Brussels warns Italy it is in breach of EU budget rules

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Brussels and Rome have clashed over Italy’s economic policies, reigniting an argument over EU budget rules in a process that could lead to financial sanctions against Giuseppe Conte’s anti-establishment government

The European Commission said on Wednesday that Italy had failed to meet agreed targets for reining in spending and cutting public debt, the second highest in the eurozone at 132 per cent of gross domestic product in 2018.

Valdis Dombrovskis, the European Commission vice-president responsible for the euro, warned that Rome’s policy choices were damaging the Italian economy.

“We know there is a path to recovery and growth to Italy,” Mr Dombrovskis said. “This path follows a renewed reform effort, not spending more where there is no fiscal space to do so.”

But Matteo Salvini, Italy’s powerful deputy prime minister, immediately hit back at Brussels, saying only tax cuts would help Italy to deal with its debt by kick-starting growth.

“With cuts, sanctions and austerity, we have seen an increase in debt, poverty, insecurity and unemployment. We must do the opposite,” said Mr Salvini.

The commission’s report on Wednesday is the first step in a process that by July could lead to a formal sanctions procedure against Italy, requiring the country to come back into line with the rules or face financial penalties.

Brussels also warned that Rome was on course in 2020 to breach the EU’s core fiscal rule – that a national government’s annual budget deficit should be no greater than 3 per cent of GDP.

The commission’s announcement marks a resumption of hostilities with the Italian government, which is made up of Mr Salvini’s anti-immigration League and the Five Star Movement. The parties came to power last year pledging to rip up the EU’s fiscal rule book.

Rome and Brussels were at loggerheads last year over the country’s 2019 budget plans, before brokering an uneasy compromise in December. But the public debt has continued to rise, prompting Brussels to act.

The warning comes at a moment of fragility within the coalition, exacerbated by the League’s success in last month’s European elections and disagreements over tax and spending.

The League and Five Star have each made extensive, but different, promises to the voters, including more generous rules on early retirement and the introduction of a citizens’ basic income. They now face the difficult question of how to press ahead in a worsening economic environment.

Mr Salvini is pushing for a 15 per cent flat income tax rate, arguing that the country needs a ” fiscal shock “.

According to the latest EU economic forecasts, Italy’s debt will rise to 135 per cent of GDP by 2020. Its deficit will increase from 2.5 per cent in 2019 to 3.5 per cent in 2020, with economic growth projected at just 0.1 per cent this year.

Giovanni Tria, Italy’s economy minister, has sought to avert a stand-off with Brussels, saying that the poor numbers are linked to a slowing economy, and pledging a comprehensive spending review.

Mr Conte, the country’s prime minister, was also conciliatory on Wednesday, telling journalists: “I would do anything to avoid an infringement procedure.”

Brussels said Italy had failed to adhere to an agreed “adjustment path” for mending its public finances in 2018 and was “at risk of non-compliance” this year. The commission also warned that the government’s economic reform plan “contains only piecemeal measures”.

The commission’s report will now be analysed by national officials, before Brussels decides whether to propose a so-called excessive deficit procedure, or EDP, against Italy.

The bloc’s finance ministers would then have until July to decide whether to adopt the EDP. If they do, the next stage would be for the commission to decide on whether to proceed with sanctions such as financial penalties.

While no EU country has ever been fined for breaching the bloc’s fiscal rules, launching an EDP would send a signal to markets that Italy is failing to hit core benchmarks for sound fiscal management, potentially leading to increased borrowing costs.