Remarks by Luigi Federico Signorini at the
presentation of the Bank of Italy's report on
economic developments in Lombardy
Luigi Federico Signorini
Deputy Governor of the Bank of Italy
Milan, 5 July 2017
Italy has emerged from the longest and deepest recession in peacetime
memory. Slow and hesitant at first, the recovery is gradually strengthening,
and for two years now the trend has been clearly positive. Of course, the road
ahead is still long and fraught with uncertainty. Notwithstanding its recent
growth, Italy's GDP remains seven percentage points below the level of early
2008. Spain's is about to reach that level, while France and Germany have
already outstripped it by five and eight points respectively. Nor should the
risks on the horizon be underestimated. And yet, even taking account of the
lost ground that will be difficult to make up, recent economic developments
have been undoubtedly favourable.
In the first three months of this year Italy's GDP grew by 0.4 per cent,
exceeding the expectations of the leading forecasters.
Exports have continued to expand. In the last few years the growth in
Italian export sales has outpaced that in demand from outlet markets. This
was not the case between 1999 and 2009, when Italian firms struggled to
keep up with competition from emerging economies and even from the other
developed countries. The improved export capacity of Italian firms has been
especially important as it has supported GDP growth in the most testing times
of the crisis. Since 2010 Italy's market shares have stabilized. Since 2013
there has been a surplus on the current account of the balance of payments.
Italy's net foreign debtor position has diminished rapidly in recent years,
from 25 per cent of GDP in 2013 to 15 per cent at the end of last year.
The investment-to-GDP ratio had shed five percentage points since
2007, when in 2014 it hit a postwar low of 17 per cent. The fall in investment
was one of the most conspicuous signs of the crisis: the poor economic
outlook discouraged it and its collapse in turn lowered GDP and productivity,
making the outlook even worse and triggering a vicious circle. Years of low
investment led to fixed capital not being renewed, lowering production
capacity and contributing to weak GDP growth on the supply side too.
However, little by little since 2014 investment has recovered, though
the trends by sector and type vary greatly. Purchases of capital goods -
machinery, equipment and transport equipment - have risen by almost 11 per
cent in the last three years: as a share of GDP they are back near pre-crisis
levels. By contrast, spending on construction has lagged behind for longer.
Between 2008 and 2014 it contracted uninterruptedly, weighing heavily on
the overall investment-to-GDP ratio, which to date has hardly risen at all. Yet
even this sector has shown some signs of a revival starting last year. The
signs are clearer in the residential sector, which has long benefited from tax
incentives for the renovation of existing buildings, while the non-residential
construction sector is still struggling to pick up and public investment has
been on a trend decline since 2010.
Why has investment returned to growth, at least in machinery and
equipment? The Bank of Italy's econometric model can give us some
quantitative answers. According to our estimates,1 almost half of the growth
recorded is attributable to the improvement in the credit market: the strongly
expansionary monetary policy stance has recently led to a reduction in the
cost of capital and fostered more relaxed supply conditions. Yet the gradual
improvement in demand and increased confidence on the part of firms have
also contributed by one third; if the favourable economic situation continues,
then this factor's contribution should increase.
Lastly, government policies to encourage spending on capital goods
have also made a significant contribution, which we estimate at around one
fifth of the total. As is well known, various tax incentive schemes for
1
See the box 'The trend in investment and the cyclical recovery' in the Bank of Italy's Annual
Report for 2015, 2016.
investment have been set up and implemented in recent years, especially in
favour of advanced technology. The results of the Bank of Italy's annual
business survey (to which, as always, the Bank's regional research network
has made a vital contribution) show that in 2016 tax benefits for investment
provided considerable support, and will do so to an even greater extent in
2017. We estimate that these benefits are going to boost investment by 3.5
percentage points overall in the period 2016-18. The fact that they are of
limited duration is also important: part of their short-term effect is that firms
bring forward their spending plans.
Our surveys show that in 2016 investment was higher for small and
medium-sized manufacturers, which had been particularly hard hit by the
recession. They also indicate that investment will expand further this year:
the share of manufacturing firms that plan to increase investment in 2017 was
much higher than the share of those planning to reduce it. The slowdown
recorded in the early months of the year is therefore expected to be
temporary.
Household spending also continues to rise. The recovery has been
driven until now by the durable goods sector, which had contracted more
than the others in the early stages of the crisis, but in recent years has fared
comparatively better owing to the highly accommodative financial
conditions. Loans to households in the form of home purchase mortgages and
consumer loans have increased considerably. The latest available data show
that the increase in household spending is now extending to services.
Real estate wealth, which accounts for over 60 per cent of net Italian
household wealth, has turned upward again thanks to the initial signs of a
recovery in prices. Confidence indicators remain high. Yet the main driver of
consumption is the improvement in income levels and prospects. Last year
households' disposable income increased in real terms by 1.6 per cent,
double the figure for 2015; it continued to grow, though at a slightly slower
rate, in the first three months of this year too.
The consequent improvement in households' economic conditions is
partly due to net job creation. Employment has been increasing since the
second half of 2014, though with some fluctuations in the monthly data. The
growth is wholly attributable to payroll employment, which has now
exceeded pre-crisis levels, while the number of self-employed workers has
continued to fall.
The recovery in employment has been greater than the mechanical
effect of the increase in GDP. This may be partially ascribable to the results
of various measures introduced over the last few years, such as those on
social security contribution relief, and the reform process that began with the
Fornero Law (Law 92/2012) and continued with the approval in 2015 of the
legislative decrees of the Jobs Act. According to our estimates,2
these
measures have especially benefited payroll employment and permanent
contracts.
This is an overview of the recent changes in the main macroeconomic
variables. But what is the current situation and what is the short-term
outlook? For the quarter just ended, our estimates suggest overall GDP
growth more or less in line with that of the previous quarter. The latest
quantitative and qualitative indicators all point to a fresh increase in
economic activity in services and to a return to growth in manufacturing,
which in recent months had stalled a little.
2
Sestito, P., and Viviano, E. (2016) 'Hiring incentives and/or firing cost reduction?', Banca
d'Italia, Questioni di Economia e Finanza (Occasional Papers), 325.
Forecasts beyond the short term are always uncertain. However, our
central projections continue to be moderately favourable. On 9 June we
published the Bank of Italy's macroeconomic projections prepared as part of
the Eurosystem staff macroeconomic projections: these suggest that GDP
will rise by 1.0 per cent this year, before accelerating to 1.2 per cent in the
subsequent two years. The projections will be updated as usual in the
Economic Bulletin to be published on 14 July, incorporating the new data
which will become available in the meantime. Just the revised GDP estimates
for the last quarter of 2016 and the first quarter of 2017, released by Istat
after the closure of our projections exercise, raises the outlook for the growth
achieved so far in the current year by about 0.3 percentage points.
Growth in global demand is expected to continue and leading
international forecasters are actually predicting that it will strengthen this
year and the next. Nothing can ever be taken for granted in these matters;
there is continuing uncertainty about the future stance of US trade policy and
the consequent possibility of a global shift towards protectionism, which
would curb demand and might cause tensions at international level. However,
for the time being at least, the economic forecasts are positive.
As we heard during the presentation of the report on economic
developments in Lombardy, these positive trends are being confirmed at
regional level. In the last 15 years Lombardy has almost always boasted
higher GDP growth than that for Italy as a whole, though it has lagged behind
- as the report points out
- comparable European regions in terms of
economic development and productive structures, both as regards per capita
income and firms' innovation capacity. Indicators of industrial activity and of
firms' investment plans in 2017 are encouraging and could foreshadow
Lombardy's gradual convergence towards the more advanced areas of the
EU.
Growth is also starting to take hold in the southern regions. The data
collected by our branches from local economic operators also provide
positive indications, though these are less widespread than in the Centre-
North. For the labour market too, after widening at the height of the
recession, since 2014 the gap between the Centre-North and the South has
narrowed.
Those who have been listening up to now might have received the
impression that the picture is almost uniformly optimistic, perhaps in contrast
with the often bleak overtones that continue to mark the current debate on the
state of Italy's economy. So, in the interest of balance, I wish to reiterate the
two essential provisos I made at the outset. First, growth is moderate and we
are still nowhere near bridging the chasm in our living standards opened by
economy between 2008 and 2012, which was -
the crisis that hit the Italian
and it bears repeating - the deepest and longest ever experienced in Italy in
peacetime memory, and much deeper than that suffered by the other major
European countries. Second, several elements of uncertainty weigh on the
medium-term outlook; some of these are exogenous, while others are more
within our control. By way of conclusion, I would now like to share with you
some brief thoughts on the first point and some slightly longer observations
on the second, particularly on the need to accomplish what lies within our
power - which is a lot.
Let me first say that even before the crisis the Italian economy was
growing more slowly, not only than the emerging economies but also than
the other major advanced countries. And while the recession appears to have
swept away the old debate about Italy's 'decline', its intensity, so much
greater in Italy than elsewhere, was probably due at least in part to the same
structural problems that for years had been holding the country back. We
must now tackle them. These are recurring themes among attentive observers
and ones which the Bank of Italy and the ECB never fail to underscore: the
need for structural reforms in the labour market and in the market for goods
and services; greater efficiency in the justice system and in general
government; simpler legal and taxation systems. Despite the crisis, or perhaps
precisely because of its harsh impetus, Italy has embarked on a far-reaching
programme of structural reform. Much has been done, more than that for
which we sometimes get credit. Significant results have been achieved, for
example in the areas of labour and pension reform. But much remains
undone. We must not stop, much less go back, because our future growth
depends on this.
My second point turns on the relationship between cyclical movements
and economic policy priorities, especially those of fiscal policy. It is about
the choices that can shelter our country from the uncertainties of the global
economy versus those that on the contrary could exacerbate them.
With all these provisos the improvement in the economy is real; so
what should we do with this 'cyclical dividend'? The answer that the
Governor of the Bank of Italy gave a few weeks ago in his concluding
remarks is clear. We must exploit the available leeway to develop a gradual
and credible plan to lower our debt-to-GDP ratio, a fundamental source of
fragility for our economy.
The ratio has been high for more than 30 years. In the mid-1990s, with
the prospect of joining the euro, the reduction got under way (about 12
percentage points in five years, between 1995 and 2000); at that time Italy
succeeded in generating significant primary surpluses over an extended
period, a necessary step for gradually reducing the debt-to-GDP ratio.
Unfortunately, the crisis has led to another, sharp increase, connected with
the exceptional contraction in economy activity and very low inflation. The
high debt ratio did not allow the government to use fiscal policy to support
aggregate demand during the double-dip recession. In fact, market concerns
about the sustainability of Italy's accounts made corrective measures
necessary at the height of the sovereign debt crisis.
In those days, Italy's vulnerability to the vagaries of the economic
cycle and to every murmur from the markets was palpable; there was a
tangible risk of triggering a spiral of recession and debt. I believe the lesson
we can draw from this is clear: in other words, the importance of getting our
public finances in order, to the greatest possible extent, during favourable
phases in the macroeconomic cycle.
In recent years it has been wise to mediate between the competing
needs of public finance and those of the economy: pursuing budgetary
consolidation too eagerly while hoping to trigger a recovery could have had
deleterious procyclical effects. A balanced approach has been made possible,
among other things, by the flexibility allowed in implementing EU rules on
public finances, in connection with the adverse cyclical conditions, structural
reforms and some exceptional events.
Also owing to the continuation of the crisis, the goal of achieving a
structurally balanced budget in 2015 indicated in the 2013 Update of the
Economic and Financial Document (EFD) was postponed several times. The
latest EFD sets the objective of a substantially balanced budget for 2019 but,
as we know, there is still some uncertainty about the measures needed to
accomplish this.
It is now time to dispel this uncertainty. Economic conditions have
improved, the cyclical recovery is turning out to be stronger than expected,
interest rates are low, and international developments have become more
favourable. And it is during such favourable phases that the conditions for
courageous decisions are created. As our Governor has said, 'there must be
no repeat of past errors: the failure to reduce the ratio of debt to GDP
sufficiently in good economic times forced us to make procyclical
adjustments during the crisis'.
Progress can be made in this sense as and when the cyclical upturn is
reflected in the public finances. But let's not delude ourselves that we have a
tesoretto
(treasure hoard) to spend, as we sometimes hear people say; let's
not forget the debt mountain in whose shadow we live and which we must
attempt to reduce, for our own sake and for the sake of future generations.
The cost of servicing the debt weighs heavily on Italy's public
finances. Between 1999 and 2016 average annual interest expenses came to
around 5 per cent of GDP. Italy must necessarily rely on high taxation levels
or curb its primary expenditure in response. As happened between 2011 and
2012, worsening market sentiment about the soundness of Italy's public
finances could push these costs up further. In any event, the uncertainty this
entails holds back private economic activity in Italy. But the launch of a
credible plan would reassure the markets and would in some way be self-
sustaining. For a country with such a high debt, we should remember that the
spread game could trigger a virtuous circle just as much as a vicious one,
depending on whether or not we succeed in coming up with serious and
credible plans for lowering it.
Even though the Great Recession is behind us and we hope to never
see anything of that kind again, one day or another the economic cycle will
start to worsen again. This is inevitable, and it has always been so. Today the
markets are relaxed, monetary policy is exceptionally expansionary and
interest rates are exceptionally low. These conditions cannot last forever.
What we can do today is work to make our country stronger, more resilient
and more capable of reacting to adverse economic cycles and to changes in
market sentiment. We must continue down the path of structural reform and
do what we can to start to lower the debt. In a nutshell, we must not miss this
opportunity.