NATO spending is the elephant in the room as Trump and Italian premier meet

  • Italy has grown at a slower pace than its European peers and has the second-highest debt pile in the euro area.
  • Both leaders are set to address reporters in Washington at 2 p.m. ET.
Italy's Prime Minister Giuseppe Conte (L) shakes hands with the President of the United States Donald Trump on the first day of the G7 Summit.
 Leon Neal | Getty Images
Italy's Prime Minister Giuseppe Conte (L) shakes hands with the President of the United States Donald Trump on the first day of the G7 Summit.

President Donald Trump and Italian Prime Minister Giuseppe Conte are set to meet Monday in Washington, but their conversation might encounter one big stumbling block — defense spending.

Trump has repeatedly asked NATO allies to increase their contributions and respect the 2 percent of gross domestic product (GDP) commitment towards the defense alliance. However, this might prove very difficult for Italy, the third-largest economy in the euro zone, at a time when Rome is struggling with its own finances.

"Conte's big disadvantage is Italy's difficult budgetary situation. Growth forecasts are down, which is putting a squeeze on revenues, even as government bond yields are up, which is putting a squeeze on expenditures," Erik Jones, professor of European Studies at John Hopkins University, told CNBC via email, ahead of the meeting.

Jones added that even if the European Commission, which oversees fiscal discipline in the European Union, allows Italy to spend more, "the flexibility is not enough to cover the government's complex and over-contradictory agenda, and an increase in defence spending is simply not on the list."

The current Italian government is a coalition between the leftist and populist party Five-Star Movement (M5S) and the far-right party Lega. The executive led by Conte, a law professor, has promised to increase public spending, including with pensions. Italy is also dealing with a migration crisis that adds to its expenses, while its banking system has yet to solve a huge pile of bad loans.

At the same time, Italy has grown at a slower pace than its European peers and has the second-highest debt pile in the euro area. Data from the European Commission showed that its GDP rose 1.5 percent last year and is expected to slow down to 1.3 and 1.1 percent in 2018 and 2019 respectively.

"Conte could deny the request for more spending on the NATO budget and as usual Trump won't be happy with it," Christiane von Berg, economist at BayernLB in Munich, told CNBC via email.

However, she added that "the question is if Trump likes Conte or not. In most cases, the comments in the press conference or Trump's tweets after that are mostly biased by the personal preferences — the range here is between Macron, more as a friend, and Merkel, more as an opponent," she said.

"As Conte is a more moderate representative of a right-wing government, he could be situated somewhere in the middle, as a tough negotiator who could be respected by Trump," Berg added.

Trump and Conte met for the first time last month during a G-7 meeting in Canada. At the time, Trump tweeted that Conte was "a really great guy" and that "the people of Italy got it right."

The two leaders have at least two points of convergence: Russia and the migration crisis. Conte has said that he agrees with Trump over Russia's return to the G-7 table. And when it comes to migration, both focus on its consequences.

"I think Conte can shift the conversation to security areas where they agree," Jones said.

Conte "will probably argue that Libya is a mess that Obama created, which will resonate well with Trump, that migration is very hard to control as a consequence, and that this migration poses a risk of terrorist attacks against Europe, U.S. interests in Europe, and even the United States," he added.

Both leaders are set to address reporters in Washington at 2 p.m. ET.