The Chairman of the Parliamentary Budget Office (PBO), Giuseppe Pisauro, testified today at an informal hearing (in Italian) before a joint meeting of the Bureaus of the Budget Committees of the Senate and Chamber of Deputies as part of the preliminary consideration of the 2020 Economic and Financial Document (EFD) and the examination of the Report to Parliament pursuant to the provisions of Law 243/2012.
Uncertainty and risk in the macroeconomic scenario – Chairman Pisauro discussed the reasons that, in the light of the available information, prompted the PBO to endorse the trend forecasts for 2020-2021 issued by the Ministry for the Economy and Finance (MEF) on 3 April. The endorsement is primarily based on the fact that macroeconomic forecasts fall within an acceptable range, defined by the projections developed by the PBO panel of forecasters (CER, Prometeia, REF.ricerche). However, it must be considered that these ranges have been expanded by the very strong uncertainty induced by the unique nature of the pandemic, an event for which there is no historical precedent. As a result there is an extraordinarily high degree of uncertainty in the short-term outlook and an extreme variability for the macroeconomic forecasts. The divergences between the panel forecasts are the largest ever recorded in the history of the PBO: the gap between the upper and lower bounds of the panel’s GDP forecasts is more than 3 percentage points for this year and 2 points for next year.
The medium-term macroeconomic scenario for the Italian economy is clouded by unprecedented uncertainty and exposed to risks mainly tilted to the downside: health risks, associated with a potential resurgence of the COVID-19 epidemic; risks of a sharper deterioration of the international economy; risks of new financial tensions when fiscal and monetary stimulus measures will be withdrawn. These factors counsel an assessment of alternative macroeconomic scenarios for Italy other than the baseline forecasts for 2020-2021 used by the PBO panel for the endorsement of the MEF scenario. If possible adverse events, not already considered in the baseline forecasts, should materialise the latter would also worsen significantly.
Accordingly, the PBO panel conducted an exercise using unfavourable global and national scenarios. These forecasts were incorporated into the macroeconomic scenarios on the basis of the specific assessments of the shocks performed by the individual forecasters and through the different quantitative instruments used by the institutions making up the panel: 1) overall, this year’s contraction in GDP would be between almost ten and just under fifteen percentage points. In 2021 economic activity would resume growing, although at a moderate pace, with that figure still differing considerably among the forecasters. The percentage increase would be larger in the scenarios in which recession projected for this year is deeper. In terms of output, the average reduction in GDP among the different panel forecasts for next year compared with 2019 would be about seven percentage points.
The impact of COVID-19 on the public finances ‑ The health emergency, the consequent impact on economic activity and the measures taken to date to respond to this exceptional situation all affect developments in the public finances, interrupting the decline in the deficit observed in recent years, in particular in 2019. The current- legislation projections contained in the EFD, which are limited to the 2020-2021 period, show a rapid increase in the budget deficit for this year and a subsequent reduction, due to the extraordinary nature of the measures rolled out to counter the impact of COVID-19 and to the presence of the safeguard clauses providing for increases in VAT and excise duties, as well as to the expected recovery in economic activity.
The EFD does not present a policy scenario, instead providing information on a public finance scenario “with new policies” that incorporates the effects of a decree law that the Government is currently drafting for submission to Parliament to strengthen and extend the measures provided for in Decree Law 18/2020. The financial impact of the new decree would increase general government net borrowing from the 7.1 per cent of GDP in the trend scenario to 10.4 per cent in 2020 and from 4.2 per cent to 5.7 per cent in 2021. In absolute values, the decree would increase the deficit by €55.3 billion in 2020, again with respect to the trend scenario, and by €26.2 billion in 2021 (€19.8 billion of which attributable to the elimination of increases in VAT and excise duties), inclusive of the greater interest expense produced by the decree itself. In 2021, measures in addition to the deactivation of the safeguard clauses are also envisaged, increasing the deficit by about €5 billion.
If we consider the adverse scenario contained in the EFD, which envisages a more pronounced contraction in real GDP in 2020 (-10.6 per cent instead of -8.0 per cent) and lower growth in 2021 (+2.3 per cent instead of +4.7), the trend deficit and debt levels and those resulting from the new policies would all increase. The public finance scenario therefore also appears to be exposed to a high level of risk.
Net borrowing and debt with new policies have been estimated as a percentage of trend GDP, which in 2021 takes account of the revenue increases provided for by the safeguard clauses under current legislation. The EFD emphasises that the use of trend GDP represents a prudent assessment of general government deficit and debt in relation to 2021 GDP, since the deactivation of the indirect tax increases should produce an increase in nominal GDP.
The overall effects of the decree – which also extend into 2021 for measures other than the deactivation of the safeguard clauses – differ across the various balances considered in the public accounts, reflecting national and government accounting rules. Net of additional interest expenditure, the impact is €55 billion (3.3 per cent of GDP) in 2020 and €24.85 billion (1.4 per cent of GDP) in 2021 in terms of general government (accrual) net borrowing, €65 billion (3.9 per cent of GDP) and €25 billion in terms of the general government (cash) borrowing requirement and €155 billion (9.3 per cent of GDP) and €25 billion in terms of the net balance to be financed in the State budget.
Under the scenario with new policies, this year the debt/GDP ratio is expected to increase to 155.7 per cent of GDP, almost 21 percentage points higher than in 2019, while in 2021 it should fall to 152.7 per cent. According to the Government, in the years following 2020-2021 the debt/GDP ratio would be returned to the euro-area average over the next decade using a reduction strategy based on achieving primary budget surpluses and reviving public and private investment.
Purchases of government securities by the ECB: two alternative scenarios ‑ Gross issues of government securities in 2020 are expected to total €550 billion, funding a borrowing requirement estimated at €191 billion and maturing bonds estimated at €372 billion, net of the use of the Treasury liquidity account in the amount of about €13 billion as provided for in the EFD. Thanks to government securities issued so far this year, the MEF has already raised almost €180 billion from the market. Despite the tensions recorded on the financial markets since the end of February, auctions in the last two months have seen strong demand from investors, albeit with higher yields than at the beginning of the year. For example, in the dual tranche placement of a new 5-year BTP and the tapping of the 30-year BTP in a syndicated transaction on 21 April, a total of €16 billion were issued with total demand for the two instruments exceeding €110 billion. The PBO has estimated the possible impact of the ECB’s purchase programme on the Italian government securities market under a number of scenarios for the possible volume of Eurosystem’s purchases of Italian government securities. From this estimate, the net flow of securities that will have to be taken up by private investors was calculated.
In one scenario, based on developments in the previous ECB programme (which ran from March 2015 to December 2018), it is assumed that approximately 85 per cent of the total ECB asset purchase programme will involve government securities, with the remainder devoted to securities issued by the private sector. Applying Italy’s share of ECB capital (the capital key), equal to about 17 per cent, purchases of Italian government securities by the ECB would amount to about €195 billion (of which €34 billion reinvested from the principal repayments on maturing securities), or 35 per cent of total gross Treasury issues. In this scenario, gross issues of government securities net of ECB purchases on the secondary market would amount to €355 billion, with the private sector having to absorb a smaller volume of securities that it did last year (when the corresponding estimated amount was €384 billion).
A second scenario incorporates the more extreme assumption that the entire future ECB purchase programme will involve purchases of government securities only. In this case, the total amount of purchases would rise to €223 billion (about €28 billion more than in the previous scenario), or 41 per cent of total gross Treasury issues. In this scenario, gross issues net of ECB purchases in the secondary market would amount to €327 billion; net issues net of ECB purchases would be a negative €1 billion. Note that in both this scenario and in the previous one, the share of government securities held by the private sector would decrease at the end of the year.
The Report to Parliament ‑ With the new Report to Parliament pursuant to Law 243/2012, the Government has requested authorisation to modify the public finance profile, since it is necessary to adopt further measures not only for 2020 but also for subsequent years to counter the impact of the emergency on the social system and the economy, which may not dissipate this year. Hence the need to strengthen ‑ with new legislation soon to be approved ‑ the measures adopted so far to support and revive the economy, which will also be deficit financed. The existence of the exceptional circumstances associated with the COVID-19 emergency justifies the request for more flexibility to meet the additional needs of 2020.
The total deviation of net borrowing from the previous profile for which authorisation is requested from the houses of Parliament would be an additional €55.33 billion in 2020, €26.30 billion in 2021, €34.9 billion in 2022, €36 billion in 2023 and would continue in the following years. It should be noted that for the years after 2020, the authorisation requested is greater than that implied by the elimination of the VAT and excise clauses (€5 billion in 2021 and an estimated €6 billion for the following years). In his hearing on the 2020 EFD, the Minister for the Economy and Finance announced that these amounts represent specific incentives to support investment in 2021-2031.
The new measures include the complete deactivation of the safeguard clauses (which provide for increases in VAT rates and excise duties) for 2021 and subsequent years. This appears in line with the observations made on multiple occasions by the Parliamentary Budget Office in hearings before Parliament and in the published documents. Given the practice, in each budget session, of deactivating the clauses in deficit in the first year of programming, taking an approach that does not incorporate the greater future revenues seems more transparent and credible than a scenario that includes them but is accompanied by political commitment to eliminate them. To reinforce these remarks on transparency, it should be emphasised that the deficit and debt created as a consequence of the deactivation of the clauses do not correspond to room in the budget for new policies but rather reflect the impact of policies adopted in the past.
At the end of this exceptional emergency period, Italian budgetary policy will have to deal with public accounts burdened by the extraordinary interventions launched and by the collapse of revenues due to the economic crisis, in a future context no longer shielded by the presence of the clauses. Budgetary action in this worse but more transparent scenario – with respect to the legacy of past policies ‑ will have to prioritise choices to ensure the gradual achievement of a primary surplus that enables the reduction of the public debt over time, albeit in a stabilising economy, in a manner consistent with the framework of national and European fiscal rules.