Macron's efforts to appease Yellow Vest protesters could fuel another rift in Europe

Key Points
  • These new measures are expected to increase the country's fiscal deficit further and breach the EU's rules once again.
  • In this battle over extra spending, Italy has accused Brussels of treating different countries in different ways.

President Emmanuel Macron's promise of new tax cuts in France could create further tension between Italy's anti-establishment government and the European Union, analysts told CNBC.

In an attempt to stop months of ongoing protests at home, Macron announced Thursday income tax cuts totaling 5 billion euros ($5.6 billion). He also said that worker bonuses of up to 1,000 euros wouldn't be taxed; single parents would get extra support; and no schools or hospitals would be closed until 2022.

These new measures are expected to increase the country's fiscal deficit further and breach the European Union's rules once again. Analysts at Berenberg Bank estimate that France's fiscal deficit will reach 3.2% this year, even excluding these latest measures. European rules state that member nations should not surpass a deficit threshold of 3%.

Why is France protesting?

Double standards?

"That is as sure as eggs is eggs. The Italian government has done it before and will do it again," Florian Hense, economist at Berenberg told CNBC when asked if Rome is likely to use the French situation to accuse Brussels of double standards.

Italy has been at odds with the European Commission, the EU's executive arm, over spending since the current anti-establishment government took power in June last year. The executive in Rome increased public spending — something that Brussels criticized and tried to curb, arguing that Italy was disrespecting the EU's fiscal rules.

In this battle over extra spending, the Italian government has accused Brussels of treating different countries in different ways. This is because France has breached fiscal rules on several occasions without receiving serious punishment, such as a fine, from the EU.

Italy's Deputy Prime Minister Matteo Salvini said in December that the Commission must treat Italy and France in the same way regarding their spending plans.

However, the Brussels-based institution made it clear that the fiscal situations in Italy and France are different and require different approaches. Whereas in Paris, Macron is still presiding over a reform agenda, Rome has shown little desire to improve the structural foundations of the Italian economy. At the same time, Italy has the second highest pile of public debt in the euro zone at about 130% of GDP (gross domestic product).

"This is the perfect story for Salvini. It gives him more flexibility," Claus Vistesen, economist at Pantheon Macroeconomics, told CNBC over the phone about the latest French policies.

He argued that Macron's measures give more power to Salvini and other Italian politicians to argue in favor of their country's fiscal expansion.

Italian finance minister: No backlash from US over Belt & Road

The relationship between Brussels and Rome calmed at the end of last year, when Italy agreed to lower a previous deficit target to 2.04% of GDP from 2.4%. However, in early April, it was revealed that Italy is expecting a budget shortfall amounting to 2.4% of GDP this year — ramping up the possibility that the Commission takes issue with Rome's finances once again.

"Expect the conflict between the EU and the Italian government to pop up again this summer," Hense told CNBC via email.

"This time around the European Commission may be more willing to escalate the conflict a bit further than last year," he said, adding that Brussels would not fear an immediate populist backlash with the European elections, due in late May, having passed.

Ricardo Garcia, a euro zone economist at UBS, told CNBC that "the bigger issue (in Italy) is whether the safeguard clauses, in particular the VAT (value-added tax) hike will be implemented or not."

Au automatic hike in VAT is scheduled in Italian law to start in 2020, however the government has shown little political will to go ahead with it. As a result, there are doubts if the finance ministry will find alternative measures to fix a hole of about $26 billion.