OECD Overview

Overview of the economic situation in Italy ^[1]

The Italian government has prioritized control of the health situation and generous support for livelihoods and firms following a major pandemic. Successive waves of COVID have necessitated extensive travel restrictions. Italy was the first OECD country to introduce strict national isolation in March 2020 in response to an early and dramatic rise in fatalities.

The government plans to vaccinate 80% of the population by September 2021. A green passport for those vaccinated, immunised or tested for COVID was introduced on 15 June 2021 to facilitate the safe reopening of contact-intensive tourism and entertainment sectors.

The economic and social impact of the pandemic has been significant. The intensity of the first and subsequent lockdowns was reflected in a sharp drop in GDP in April 2020, resulting in an 8.9% decline in GDP in 2020, one of the highest rates in the OECD. This was partly due to the structure of the Italian GDP: contact-intensive services make up a relatively large part of the economy compared to other major European countries. Tourism directly accounts for about 6% of GDP and indirectly 13% of GDP. Foreign tourism accounts for 42% of domestic activity, as in most OECD member countries.

Gross household savings rose sharply to 17.5% of GDP in 2020 due to precautionary measures and restrictions on spending-restrictive activities. Savings rates declined as restrictions on activity and consumption eased.

As savings grew and investment declined, the current account surplus increased to 3.7% of GDP in 2020.

The unemployment rate fell to 9.3% from 10% in 2019 as COVID-19 restrictions and a weak labor market reduced the labor force by 3.4% in 2020. Medium-skilled workers were the most affected.

Policy responses mitigated the impact of the crisis on firms and households, but vulnerable population continued to be severely affected.

The main measures of Italian fiscal policy to mitigate the effects of the COVID-19 crisis. The Italian government approved a wide range of measures to protect companies, jobs and households from COVID-19 shock. The government estimates the total cost of these measures at EUR 108 bln in 2020 (6.6% of 2020 GDP) and EUR 72 bln in 2021 (4.1% of GDP).

The main measures include:

• Direct cash subsidies for firms: firms received cash subsidies depending on the amount of their turnover losses.

• Loan guarantees for firms: loan guarantees worth more than EUR 500 bln were provided. State guarantee schemes for small, medium and large firms were expanded, and a free guarantee was introduced for loans to new SMEs. SMEs in the most affected industries received a moratorium until December 2021 on loan repayments.

• Short-term work and employment support measures: the existing short-term work scheme in Italy expanded to all sectors and companies, and the cost of accessing funds reduced.

• Deferred payments of taxes and social contributions: payment of taxes and social security contributions was deferred for all firms in the most affected sectors, as well as for all firms in all sectors with income below EUR 2 mln. VAT payments were postponed for all firms and self-employed working in the most affected provinces.

• Household income support: several one-time payments were paid to those who did not use short-term work schemes, including cash payments to various categories of self-employed and seasonal workers; and additional monthly emergency income support in the amount of EUR 400 to 800 - for low-income families from the risk group.

 • Support for government agencies suffering from loss of income: budget transfers were provided to subnational authorities, government agencies and state-owned enterprises.

A number of measures are designed to offset the potential impact of ending the ban on layoffs for large firms on June 30, 2021, and for smaller firms on October 31, 2021. Firms that do not downsize get free access to short-term work until the end of 2021.

The COVID-19 crisis has exacerbated some macro-financial vulnerabilities. The increase in lending growth became a vital factor for Italian firms, whose cash levels are relatively low compared to their OECD counterparts. In 2020, the number of bankruptcies fell by 22.7% in Italy, compared with an increase of 58.1% during the global financial crisis.

As support measures are phased out, the number of bankruptcies will increase.

The share of firms with the highest risk (with a probability of default above 5%) increased 10% before the COVID crisis to 14% by the end of 2020.

In response to the COVID crisis, the government further incentivised banks to continue selling problem loans in 2020 by offering generous tax breaks. Despite a reduction in the number of bankruptcies and a low level of activity, banks were able to sell about EUR 30 bln in 2020.

The National Recovery and Sustainability Plan gives priority to investment and structural reforms. The Government intends to support growth in the short term by providing substantial support to households and companies to maintain production capacity in 2021, and to a lesser extent in 2022.

Public investment spending focused on green, digital and technology investment will remain above 3% of GDP from 2022, compared to an average of 2.5% in 2010 to 2020. The National Recovery and Sustainability Plan outlines structural reforms and EUR 235 bln spending plans to boost Italy's economic growth.

The financing includes EUR 205 bln from next-generation EU funds. Italy intends to use all EUR 68.9 bln in the form of grants and EUR 122.6 bln in the form of loans from the Recovery and Sustainability Fund, as well as EUR 13.5 bln from REACT-EU funds^[2]. Greener energy is a priority.

The timing and quality of investment expenditure will also affect the measurements. The government estimates that the impact on growth may range from 1.8 to 3.6 p.p., depending on the investment efficiency and quality. Banca d'Italia estimates that the investment listed in the National Recovery and Sustainability Plan may increase GDP by almost 2.5% in 2024, provided that investments are spent quickly. If investment succeeds in attracting private investment, the number may rise to 3.5% in 2026.

Improved access to equity finance can stimulate business investment. Italian firms tend to rely heavily on bank loans rather than capital as a source of financing. As in other countries, there is a strong negative correlation between leverage and investment in Italy.

Canceling or reducing tax incentives for debt financing could help to increase productivity diffusion. Italy's Allowance for Corporate Equity (ACE) was recognised as an international best practice in supporting the use of capital by companies.

Development of non-bank financing channels. Italy has introduced several incentives to promote the use of market financing, with a particular focus on improving access for SMEs.

This includes:

• Support for the listing of shares, including for SMEs.

• Expanding access to corporate bond financing.

• Stimulating investments in Venture Funds and Small & Medium Enterprise.

Green transition requires reliable, long-term carbon pricing commitments. Italy shows relatively good results compared to other EU and OECD countries in terms of reducing carbon emissions, high share of renewable energy sources and high utilization rates.

In March 2021, the country issued its first EUR 8.5 billion green bonds, making it the fifth-largest issuer in Europe.

 Electricity, heating, and transportation remain major sources of greenhouse gas emissions. The country has one of the highest shares of passenger cars per capita in Europe, but just over 0.1% of the stock is electric cars.

The government has responded to the EU's new goal of reducing emissions by 55% by 2030 by citing major sources of greenhouse gas emissions in its National Recovery and Sustainability Plan.

• Increased renewable energy capacity, including wind, clean hydrogen, and biomass, as well as recent legislative reforms to reduce regulatory hurdles to faster renewable energy investments.

The Ministry has announced that the country will install an additional 65-70 GW of renewable energy over the next decade. Battery and interconnect capacity are also predicted to grow.

• Fighting traffic emissions. Investments in high-speed railroads are considerable - almost EUR 24 billion. Subsidies for electric cars are increased by supporting charging station infrastructure to the tune of EUR 0.74 billion. A more holistic approach would benefit from encouraging close urban cooperation on regulatory issues, as has been done in Norway and Austria.

• Improving the energy efficiency of buildings. Benefits of EUR 18.5 billion were introduced, including EUR 4.6 billion spent from the Charity Fund. This comes with legislative reforms that make approvals for building renovations faster and easier than in the past.

• Supporting circular economy. Italy has one of the highest recycling rates in Europe, supported by effective regulations such as a four-stream waste collection system, a ban on microplastics and financial fees paid by plastic packaging manufacturers.

The transition to a higher price for carbon should explicitly regulate the associated costs of distribution and competitiveness. A higher carbon tax would reduce carbon demand and increase revenues, but it would also affect the lowest stratum of households the most. These households will need compensation.

• In Switzerland, to offset the introduction of a carbon tax on heating fuel, two-thirds of the tax revenue was used to reduce labor taxes, and one-third was used to invest in energy efficiency and modernization.

OECD countries experience in using productivity councils to advance public sector reforms. A growing number of OECD countries are finding that the creation of well-resourced, permanent bodies dedicated to policy development and communicating its benefits can accelerate reforms. Although often referred to as "productivity councils" or commissions, governments often establish broader mandates that can include green growth and social issues, as well as the role and effectiveness of the public sector.

These bodies can serve as a platform for exchange of ideas and help build consensus, deepening national ownership of reforms, including in the government agencies responsible for their implementation.

These agencies are divided into three main types:

1. Autonomous investigative bodies, such as the Productivity Commissions in Australia, Chile, and New Zealand. They have good resources, strong analytical skills as well as research and advisory credentials.

2. Advisory boards such as the French National Council on Production, the U.S. Council of Economic Advisors, and the Belgian National Council on Production.

3. Ad hoc working groups such as the Norwegian Productivity Commissions. They can be formed with temporary powers to evaluate specific issues.

Countries experience shows that these bodies are most effective when they can work autonomously and have strong internal analytical, advisory, and communication skills.

Italy enacted lengthy bankruptcy reforms in 2019. These reforms include improved governance procedures for firm directors, simpler procedures to facilitate out-of-court settlements, and use of a specialized pool of bankruptcy experts to help resolve court cases.

 These reforms should help reduce the time spent in court, and early warning mechanisms should help increase the speed of corrective action for firms in difficulty. These changes could potentially improve the recovery rates for insolvency proceedings, which are low in Italy. The initial 2020 implementation date was postponed to September 2021 due to the COVID crisis.

Tax reforms can finance a reduction in the labor tax. Tax revenues in Italy in 2019 amounted to 42.4% of GDP compared to the OECD average of 33.8%. Revising the tax structure can promote economic growth by reducing the taxes most detrimental to growth.

Consumption taxes are more supportive of growth than labor taxes, but the main obstacle to increasing VAT revenues in Italy is compliance.

Total tax expenditures are expected to reach EUR 68.1 billion in 2021, and the government forecasts a slight decrease to EUR 65.1 billion 2023.

Final recommendations of the OECD.

Continued financial support is needed until economic and employment recovery becomes more targeted.

It will require:

• increasing court resources to effectively manage pending cases and increase the speed of civil justice proceedings.

• improving the structure of government spending to promote growth and job creation.

• consolidation of the activities of smaller public procurement agencies into bodies with greater capacity.

• withholding pension costs by allowing the early retirement scheme (quota 100) and the so-called women's option to expire in December 2021, as well as by immediately restoring the link between longevity and retirement age.

• reducing regulatory barriers to access to professional services

• introduction of a national productivity council to identify and communicate the costs and benefits of reforms and to build national consensus.

There also needs to be holistic tax reform that simplifies and permanently lowers labor taxes, funded by stricter compliance, lower tax expenditures, and higher estate and inheritance taxes.

^[1] https://www.oecd.org/economy/italy-economic-snapshot

^[2] The Crisis Response and Crisis Recovery program implemented as part of the Coronavirus Response Investment Initiative is a bridge to a long-term recovery plan.