The Bank of Italy is forecasting an economic contraction for 2012 according to an article published in “France 24” last week. This from the article[1] (emphasis added):
The Bank of Italy forecast Tuesday an economic contraction of between 1.2 and 1.5 percent this year depending on borrowing costs, a much sharper decline than the government’s estimate of 0.4 percent.
“The uncertainty that surrounds the medium-term perspectives of the Italian economy … are extraordinarily high and are directly linked to the evolution of the eurozone debt crisis,” the central bank said in its economic bulletin.
The bank advanced two scenarios, each based on interest Italy must offer to borrow on sovereign bond markets.
The first scenario was calculated with a rate of about 7.0 percent currently demanded by investors for 10-year Italian debt and widely considered to be unsustainable.
Under these circumstances, the bank said, the Italian economy would contract by 1.5 percent in 2012 and would remain stalled in 2013.
In a second scenario, under which borrowing prices fell by 2.0 percentage points from current levels, the economy would contract by a 1.2 percent in 2012 before rebounding by 0.8 percent next year.
Italy, the eurozone’s third largest economy, saw economic activity contract by 0.2 percent in the third quarter of 2011, according to official data.
The central bank expected it to have shrunk by an additional 0.5 percent in the last three months of the year, which would give an annual growth rate of 0.4 percent.
Italy‘s debt pile of more than 1.9 trillion dollars ($2.4 billion), equivalent to about 120 percent of gross domestic product, has policymakers and investors on edge.
In my view, there is a possible scenario that is not discussed by the article. The article assumes that Italy’s maximum borrowing cost will be 7% under the less favorable of the two scenarios discussed. Assuming 7% borrowing costs, the Italian economy would contract by 1.5% in 2012. The second, more favorable scenario, assumes that borrowing costs will decline from current levels- a very unlikely outcome in my view.
Given that Italy’s credit rating was cut by Standard and Poor’s about two weeks ago to the same level as Kazakhstan[2] (Borat’s home country), it’s my guess that Italy is on the same slippery slope of many other European countries with yields likely to increase over the next year, not decrease.
Should that occur, these estimates of economic contraction will likely be proven to be optimistic.
[1] Agence France Presse. January 17, 2012. “Bank of Italy forecasts sharper recession in 2012.” http://www.france24.com/en/20120117-bank-italy-forecasts-sharper-recession-2012
[2] Shedlock, Mike “Mish”. January 14, 2012. “Merkel Wants Higher Taxes, Deeper Cuts, Faster Reforms; S&P Says Eurozone Policies Fall Short; France at Risk of Further Downgrade.” http://globaleconomicanalysis.blogspot.com/2012/01/merkel-wants-higher-taxes-deeper-cuts.html
