The The Governor's Governor's
Concluding Concluding Remarks Remarks
Annual Report
Rome, 29 May 2020
year
financial
126th
th
Year
126
2019
Financial
The Governor's
Concluding Remarks
Annual Report
2019 - 126th Financial Year
Rome, 29 May 2020

Ladies and Gentlemen,
Since the beginning of the year, the rapid spread of the new coronavirus
all over the world has led to an extremely serious public health emergency.
Millions of people have been affected and hundreds of thousands have lost
their lives. In order to contain the pandemic, it has been necessary to introduce
drastic measures to curtail people's movements and social interaction, to
suspend teaching in schools and universities, and to temporarily close down
many productive activities. This is a crisis without parallel in recent history
and it is putting the organization and resilience of the economy and society
under severe strain.
The propagation of the virus has had serious financial repercussions, with
a massive shift of funds towards assets deemed to be safer and an abrupt fall
in market liquidity. The prices of oil, shares and the bonds of companies with
lower credit ratings have plummeted. Sudden capital outflows have led to a
marked depreciation in the currencies of the emerging economies. The risks
of instability have greatly increased.
The immediate effects on worldwide productive activity have been
pronounced. Those that have yet to be recorded are hard to estimate. They
will reflect non-economic factors first, such as the course of the pandemic,
with the possible appearance of new outbreaks, and the duration of the
lockdown measures. Much will depend on the scale and effectiveness of the
policies launched in various countries, on the confidence of households and
firms, and on how much this experience changes our behaviour.
Disinflationary pressures could be strong and persistent, and a sign of
this is the decline in short- and long-term inflation expectations in the major
economies. The depth of the recession could be magnified by new turbulence
in the markets, by the heightening of the protectionist tendencies that have
emerged in the last two years, and by the spread of firm bankruptcies across
economies sufficient to trigger systemic crises in the financial sector.
The international economy and the euro-area economy
In the scenario analysed by the International Monetary Fund in early
April, which assumes an abatement of the pandemic in the second half of
the year, the easing of the containment measures and the implementation of
large-scale public interventions to support the economy, world trade declines
by 11 per cent in 2020. GDP could fall by 3 per cent, in contrast to the 3
per cent increase forecast in January; this decrease is likely to be concentrated
in the first half of the year, but the strength of the subsequent recovery
remains highly uncertain. The risks in this scenario, which foresees poorer
performances than those recorded during the global financial crisis, are tilted
toward the downside (Figure 1).
The Eurosystem's projections will be published in a few days for the
ECB's Governing Council meeting. According to the European Commission's
estimates, the fall in production in the euro area will be close to 8 per cent, in
line with the average of the latest consensus forecasts, which lie within a range
of between 5 and 13 per cent.
The reaction of governments, central banks, and supervisory authorities
in most countries has been swift and substantial. The advanced and emerging
economies decided on extensive increases in spending and reductions in tax
revenues: the IMF estimates that the measures adopted up to early April
were close on average to 6 and 2 percentage points of GDP respectively;
other interventions have subsequently been decided. Public guarantees for
particularly large sums have also been introduced on bank loans to households
and firms in several countries.
Central banks have used multiple instruments to make monetary
conditions more accommodative, to counter the tensions on financial
markets and to support lending to the economy. The composition and size
of the measures introduced by the monetary authorities have reflected the
specificities of the institutional frameworks and the role played by banks
and markets in channelling credit to the various economies, as well as the
differences in the seriousness of the repercussions of the pandemic. From the
end of February until now, purchases of securities and loans to the private
sector have increased the size of central banks' balance sheets in relation to
GDP by 13 percentage points for the Federal Reserve, by around 8 points for
the Bank of Japan and the Bank of England and by more than 6 points for
the Eurosystem. Net of gold reserves, this share has risen to 33, 114, 34 and
42 per cent respectively (Figure 2).
The ECB Governing Council's intervention was immediate. In order to
sustain lending to households and firms, new refinancing operations for banks
were introduced and the conditions applied to the existing ones were improved.
The total amount of funds available for targeted longer-term operations was
raised to around €3,000 billion; their cost, which was already negative, has
been further reduced. To enable intermediaries to benefit in full from these
loans and to limit the possible procyclical consequences on the availability of
collateral of any downgrades of public and private sector securities by rating
agencies, the eligibility criteria and the control measures for the risks applied to
assets that can be used as collateral were also relaxed.
To counter the risks for economic activity and ensure the orderly
transmission of monetary policy to all euro-area countries, which is hindered
by widening yield spreads, the Governing Council first strengthened its existing
asset purchase programmes (APP), increasing their volume to €360 billion
until the end of 2020, and then introduced a new extraordinary programme
specifically designed to deal with the consequences of the emergency (the
pandemic emergency purchase programme or PEPP). The latter has an
envelope of €750 billion this year to carry out purchases of public and private
sector securities in a flexible manner, with changes to interventions so as to
increase their effectiveness in the time frames, countries and market segments
where particular tensions might arise.
In March and April, the Bank of Italy purchased Italian government
securities at a rate of more than €10 billion a month under the APP alone;
there were further interventions, for even greater amounts, as part of the new
purchase programme.
The range of interventions decided to date is unprecedented; the Council
announced that, if necessary, the amount of the extraordinary purchase
programme will be increased and its composition reviewed. We stand ready
to make further use of the other instruments at our disposal to guarantee
that all sectors of the economy can benefit from accommodative borrowing
conditions and an ample availability of funds and to ensure that inflation
makes a steady return towards the objective of a level below, but close to, 2
per cent.
Steps must be taken to counter the significant risk of low inflation and the
marked fall in economic activity from translating into a permanent reduction
in expected inflation or into the possible resurfacing of the threat of deflation
(Figure 3). Also as a result of the high levels of public and private debt in the
euro area as a whole, this could trigger a dangerous spiral between the fall in
prices and that in aggregate demand.
The measures adopted have helped to ease the tensions on financial
markets that have nevertheless led to an increase in interest rates in all
countries, particularly so in Italy. The yield spread between Italian ten-year
government securities and the corresponding German Bund, which had been
less than 140 basis points for most of February, widened rapidly to about 300
points towards mid-March; yesterday it stood at 185 points. The fact that
it has narrowed over the last few weeks is comforting; it reflects the action
of monetary policy and the European initiatives to support production and
labour and to boost investment. However, the spread is still almost double
those of Spain and Portugal, at figures not consistent with the fundamentals
of our economy, which must however be consolidated and upon which we
must build (Figure 4).
The action taken by the European supervisory authorities has also aimed
to support the economy with measures designed to prevent the rules on
prudential treatment of loans from exacerbating the recession. The full use of
capital and liquidity buffers has been permitted. It has been made clear that
the moratoriums on loans must not have undue consequences for accounting
and prudential classification.
Banks have been invited not to distribute dividends, not to repurchase
their own shares, and to be particularly prudent in paying the variable parts
of remuneration to executives. Thanks to these measures, Italy's banks can
count on further capital for continuing to finance the economy and dealing
with any losses that might arise on loans.
Europe's institutions have made the use of structural and investment funds
and the rules on State aid more flexible and have activated the general escape
clause of the Stability and Growth Pact, which permits temporary deviations
from public finance objectives. Large-scale expansionary budget measures have
been launched at national level. According to the European Commission's
assessments, the size of the discretionary policy interventions in the euro area
has exceeded 3 percentage points of GDP on average (Figure 5).
The European Council and the Eurogroup have also approved the
introduction this month of two new instruments designed to provide financial
support to countries affected by the crisis, for a total sum of €340 billion. A
European Commission fund that will raise resources on the financial markets
will be able to grant loans, at favourable conditions and on a case-by-case basis,
worth a total of €100 billion to EU countries to be used for temporary wage
supplementation, if steady employment relationships are maintained, or for
income support for the self-employed (Support to mitigate Unemployment
Risks in an Emergency, SURE).
The European Stability Mechanism's new precautionary credit line
(Pandemic Crisis Support credit line) will be able to provide loans with an
average duration of up to ten years, to be used for the direct and indirect
costs of prevention, treatment and healthcare linked to the pandemic. Each
country will be able to obtain a credit line, at almost zero cost, for an amount
not exceeding 2 per cent of their 2019 GDP; the maximum total amount
that can be provided is around €240 billion; loans will not be conditional on
adopting economic policy measures and will only be subject to oversight on
the allocation of the resources used, as part of the European semester.
The European Investment Bank has also introduced a series of emergency
measures and established the Pan-European Guarantee Fund (EFG) to
mobilize resources of up to €200 billion, mainly to support lending to
small and medium-sized enterprises. The Commission has just presented a
detailed proposal for the establishment of a new recovery instrument (Next
Generation EU).
The short-term outlook for Italy and the Government's
interventions
The epidemic took hold in Italy earlier than in other European countries.
Drastic social distancing measures were adopted to combat the virus and
entire production sectors shut down for several weeks, which contribute
nearly 30 per cent of national value added and account for around 35 per
cent of total employment. The impact has been mitigated by recourse to
teleworking. Other sectors not directly affected by the containment measures
were also inevitably hard hit, above all the transport sector.
Italy's GDP recorded a fall of around 5 per cent in the first quarter of
2020; the available indicators point to an even bigger decline in the second
quarter. As of mid-May, air traffic was down by over 80 per cent compared
with last year, motorway traffic by almost 50 per cent, gas consumption for
industrial use by almost 15 per cent and electricity consumption by 6 per
cent. In the last few months, business confidence indicators and purchasing
managers' indices have tumbled.
The measures to combat the virus have slowed its spread; the gradual
but clear decrease in the rate of infection made it possible to start reopening
production at the beginning of this month. The consequences of this crisis
for our daily lives, for how we interact with others, and for the economic
decisions of households and firms, may linger for some time to come. It will
take time to return to normality, and things will presumably be different from
what we were used to until just a few months ago.
The Italian government has acted according to the same priorities that
have guided interventions at international level, focusing on the response
capacity of the health sector and on help for workers, households and firms.
The measures launched between March and May raise this year's government
deficit by around €75 billion or 4.5 per cent of GDP.
The social welfare system, already streamlined and reinforced following
the sovereign debt crisis, has been temporarily strengthened by extending
the possibility of recourse to wage supplementation schemes and lengthening
the duration of unemployment benefits. Support has been introduced for
the self-employed, as have specific transfers for categories of workers only
partly covered by social safety nets and for households in difficulty. There are
further interventions in favour of firms, particularly transfers are envisaged
for smaller firms whose turnover has fallen sharply.
To support the liquidity of small and medium-sized enterprises and of
households, it has been made possible to take advantage of legally binding
moratoriums on outstanding loans. Additional moratoriums have been
implemented through voluntary agreements. The latest available data indicate
that as of mid-May, banks had received nearly 2.4 million applications overall,
for a total of just under €250 billion; of these, 84 per cent have been approved
and 2 per cent refused, while the remaining share is being assessed.
To facilitate firms' access to bank credit, public guarantees have been
made available to the tune of around €500 billion, six times the total of
those available at the end of 2019. Based on the latest statement of the task
force set up to promote the implementation of the measures adopted by the
Government to support liquidity, as of 26 May, the Central Guarantee Fund
had received about 395,000 loan applications, for a total sum of €18 billion.
Some 90 per cent of applications are for loans of up to €25,000, which
are entirely guaranteed by the State. The potential loans to medium-sized
and large enterprises guaranteed by SACE and currently being evaluated
and processed by banks amount to around €18.5 billion. The granting of
guarantees is aimed at preventing liquidity shortages from turning into
irreversible crisis situations; even assuming normal enforcement rates,
the amount of guarantees available means that looking ahead, the public
finances may be encumbered with significant outlays, albeit over a longer
period.
The abundant liquidity provided by the Eurosystem and the guarantees
made available by the State are making it possible to meet firms' demand
for emergency funding. In the two months March and April, lending to
non-financial corporations increased by €22 billion, after decreasing by
€9 billion in the previous 10 months; annualized growth was equal to
almost 17 per cent (Figure 6).
While indispensable, support measures for firms that focus on bank
lending could destabilize their financial structure, increasing their indebtedness
to an excessive degree. The Government has enacted measures to facilitate
the capital strengthening of firms. Tax incentives have been introduced for
medium-sized enterprises to help both firms making capital increases by the
end of 2020 and those subscribing them. The largest firms will benefit from
direct forms of public support via the Cassa Depositi e Prestiti.
The timing and strength of the recovery that will follow the emergency
phase depend on factors that are hard to predict. In mid-May, we presented a
scenario analysis for the Italian economy based on alternative hypotheses on
the duration and extent of the epidemic, its impact on the global economy
and its financial repercussions. The estimates will be updated as part of the
Eurosystem staff macroeconomic projection exercise and will be published
on 5 June.
In the baseline scenario, the fall in production in 2020 would be equal
to 9 per cent, greater than that suffered at two different times between 2008
and 2013; the drop would be concentrated in the first two quarters of the
year, with a partial recovery starting in the summer (Figure 7). Without
the support for demand provided by the fiscal policies set out so far, the
contraction in economic activity would exceed 11 per cent. Debt moratoriums
and public guarantees on new loans to firms drastically reduce the risk of
further amplificatory effects due to a widespread liquidity crisis. In 2021,
GDP would recoup about half of the fall. These estimates assume that the
containment of contagion at national and global level will continue.
A second scenario based on more pessimistic, though not extreme,
assumptions regarding the evolution of the epidemic, the magnitude of
the drop in world trade and the intensity of the deterioration in financial
conditions, would see GDP fall by 13 per cent this year, and a much slower
recovery in 2021. In both scenarios, about half of the fall in GDP would be
due to the restrictions connected with the provisions suspending business
activity and the consequent contraction in disposable income; the remaining
half would reflect the slowdown in world trade and the virtual halt in
international tourist flows.
In any case, the fall in investment would be especially sharp, owing to
the marked uncertainty regarding the economic outlook. This is already
being confirmed by the traditional surveys of firms, which show a large and
widespread downward revision of investment plans; for the first time since
2014, a contraction in investment has been reported, to a similar degree in
industry and services, greater for small businesses.
The impact of the epidemic on the various economic sectors has been
uneven. The immediate effects have been stronger in transport, catering,
accommodation, recreation and culture, personal services, and in large
swathes of retail trade, all sectors brought to a near halt by the restrictions
imposed by the containment measures. Even with a gradual easing of the
distancing measures, recovery in these segments will depend on the time it
takes for the fears accumulated in the past months to be dispelled.
A significant share of the demand for these sectors' products and
services relies on tourism, to which over 5 per cent of GDP and 6 per cent
of employment is directly attributable. After the abrupt stop caused by the
epidemic, tourism is expected to recover only partially in the second half
of this year and in the next; the recovery will be held back above all by the
reduction in the number of foreign visitors. This will result in a narrowing of
the contribution of tourism to the surplus of the balance of payments, which
has traditionally been large.
In retail trade, the upward trend in the use of digital sales channels has
intensified. The share of online purchases made with electronic cards, equal
to 23 per cent last year, rose to 40 per cent in April, buoyed by the food and
clothing sectors, and by retail sales of personal or household goods. In the
two months March and April, online purchases of food products and basic
necessities from large retailers grew by 170 per cent compared with the same
period in 2019. These trends are likely to continue in the coming months,
accelerating the recomposition of supply, with further developments in
business models featuring a mix of traditional and online sales, including for
smaller retailers. This process creates new opportunities, but also transition
costs; it will tend to reward the most dynamic and innovative firms.
The recession will have significant repercussions on the labour market.
Compared with other countries, the impact on employment in Italy is mitigated
by the freezing of layoffs and ample recourse to wage supplementation,
which has affected around 7 million workers so far, almost half of all private
sector payroll employees. Labour market participation has decreased by
almost 300,000, discouraged by the worsening economic outlook and the
restrictions on mobility and production that remain in some sectors. Against
this backdrop, the unemployment rate (which declined to 8.4 per cent in
March, almost 1 percentage point lower than in February) does not provide
a full picture of the true impact of the epidemic.
The fall in economic activity has reduced new employment opportunities,
affecting above all young people entering the labour market for the first time,
seasonal workers, fixed-term employees, and apprentices. It is having a greater
impact on the jobs traditionally performed by self-employed workers and on
undeclared labour, which is still too widespread in our country.
In the short term, social safety nets are countering the impoverishment
of large portions of the population and a widening of economic differences,
increased by the greater presence of low-income workers in the most affected
sectors. Limits to the availability of liquid financial assets among
lowerincome households can amplify the consequences of the shock, leading to
a significant increase in the number of households unable to maintain an
acceptable standard of living.
The recession and the measures adopted to mitigate its consequences
are having a strong impact on public finances. For 2020, the Government's
macroeconomic outlook envisages a deficit of 10.4 per cent of GDP and an
increase of 21 percentage points in the debt-to-GDP ratio, to 156 per cent.
Such a burdensome debt legacy requires full awareness of the scale of the
challenges ahead. Italy's economy must find the strength to break free from
the inertia of the past and to restore a capacity for growth that has been
stunted for too long. Despite the deep wounds inflicted by this crisis and
the lingering effects of the previous ones that have yet to be absorbed, there
will be no shortage of opportunities in the future, and Italy has the means to
exploit them.
Returning to the path of development
The pandemic and the recession have opened up extremely uncertain
scenarios that make it very difficult to map out what form future equilibriums
will take. Uncertainty is another reason to act immediately to strengthen our
economy and to press on with that comprehensive package of reforms whose
course, for the most part, has already been charted. Only time will reveal the
results of our actions, but a comprehensive plan makes the future clearer,
shapes expectations, and bolsters confidence; it can draw on a number of
strengths that have become apparent in these past difficult years.
Thanks to the recovery of our exports' competitiveness and to the
high trade surpluses recorded since 2012, Italy's net external position has
reached substantial equilibrium. The financial conditions of banks and firms
are better today than in 2007. Italian households' net, real and financial
wealth is high: 8.1 times disposable income against 7.3 times on average
in the euro area. Household debt is low by international standards, and is
concentrated among those with a greater debt repayment capacity; at the
end of 2019, it was less than 62 per cent of their disposable income, against
95 per cent for the euro area on average (with a peak of over 200 per cent
in the Netherlands), 96 per cent in the United States, and 124 per cent in
the United Kingdom. At the end of 2019, corporate debt amounted to 68
per cent of GDP, compared with 108 per cent in the euro area and more
than 150 per cent in France and the Netherlands. In the private sector as a
whole, debt was equal to 110 per cent of GDP, more than 50 points lower
than the euro-area average (Figure 8).
These data nevertheless reveal a disconnect between the resources available
and the country's capacity to utilize them to regain the path of sustained and
balanced growth, to return Italy as swiftly as possible to levels of well-being
not experienced for more than ten years now, and to offer future generations
the chance to improve their standards of living, health and general culture.
The demographic trends are not favourable: even taking account of
the contribution of immigration (estimated by Eurostat to amount to
approximately 200,000 persons on average per year), the population aged
between 15 and 64 will decline by more than 3 million over the next 15
years. Nevertheless, assuming that the trends of the last ten years continue in
a similar vein, higher female labour market participation and the extension
of working lives can enable employment to make a positive contribution
to growth, of more than half a percentage point per year. To restore GDP
growth to around 1.5 per cent (the average annual level recorded in the ten
years leading up to the global financial crisis) will require an average increase
in labour productivity of a little under 1 percentage point per year (Figure 9).
This objective calls for a sharp rise in tangible and intangible capital
investment, and for productive efficiency gains comparable to those observed
in the other main European countries. In any event, its achievement
presupposes a break from the recent past; it calls for the resolution of those
structural problems, which for too long now we have failed to address, and
which have become increasingly pressing in a new technological context and
a more integrated world. Last year, the ratio of investment to GDP was still
three percentage points below what it was in 2007: this year it will decline
further (Figure 10).
The lags with respect to the most advanced economies cannot be
recouped by increasing public expenditure without first improving its efficacy
and without making structural adjustments to the economy. While it will
remain extraordinarily accommodative for a long time, monetary policy is no
substitute for the measures needed to raise growth potential.
Resources must be channelled to where the social returns are highest; to do
so requires ongoing and substantial improvement in public services, with the
necessary simplifications and the right distribution and mindful assumption
of responsibilities. The technologies used and the quality and motivational
levels of human resources have a profound impact on how administrations
operate. We have learnt a lot from this crisis; it has demonstrated the need
to fast track the digitalization of working processes and to rethink their
organization. The heavy turnover expected in public administration in the
coming years will make it possible to hire young, highly-skilled and motivated
workers from a variety of backgrounds; we must support and invest in them.
The accumulated lag in infrastructure must be overcome, as regards
both traditional infrastructure, which must be upgraded and made more
efficient, and highly innovative infrastructure, such as the telecommunication
networks, which are necessary to support the technological transformation
of the Italian economy. The fixed broadband network reaches less than one
fourth of households, compared with 60 per cent on average in Europe, and
the South of the country is especially penalized. The European Commission
ranks Italy nineteenth among the EU states for connectivity.
As has been underlined for too many years now, the quality of human
capital must be improved, by tackling the underlying problems of schools,
universities and the research sector. A better education system generates
higher returns; a country that innovates creates better and more widespread
job opportunities. The differences in educational outcomes across local
territories perpetuate and increase inequalities of income and opportunity.
In many cases, school and university buildings fall short on security, comfort
and technology, while teacher quality and motivational levels are of vital
importance.
Households must also be convinced of the importance of investing in
knowledge: Italy ranks second last in the European Union on the proportion
of young people aged between 25 and 34 with tertiary education; it is ranked
first for the share of young people aged between 15 and 29 who neither study
nor work. This is a loss of individual opportunities that exposes them to the
risk of exclusion and is a waste for society as a whole.
Notwithstanding the high degree of efficiency and quality for which
research in Italy in renowned, the State invests about €8 billion in its
university system, half of what countries similar to Italy invest relative to
GDP. Even just the reallocation of a modest portion of the government
budget would lead to a marked improvement in youth training and in the
ability to produce innovation. This would strengthen Italy's ability to tap
into the European resources allocated to research and would also benefit
the productive sector, which invests barely 0.9 per cent of GDP in research,
compared with the 1.7 per cent invested on average by OECD countries
(Figure 11). The hiring of new researchers, envisaged in the recent decrees,
marks a significant break with the past.
To stay competitive, businesses must invest in new technology and
innovation, open up to sources of external funding and outside professional
expertise, and attend to staff training: only by raising productive efficiency
and the quality of the goods and services provided can they set their sights
on growth. The available tax incentives are substantial by any measure. The
positive results of the allowance for corporate equity (ACE) and Industry 4.0
can be built on, by rationalizing and stabilizing these instruments, and by
providing certainty to those willing to take up the innovation challenge.
The crisis in the tourist sector has made immediately appreciable the
economic importance, and not only, of Italy's natural and historical-artistic
heritage that goes to the heart of this country's identity. This heritage must
be protected and made increasingly easy to access in ways that are safe for
tourists, so that after the pandemic it can contribute again to growth, even
more so than before. The opportunities that will come from the inevitably
faster transition to an economy with lower greenhouse gas emissions and
more digital technology must be seized.
The public resources needed to finance all these measures and to favour
the productive use of private funds must come from a restructuring of the
public budget, the recovery of the tax base, a reduction in the risk premium on
government bonds, and the pragmatic and judicious use of European funds.
Excluding interest payments, Italy's public expenditure is comparable with the
average for the euro area as a whole, even if the share of pension expenditure
is higher and is destined to increase further, driven by the ageing population.
Tax revenues are also broadly aligned with the average of the other countries,
even if the tax wedge on labour is higher. Where Italy differs most from the
other advanced economies is in the extent of its underground economy and
tax evasion, which translates into an excessive tax burden for those who play
by the rules. The resulting injustices and profound distortionary effects dent
the economy's ability to grow and firms' capacity to innovate; they generate
privileges of position that damage the efficiency of the productive system.
A comprehensive rethinking of the tax system that also takes account of the
changes in the social welfare system must set itself the objective of reducing
the tax levy on the factors of production.
Policies, reforms and actions that return Italy to the path of sustained,
widespread and balanced growth would also help to maintain relaxed
conditions on the financial markets, thereby lowering the average cost of
the debt and favouring the gradual and necessary rebalancing of the public
accounts. The underlying uncertainty that weighs on Government bond
yields and makes them so high compared with countries that have similar
characteristics, can only be dispelled through economic policy choices that
look beyond the short term.