–Adds Comments On Economic Prospects, Conditions In Italy
PARIS (MNI) – The ongoing Eurozone debt crisis is “the principal
risk factor for the world economy,” and the longer it continues the
darker the picture becomes, the Bank of Italy said Wednesday, as leaders
of the G20 prepared to meet in Cannes, France.
For starters, a dragged-out crisis could hit bank lending, which
would be an additional weight on the Eurozone economy at a time when it
is already slowing sharply, the Italian central bank said in its latest
Financial Stability Report.
“In the short term, the supply of financing from the Eurosystem
allows banks to face the illiquidity of the wholesale funding market,”
the bank noted. However, “a prolongation of the tensions could provoke a
contraction of balance sheets and a hardening in the conditions of
credit supply.”
The report was clearly drafted before the recent exacerbation of
tensions caused by the announcement Monday by Greek Prime Minister
George Papandreou that he would submit last week’s bailout deal to a
popular referendum.
The central bank cautioned that even some of the policies and
practices needed to address the crisis could have unwanted fallout.
It noted the significant degree to which companies and businesses
were deleveraging, particularly in countries with high debt levels. “If
excessively rapid and widespread, this tendency — though necessary —
also risks depressing demand,” it said.
The central bank urged political leaders to clean up their fiscal
houses by cutting deficits and debt levels. However, in the absence of
reforms to control future income expectations and support demand,
“fiscal consolidation measures implemented simultaneously in many
countries could provoke a negative spiral between the drop in productive
activity and the deterioration of public finances,” the bank warned.
At the moment, “the duration and depth of this cyclical slowdown
are among the major sources of uncertainty for the global economy,” the
central bank noted. On a hopeful note, it said the current weakness
could end up being short-lived, to the extent it reflects temporary
factors such as recent increases on the price of oil and the earthquake
in Japan earlier this year.
The increasingly remote prospect of interest rate increases on the
horizon in major industrial economies, along with recent measures taken
by central banks to support the economy and the banking sector, may also
help ease the intensity of the slowdown, the Bank of Italy said.
“Still, there is a risk that the phase of economic weakness will be
prolonged, because of the effect of restrictive fiscal policies and
possible new financial tensions,” the central bank wrote. Recent
weakness in PMIs, along with declining household confidence in Europe
and the U.S., and the “strong correction” in equity markets since the
summer, “are consistent with a picture of prolonged economic weakness.”
The report said Italy’s banks were stable, among one of the
strengths of the Italian economy. However, it noted that they have
increasingly resorted to Eurosystem refinancing operations in recent
months because of the tightness of wholesale funding markets.
Unless the wholesale markets reopen, Italian banks are “destined to
expand” their use of ECB funding operations, the report said. It noted
that the banks have a large volume of assets that are eligible as
collateral in those operations.
In an introduction to the report, Ignazio Visco, the Bank of
Italy’s new governor, noted that in the view of global investors the
Italian economy suffered from high debt and low growth. “But it also has
elements of strength,” Visco argued. They include, “a trend towards
rebalancing of the public accounts, low private indebtedness, the
absence of imbalances in the real estate sector, the containment of
foreign debt.”
He added that “the Italian banking system is not a source of
instability.”
Speaking of Europe more generally, Visco said that national
policies to cut deficits and debt are needed in order to “regain the
confidence of investors and permanently reduce the sovereign risk.”
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