Italy’s economy set to shrink by 2%

Italy’s economy will shrink by about 2% in 2012, though signs of recovery could start to appear at the end of the year, Bank of Italy governor Ignazio Visco has said.

Mr Visco had previously expected a 1.5% contraction in Italian GDP against a government forecast of -1.2% and a 2.4% decline seen by employers’ lobby Confindustria.

Italy has been in recession since the middle of last year, weighed down by austerity measures passed by the government to balance the budget and rein in the country’s €1.95 trillion debt.

Yields on Italian 10-year bonds rose to more than 6% last week, as euphoria over eurozone leaders’ efforts to stem the bloc’s debt crisis faded. Higher yields add to the government’s hefty interest payments.

“2012 will be negative, but I don’t think the situation will worsen any further,” Mr Visco told Italian newspaper Corriere della Sera yesterday, adding that consensus forecasts indicated GDP would fall by about 2% this year.

“If the borrowing rate risk declines, and a shared solution for the crisis is found at the European level, at the end of the year I think we could see light at the end of the tunnel.”

Mr Visco said the current yield spread between 10-year Italian bonds and German Bunds at 470 basis points was about two-fifths “Italy’s fault” due to its high debt and low competitiveness.

“The rest is a risk premium the Italian state pays for the fear of the underwriter of its securities, that at some point the single currency will not exist anymore,” he said.

Mr Visco also said that Italy’s prime minister Mario Monti was taking the right steps on austerity measures and labour reform, adding the government should push on with recently announced cuts to public administration, which could eventually help lower taxes.

Italy’s cabinet approved the additional spending cuts on Friday, as it seeks to keep a rein on its budget deficit and delay a sales tax rise until next year.