Italy could face increasing economic pressure as the European Union struggles to reach an agreement on new debt rules.

The EU’s 27 member states have been in disagreement over these rules for several months. The goal is to simplify the process for governments to correct their finances, but discussions have been delayed due to differing opinions.

With an upcoming Europe-wide election, finance ministers are under mounting pressure to reach a deal in the coming months.

“Time is running out and the risk of a ‘no deal’ is increasing, which could have negative effects on economic growth and monetary policy. This could weigh on the euro and reignite concerns about fragmentation in the European government bond market,” warned Davide Oneglia, director of European and global macro at TS Lombard.

Oneglia further noted that Italy could be particularly impacted by potential bond market movements.

Italian bonds have been experiencing pressure lately. Alongside global concerns about prolonged higher interest rates, Rome’s budget plans for 2024 have not reassured the markets.

The Italian government, led by Giorgia Meloni, has revised down its growth expectations for the Italian economy for this year and the next, while increasing its budget deficit targets. As a result, the yield on the 10-year Italian bond rose and remained around the 5% mark in the following days.

“With European elections approaching, there is a significant chance that negotiations on fiscal rules will be delayed until the second half of next year,” analysts at Goldman Sachs predicted.

European member states were required to adhere to fiscal rules that demanded a debt-to-GDP threshold of 60% and a public deficit of 3%. However, these rules were often not followed or enforced by the European Commission.

In 2020, the fiscal rulebook was suspended to allow member states to deviate from their fiscal targets and spend on pandemic-related matters. The rules were also put on hold in 2022 due to Russia’s invasion of Ukraine, which led to new energy costs and inflationary pressures. The suspension of these rules ends in December.

In 2024, European nations will once again be obligated to follow the rulebook. However, after three years of suspension and decades of criticism, there is pressure for reforms. Nevertheless, next year’s political calendar could pose obstacles.

“If there is no agreement on new rules, as it seems likely, the existing rules, currently suspended, would be reinstated in 2025. These rules are stricter than the ones currently being discussed,” explained Moritz Kraemer, chief economist at LBBW.

In principle, a lack of agreement would limit Italy’s ability to harm itself through looser fiscal policies and result in less volatility in the bond market, Kraemer added.

While Italy and other European nations may be required to follow the stricter old rules, there are doubts about enforcement.

“We also consider it unlikely that the EU Commission can initiate an excessive deficit procedure against any member country before the negotiation on the fiscal rules is completed,” noted analysts at Goldman Sachs.

An excessive deficit procedure serves as a watchlist for countries that are not correcting their finances at the required pace.

“If there is a compromise on fiscal rules, it is more likely to happen under the Belgian presidency in the first quarter of 2024. The real deadline is the end of March, so that the legal text can be presented to the European Parliament before the June 2024 elections,” explained Didier Borowski, head of macro policy research at the Amundi Investment Institute.

Italy could face increasing economic pressure as the European Union struggles to reach an agreement on new debt rules.

The EU’s 27 member states have been in disagreement over these rules for several months. The goal is to simplify the process for governments to correct their finances, but discussions have been delayed due to differing opinions.

With an upcoming Europe-wide election, finance ministers are under mounting pressure to reach a deal in the coming months.

“Time is running out and the risk of a ‘no deal’ is increasing, which could have negative effects on economic growth and monetary policy. This could weigh on the euro and reignite concerns about fragmentation in the European government bond market,” warned Davide Oneglia, director of European and global macro at TS Lombard.

Oneglia further noted that Italy could be particularly impacted by potential bond market movements.

Italian bonds have been experiencing pressure lately. Alongside global concerns about prolonged higher interest rates, Rome’s budget plans for 2024 have not reassured the markets.

The Italian government, led by Giorgia Meloni, has revised down its growth expectations for the Italian economy for this year and the next, while increasing its budget deficit targets. As a result, the yield on the 10-year Italian bond rose and remained around the 5% mark in the following days.

“With European elections approaching, there is a significant chance that negotiations on fiscal rules will be delayed until the second half of next year,” analysts at Goldman Sachs predicted.

European member states were required to adhere to fiscal rules that demanded a debt-to-GDP threshold of 60% and a public deficit of 3%. However, these rules were often not followed or enforced by the European Commission.

In 2020, the fiscal rulebook was suspended to allow member states to deviate from their fiscal targets and spend on pandemic-related matters. The rules were also put on hold in 2022 due to Russia’s invasion of Ukraine, which led to new energy costs and inflationary pressures. The suspension of these rules ends in December.

In 2024, European nations will once again be obligated to follow the rulebook. However, after three years of suspension and decades of criticism, there is pressure for reforms. Nevertheless, next year’s political calendar could pose obstacles.

“If there is no agreement on new rules, as it seems likely, the existing rules, currently suspended, would be reinstated in 2025. These rules are stricter than the ones currently being discussed,” explained Moritz Kraemer, chief economist at LBBW.

In principle, a lack of agreement would limit Italy’s ability to harm itself through looser fiscal policies and result in less volatility in the bond market, Kraemer added.

While Italy and other European nations may be required to follow the stricter old rules, there are doubts about enforcement.

“We also consider it unlikely that the EU Commission can initiate an excessive deficit procedure against any member country before the negotiation on the fiscal rules is completed,” noted analysts at Goldman Sachs.

An excessive deficit procedure serves as a watchlist for countries that are not correcting their finances at the required pace.

“If there is a compromise on fiscal rules, it is more likely to happen under the Belgian presidency in the first quarter of 2024. The real deadline is the end of March, so that the legal text can be presented to the European Parliament before the June 2024 elections,” explained Didier Borowski, head of macro policy research at the Amundi Investment Institute.