04 Jul 2019 19:55 IST

Italy’s EU budget victory is temporary reprieve

The coalition’s plans for big tax cuts next year mean that tempers may flare up again soon

Italy looks likely to have made a narrow escape in its fiscal battle with the European Commission. The country’s anti-austerity government is likely to avoid damaging EU action thanks to a last-minute budget windfall. That means Prime Minister Giuseppe Conte will not have to embark on politically unpalatable belt-tightening in 2019. But the coalition’s plans for big tax cuts next year mean that tempers may flare up again soon.

Economic Affairs Commissioner Pierre Moscovici last month threatened to put Italy under EU budget supervision because he suspected its finances could pose a threat to the euro zone. According to the commissioner, Italy was not working hard enough to reduce its more than 2 trillion euro public debt, which the commission expects to rise to 133.7 per cent of GDP in 2019 from 132.2 per cent. The extra supervision could have forced Italy to raise taxes, or ultimately led to a fine – both of which would have stoked anti-EU sentiment.

Yet Conte appears to have pulled a rabbit out of his hat, by finding extra savings of about 7.5 billion euros. Those came mostly from the Bank of Italy, which was able to pay out higher than expected profits from its holdings of government bonds, and an extra dividend of close to 1 billion euros from state investor Cassa Depositi e Prestiti. Savings on projected welfare expenses also helped.

The extra revenue will stabilise Italy’s 2019 budget deficit at 2 per cent, lower than the 2.5per cent the commission had feared. More importantly, Italy will be able to improve its structural budget balance – a closely watched EU metric that seeks to account for the economic cycle – by 0.3per cent of GDP against an expected deterioration, which will help the commission’s debt analysis. The snag is that most of the extra savings are not recurrent. But EU rules pay little heed to the quality of government revenues.

Rome’s respite will not last very long. The government has promised to forgo a rise in VAT that was supposed to bring in 23 billion euros. That measure alone would push Italy’s deficit to 3.5 per cent of GDP next year, above the EU’s limit of 3 per cent. Throw in planned tax cuts worth at least 10 billion euros and Italy’s deficit and debt figures will look even shakier. The EU is likely to keep Italy under very close scrutiny.