The European Union announced it will look to sanction Italy with a fine after the country refused to submit a budget proposal that squares with its rules.
Italy's populist and partly right-wing coalition wants to increase the country's deficit to 2.4 percent of annual economic output in 2019, as it looks to make good on pre-election spending pledges. A previous Italian government had submitted a 2019 budget which would have recorded a deficit of just 0.8 percent.
In a statement, the European Commission — the EU's executive arm — said: "With regret, that today we confirm our assessment that Italy's draft budget plan is in particularly serious non-compliance with the Council recommendation of 13 July."
The Commission said that as Italy's spending for 2019 didn't comply, commissioners would now open a "debt-based Excessive Deficit Procedure (EDP)." The European Union member states now have two weeks to decide if they agree that an EDP against Italy is warranted. If so, the Commission will prepare a document that asks Italy how it will remedy its budget plan to abide with the EU rules. Should Rome ignore that, then officials in Brussels could sanction Italy with fines.
Speaking to CNBC's Silvia Amaro on Wednesday, Vice President of the European Commission, Valdis Dombrovskis, said it was the EU's position that Italy's budget plan would risk more austerity for Italians in the future.
"Instead of that fiscal stimulus that the government is hoping for, (we expect) there is a further slowdown of the economy," he said, before adding he was open to more discussions with Rome but the Italian government now needed to take action.
"You cannot cure high levels of debt with more debt, it is a vulnerability that needs to be addressed," he said.
Although it has the power to sanction governments whose budgets don't comply with the EU's fiscal rules, the European Commission has stopped short of issuing fines to other member states before. The rules states that deficits should not exceed 3 percent of a country's gross domestic product (GDP) and public debt must not exceed 60 percent of GDP — a far cry for many European countries.
Although Italy's draft budget envisages a deficit within the 3 percent limit, increasing the deficit from a previously lower target has angered the Commission because European member states are meant to work toward adhering to the rules, not deviating from them.
Now, the European Commission will recommend to EU finance ministers that an "Excessive Deficit Procedure" (EDP) is launched against Italy. Basically, "the EDP requires the country in question to provide a plan of the corrective action and policies it will follow, as well as deadlines for their achievement," the European Commission states, adding: "Euro area countries that do not follow up on the recommendations may be fined."
Italy's Deputy Prime Minister Matteo Salvini said earlier Wednesday that the 2.4 percent deficit target was not negotiable, but other aspects of the proposal could be discussed.
Italy's public debt pile is 131 percent of its GDP, and at 2.3 trillion euros ($2.6 trillion) is the second largest in the euro zone.
Following the announcement in Brussels, stocks listed on Italian markets held onto their morning gains while yields on 10-year Italian debt dipped to near session lows. Yield on bonds move inversely to prices.
Correction: This story has been updated to reflect that the European Union announced it will begin disciplinary measures against Italy that could result in a fine.