Italy

Renzi’s Ambitious Program Faces Obstacles
The failure of Prime Minister Enrico Letta’s strange-bedfellows alliance of the center-left PD and the center-right PdL to obtain the required support for its reform program led to its downfall in February 2014, with the main push coming from Matteo Renzi, who defeated Letta in a battle for leadership of the PD in December. Letta’s replacement by the youthful Renzi (at just 39 years old, he is Italy’s youngest-ever prime minister) has generated optimism among the electorate, but the new leader’s ability to implement his ambitious laundry-list of reforms (which includes sweeping changes to electoral rules, an overhaul of the tax system, the streamlining of government administration, and the relaxation of labor-market restrictions) is clouded by the ideological diversity of his coalition, which includes the New Center-Right, a breakaway faction of the PdL (which has reverted to its old name, Forza Italia) and opposition to most of his plans by elements within his own party. Renzi has declared a goal of sustaining the current arrangement for a full term (to 2018), but if he succeeds in winning approval of his proposed electoral reforms, which would guarantee a comfortable majority for the winning party and diminish the powers of the Senate, it is all but certain that any parties, including the PD, that perceive an opportunity to gain from an early election will push for one. As such, there is a high probability that a snap election will be held within the 18-month forecast period, and the most likely result is the formation of a center-left coalition government. However, owing to the uncertain fate of the electoral reforms and the volatility of support for Renzi, the probability is less than 50%.
Budget Constraints Dim Growth Prospects
An anti-austerity consensus is taking shape within Italy, but it is unclear whether Germany and other euro-zone leaders will grant Italy the flexibility required to implement the policy strategy that is emerging. Of course, reaching internal agreement on a fiscal strategy and winning international support for a shift in approach, while essential, are merely the first steps required to meet the policy challenges confronting the new government. The government still needs to come up with a budget plan that contributes to growth without producing a deficit so large that it unnerves investors, and it must execute that budget with a high level of efficiency, and hope that the results are up to expectations. Even if Italy manages to steer clear of a debt crisis, any substantial improvement on the near-term performance of the economy will require aggressive action to address the structural deficiencies, including rigid labor rules and a high rate of tax evasion, that limit the potential for more robust growth. Substantial current spending obligations will severely limit the potential for any significant reduction of a high tax burden that poses a serious competitive disadvantage for Italian producers. Real GDP growth will remain anemic throughout the forecast period, and the pace of expansion is forecast to average just 1% per year through 2019.

 Forecast Summary

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