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New EU projections on Italy's finances could spark yet another war of words between Brussels and the anti-establishment government in Rome.
The European Commission — the EU's executive arm — forecasts an Italian budget deficit of 2.5% of its GDP (gross domestic product) this year, rising to 3.5% for 2020. This is due to a weak labor market and higher public spending.
The Italian 2019 deficit was the subject of heated discussions between Rome and Brussels at the end of last year. Rome had told Brussels that it would lower some of its spending plans for 2019, so its deficit would not go beyond a target of 2.04%. But initially it wanted to increase spending to 2.4% of GDP for 2019. However, that threshold was lowered after the Commission raised concerns about the country's debt levels and hinted at disciplinary action for Italy.
The 2020 estimate on Tuesday suggests that Italy will breach the EU's rules next year, as member states are not supposed to have a deficit above 3% of its GDP.
Pierre Moscovici, European commissioner for economic and financial affairs, addressed concerns that Italy was being unfairly singled out, when France too had a budget deficit that was close to 3% of its GDP.
"Italy is a bit different because this country has a very high level of debt," he told CNBC Tuesday. He said France was unlikely to see repercussions as breaching the threshold would be down to temporary measures and be a one-off. He said the issue of Italy's finances could be looked at again after EU elections later this month and expressed confidence that any successor to his role would keep to the same interpretation of the EU's fiscal rules.
The EU also said Tuesday that its 2020 deficit projection for Italy does not include a VAT increase that is due to be implemented. This is because the anti-establishment government in Rome has previously said it does not want to go ahead with the measure. As a result, there is a budget hole of about 23 billion euros ($25.8 billion) that needs to be filled in the Italian 2020 budget plan.
The European Commission forecasts also revealed that Italy — the euro zone's third largest economy — will be the slowest growing economy in the EU during 2019. Growth projections showed a mere 0.1% for GDP growth this year. Italy has the second-largest debt pile in the EU and, according to the latest forecasts by Brussels, the Italian debt-to-GDP ratio will hit 133% this year and rise to 135% in 2020.
"Renewed tensions on sovereign yields constitute a risk to these fiscal projections," the Brussels-based institution warned.
Market players have been cautious about purchasing Italian debt amid the economic environment and the policy announcements from the Italian government. There was a clear spike in yields of government bonds at the end of last year, when Rome was arguing for higher spending. The yield has an inverse relationship to a bond's price, meaning investors were cautious on lending money to the government.
"Subdued economic growth and fiscal loosening are expected to affect public finances, with both government deficit and debt projected to increase substantially over the forecast horizon," the European Commission said Tuesday in its latest economic forecasts.