Italy is now in the midst of a deep recession, as are many other countries, and there is great uncertainty about the timing and strength of the recovery. The banking system itself was not immediately threatened by the first wave of the financial crisis, but credit supply has nonetheless been sharply restrained, as elsewhere, and households have suffered large financial losses following the steep fall in equity markets. The contraction of output is likely to persist well into the current year and only a slow recovery can be expected next year. Some long-term structural problems remain to be addressed, even as attention is focused on ways to alleviate the effects of the crisis and to shorten its duration.

Along with the rest of the OECD, Italy is facing a deep and possibly prolonged recession. A decade of slow productivity growth and gradually deteriorating competitiveness meant that the financial crisis hit a weakened economy. Fortunately, the banking sector itself has – up to now – escaped the risk of insolvency that has crippled banks in some countries, but this has not protected the economy from the credit crunch. The inability of successive government to take effective action to reduce public debt in the past has left the government with little room to manoeuvre in fiscal policy, other than to allow automatic stabilisers to work as best they can.

The Italian financial system managed to cope with the “first round” of the crisis better than most of its European peers, and banks have suffered mostly on the funding side, due to the strong tensions affecting interbank markets. Banking supervision rules and practice played an important role in ensuring Italian banks took a relatively prudent attitude as did some specific features of the economy, such as the comparatively smaller size of firms and the low debt of households. However, some of these same features that helped to shield Italian banks from the first round of the crisis may expose them to the consequences of the recession. Italian authorities and the European Central Bank provided a prompt response to ensure the banking system had sufficient liquidity, and tensions in interbank markets eased significantly in recent months. A bank recapitalization scheme, though less urgent than in other countries, has been set up relatively late, and carries conditions that may have important limitations. 

Even prior to the recent financial turmoil, Italy was being left behind by economic growth in many other countries. Low productivity growth has a number of causes, some of which have their origin in poor or excessive regulation, public services and administration, and the legal system, which an ISAE report refers to as the “non-material” infrastructure. As the OECD Regulatory Reform Review of Italy to be published this year describes, progress has been made in improving regulation, although the results have yet to show themselves in productivity growth. Continued reforms are needed, and must be supported by a more efficient public administration and more purposeful use of Regulatory Impact Assessment and exercises such as the Spending Reviews by the Technical Committee on Public Finance, in parallel with efforts through the Taglia Legge and Taglia Oneri programmes.