Italy - Developments in Individual OECD Countries

OECD Economic Outlook, June, 1993

Following a marked decline in output growth in 1992, economic activity is likely to stagnate in 1993, as income restraint, fiscal stringency and an adverse business climate continue to depress domestic demand. The recession will be cushioned by a strengthening of the real foreign balance in response to the sizeable depreciation of the lira. The weak state of overall demand has served to dampen the inflationary effect of the currency depreciation. Political uncertainties have slowed the decline in interest rates. Budgetary outcomes in the first quarter of 1993 continued to deviate widely from targets, prompting the new Government to take corrective action in May. Output should pick up again in 1994, as sustained growth in export volumes and falling interest rates stimulate investment.

Recent developments

GDP fell in the second half of 1992 for the first time since 1982, pulled down by declining gross fixed investment and lower net exports. As a result, the year-on-year rise in real GDP slowed to just under 1 per cent TABULAR DATA OMITTED in 1992, the lowest gain since 1983. High real interest rates and a worsening business climate depressed fixed investment. After a strong rise in early 1992, private consumption levelled off in the second half of the year, reflecting real wage moderation, growing labour market slack and deteriorating consumer confidence.

By the turn of the year, industry had moved into deep recession. According to survey data, industrial investment fell by 9.2 per cent in 1992 and may decline by 5 per cent in 1993. Industrial production, electricity consumption, car sales and domestic orders declined from September 1992 to early 1993, with more erratic movements in recent months. Export orders, however, rose over the same period, benefiting from the large lira depreciation.

Employment fell in the second half of 1992. The demand for labour was held back by the slump in industrial activity as well as reduced job creation in the service sector and the standstill of public works caused by the corruption scandals. Large firms in industry cut back employment by about 5 1/2 per cent in 1992, pushing up disbursements for short-time work under the Wage Supplementation Fund (CIG). Even though the labour market situation worsened, the unemployment rate appears to TABULAR DATA OMITTED have remained broadly stable since mid-1992, due to a deceleration of labour force growth.(1)

Historically low nominal wage growth and a squeeze of profit margins have permitted further disinflation in spite of the sharp currency depreciation since September 1992. In late May, the fall from the previous central parity with the DM amounted to nearly 20 per cent -- the effective rate of the lira had fallen by 16.8 per cent relative to its pre-devaluation level. So far, the depreciation has shown up in only a modest pick-up of producer and wholesale prices, which rose, respectively, by 2.9 and 4.4 per cent in the 12-month period ending February 1993. Consumer-price developments in the first half of 1993 suggest that both importing and exporting firms are accepting a cut in profit margins so as to preserve market shares in a depressed demand environment. This behaviour has been facilitated by the continuing moderation in contractual hourly wages, which grew by 2.8 per cent over the 12 months to April 1993, well below consumer-price increases. In the process, the 12-month rise of consumer prices edged downward to 4 per cent in May 1993, the lowest level since 1969.

The current-account deficit widened to 2.1 per cent of GDP in 1992 from 1.8 per cent in 1991, reflecting a deterioration of the balance on invisibles. This was partly offset by a swing into surplus of the trade balance in the second half of 1992, reflecting an unusually fast reaction of trade volumes to the lira depreciation. With booming exports and declining imports, the trade balance continued to improve in early 1993. With foreign capital returning, the overall balance on a settlements basis showed a small surplus in the first quarter of 1993.

Policies and other forces acting

The budget deficit of the central government was broadly unchanged in 1992, as higher-than-expected interest rates and cyclical revenue shortfalls led to a huge deficit overrun, despite the primary balance moving into surplus for the first time in nearly 30 years. At nearly L 160 trillion, the central government borrowing requirement exceeded the initial target by around L 35 trillion (2.4 per cent of GDP), a record overshoot. The budget deficit also exceeded the revised target of L 150 trillion, notwithstanding additional measures of fiscal restraint in the course of the year. Driven by the continuing huge deficit and by the exchange-rate-induced boost to Italy's foreign debt in terms of lira, the build-up of public debt quickened in 1992, pushing the debt-GDP ratio up to 108 per cent, nearly 6 per cent above the previous year's level.

The massive deficit slippage in 1992 has greatly added to the fiscal adjustment required to put the economy on a sustainable course of debt reduction. The 1993 budget envisages a cut in the central government borrowing requirement to L 154 trillion (9.5 per cent of GDP). Relative to the State budget deficit projected on unchanged policies, the 1993 budget implies a fiscal adjustment of 6 per cent of GDP. Under special powers obtained from Parliament, the Government began to cut primary spending in four major areas: public employment, pensions, health care and local authorities' finances. Parliament also endorsed a new privatisation plan designed to yield L 27 trillion in receipts over a three-year period to 1995.