  established,  intervening  if  necessary  to  correct  deviations,  as  well  as  its commitment to the EU and the euro, arguing that the set targets will not affect financial stability in Italy or elsewhere in the euro area.
On the 23 October the Commission issued its opinion  on the Italian BDP, requesting by 13 November a DBP  revised  in  line  with  the  Council  recommendations  addressed  to  Italy  in  July  2 018.  The Commission  identified  in  the  DBP  2019  a  particularly  serious  non -compliance  with  Italian  commitments under the SGP and European Semester. This assessment is based on (a) impact of the deficit -increasing measures, including on the expenditure side, (b)  the fact that Italy does not plan to  reach  the  MTO  within  the  forecast  horizon,  i.e.  by  2021,  (c)  the  projected  non- compliance  with  the  debt reduction  benchmark  in  2018  and  2019,  with  large  downsize  risks.  The  Commissions'  opinion also pointed out the  fact that the macroeconomic forecasts were not produced or endorsed  by PBO and that the proposed measures indicate "  a clear risk of backtracking on reforms that Italy had  adopted (...) as well as with regard to the structural fiscal aspects of the recomme ndations addressed to Italy by the Council on 13 July 2018."

On  29  October,  the  Director  General  of  the  Commission’s  DG  ECFIN  sent  a  letter  to  the  Director 
General of the Italian Finance Ministry, asking for any “relevant factors” to be taken into account by the Commission, in view of the preparation of a report under Article 126(3) TFEU. 

A new report under Art. 126(3) could claim that Italy is no more compliant with the preventive arm of the SGP, and the Commission  is  initiating  the  procedure  to  open  an  EDP  against  Italy.  The  Council  should  open  a formal EDP, with specific targets and deadlines, which Italy should comply with. If it does not, the Council  may  impose  sanctions,  ranging  from  a  non -interest -bearing  deposit  until  the deficit  has  been corrected, or even a fine worth up to 0.5% of GDP. The Council could also decide to suspend part or all of the commitments or payments linked to Europ ean Structural and Investment Funds in Italy (recital 24 of Regulation 1303/2013 ).

At its meeting of 5 November, the Eurogroup  discussed the Commission opinion on Italy’s DBP for  2019  and  agreed  with  and  agreed  with  the  Commission  assessment.  The  Eurogroup  recalled  "the importance  of  sound  public  finances  and  their  coordination  within  the  framework  of  the  SGP  as  a 
prerequisite for durable and sustainable economic growth and a smooth functioning of EMU. The focus on sufficient debt reduction and the path to the Medium -Term Budgetary Objective (MTO) are an integral  part of the SGP."

The Eurogroup  "looks forward for Italy and the Commission to engage in an open and constructive  dialogue  and  for  Italy  to  cooperate  closely  with  the  Commission  in  the  preparation  of  a revised
budgetary plan which is in line with the SGP."

Meanwhile, on 8 November, the Commission published its Autumn 2018 Forecast , where it sets the estimates  for  Italian  GDP  growth  at  1.2%  in  2019  and  1.3%  in  2020.  The  government  deficit  is 
expected to be 2.9% of GD P in 2019 and 3.1% of GDP in 2020.

On 8 November, the Finance Minister stated  that “the Commission’s forecasts are very different from
those of the Italian Government, and are the outcome of a partial and superficial analysis of the DBP, of the budget law and of the public finances, notwithstanding clarifications and informat ion provided by
Italy...  Nevertheless,  this  technical  misstep  will  not  affect  the  constructive dialogue  between  the Government and the Commission.”. 
On 13 November, the IMF published the staff’s conclusion s  on  its  annual  Article IV visit to Italy:  it  projects annual economic growth of around 1% in 2018-20, declining thereafter. The overall deficit for 2019 is projected at about 2, 7% of GDP. For 2020 -21, deficits are projected at about 2.8% -2.9%.

The IMF also points that “Elevated yields affect the cost and availability of banks’ funding a nd weaken
their  balance  sheets.  We  project  public  debt  to  remain  at  around  130  percent  of  GDP  over  the  next  years .” 

On 13 November, the Italian Minister of Finance sent a revised DBP and an accompanying letter  to the  Commission.  The  Minister  confirmed  the  fiscal  objectives  of  the  Government,  in  view  of  contrasting  the  slowdown  of  the  economic  cycle,  while  facing  poverty  and  social  distress,  as  well 
some  “distortion”  introduced  with  recent  pension  reforms.  He  confirmed  that  the  2.4%  deficit  for 
2019 is calculated on the “trend GDP” (without the new expansionary measures) and that therefore such target is very prudent. The new DBP sets privatisations a t 1% of GDP in 2019 with the aim to have a dampening effect on the debt ratio. Recent natural events call for urgent public works, which should be considered as exceptional and would allow for the application of flexibility clauses. Last ly, the Minister notes  that  the  Government  must  inform  timely  the  Parliament  of  possible  deviations from  the  set  objectives,  and  that  in  such  a  case  the  Minister  must  take  timely  and  appropriate  measures, while respecting the Constitution.

On  the  same  day,  the  Ministry  als o  stated  that  the  Treasury  Administration  sent  a  report  to  the 
Commission,  presenting  the  “relevant  factors  affecting  the  debt  trajectory”,  as  requested  by  the 
Commission services in October.

What next?
The Commission may trigger at any time an assessment of compliance with the SGP based either on the nominal target, the structural target, on the debt level, or a combination of these. In the case of  a prima  facie observed  non-compliance  with  the  provisions  of  the  SGP,  the  Commission  has  two  main options :
• Either make a report to assess whether an Excessive Deficit Procedure could be open based on the debt criterion of the SGP, taking into account all relevant factors (including the respect the required structural adjustment), or
•Open  a Significant Deviation Procedure under the preventive arm of the SGP.
In  previous  years  (the  latest  in  May  2018,  as  stated  above)  the  Commission  made  a  report  under Article 126/3 of the TFEU.  (Versioni consolidate del trattato sull'Unione europea e del trattato sul funzionamento dell'Unione europea).

The reports conclud ed  that Italy was still compliant with the debt criteria based  on  an  overall assessment ,  including  the  broad  respect  of  the  structural  adjustment  path. 

However, since the Italian 2019 DBP deviates significantly from the structural adjustment required by the Council in July  2018, the main argument used earlier to consider Italy compliant with the debt rule  seem
s  not  to  be  longer  valid.  Therefore,  it  is  most  likely  that  the  Commission  will  prepare  a report under Art. 126(3) of the TFEU assessing compliance with the debt criterion. In this case, this would be the first time the debt criteria would be used to open an EDP. (19/11/2018-ITL/ITNET)

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