Italy’s Credit Rating Cut by Moody’s on Outlook for Growth

Moody’s Cuts Italy Rating Following S&P on Weak Growth
Silvio Berlusconi, Italy's prime minister, left, and Giulio Tremonti, Italy's finance minister, listen after an address to parliament's chamber of deputies in Rome on Aug. 3, 2011. Photographer: Alessandra Benedetti/Bloomberg

Italy’s credit rating was cut by Moody’s Investors Service for the first time in almost two decades on concern that chronically weak growth will make it difficult to reduce the region’s second-largest debt while fallout from the region’s debt crisis boosts financing costs.

Moody’s lowered Italy’s rating three levels to A2 from Aa2, with a negative outlook, the New York-based company said in a statement yesterday. The action comes after Standard & Poor’s downgraded Italy on Sept. 20 for the first time in five years. Italy was last cut by Moody’s in May 1993.

Moody’s also said that all European countries with ratings below the top mark of AAA may face downgrades as many euro-area governments are facing “a profound loss” in investor confidence as policymakers have failed to stop debt-crisis contagion. Italy’s borrowing costs have fallen from euro-area highs in August after the European Central Bank began buying its bond to stop the slide in the country’s debt.

Rating Risks

“All but the strongest euro-area sovereigns are likely to face sustained negative pressure on their ratings,” Moody’s said. “Consequently, Moody’s expects fewer countries below AAA to retain high ratings.” It added that “there are no immediate pressures that could cause downgrades for Aaa-rated countries.”

Moody’s decision “was expected,” Prime Minister Silvio Berlusconi’s office said in an e-mail yesterday. “The Italian government is working with the utmost commitment to meet its budget targets.”

The yield on Italy’s 10-year notes rose 5 basis points 5.53 percent today, leaving the difference investors to hold Italian bonds instead of benchmark German bunds at 377 basis points. The cost of insuring Italian debt against default has more than doubled since the start of the year. The euro traded at $1.3291 at 9:53 a.m. in Rome, down 0.4 percent on the day.

Italy joined Spain, Ireland, Portugal, Cyprus and Greece as euro-region countries whose credit rating has been cut this year. Unlike Ireland and Portugal, which followed Greece in seeking bailouts from the European Union and the International Monetary Fund, Italy had until this summer managed to skirt the worst of the fallout from the debt crisis.

Funding Costs

The reasons for the downgrade include “increased funding risks for euro area sovereigns in general, such as Italy, with high levels of public debt,” Alexander Kockerbeck, a Frankfurt-based sovereign debt analyst with Moody’s, said in an interview yesterday. He also cited the risk of slower growth “due to macroeconomic structural weaknesses, and on top of that, a weakening global growth outlook.”

Italy, with a debt of more than 1.9 trillion euros (2.5 trillion), has more than 66 billion euros in bonds and bills maturing this year and has more than 200 billion euros in financing needs in 2012, Moody’s said. Still, Italy’s budget deficit is lower than many of its higher rated peers and a 54 billion-euro austerity package passed last month aims to eliminate the budget gap in 2013.

“The more menacing the euro-zone crisis becomes, the blurrier the distinction between illiquidity and insolvency for both sovereigns and banks, said Nicholas Spiro, sovereign and head of Spiro Sovereign Strategy, a consulting firm in London.

‘‘Italy’s relatively strong budgetary position counts for little at a time when investors are increasingly skittish about high levels of debt.’’

Calls for Resignation

The downgrade may aggravate a volatile political situation. Berlusconi, battling to keep his ruling coalition together, faces five trials and calls from Italian employers, his long-time backers, to step down as a decade of virtually no economic growth undermines debt reduction. Italy’s debt of about 120 percent of gross domestic product is second in the region only to Greece.

The Moody’s cut may have further strained relations between Berlusconi and his Finance Minister Giulio Tremonti. The ministers knew in advance of the rating cut and failed to inform Berlusconi, who told allies that Tremonti wanted to use the downgrade to discredit the premier, newspaper la Repubblica reported. The Finance Ministry wouldn’t comment on the report.

‘Fragile’ Government

Tremonti yesterday signaled that early elections might help ease Italian borrowing costs when he said after a meeting of European finance chiefs that Spain’s risk premium over Germany was lower than that of Italy because the government there had called for an early vote in November.

S&P in May and Moody’s in June warned that they may downgrade Italy, saying the government may miss fiscal targets. Moody’s extended its review of Italy for one month on Sept. 16, four days before S&P cited growth concerns and Berlusconi’s ‘‘fragile” government as reasons for its downgrade.

Italy’s economy expanded an average 0.2 percent annually from 2001 to 2010, compared with 1.1 percent in the euro area. Gross domestic product advanced 0.3 percent in the second quarter from the three months through March, when it rose 0.1 percent, national statistics institute Istat said on Sept. 9.

On Sept. 20, the IMF cut its growth forecast for Italy, saying it will miss its goal of erasing the deficit. Two days later, the government cut its own forecast, while keeping its commitment for a balanced budget in 2013.

Growth Forecasts

The Finance Ministry said the euro-region’s third-biggest economy will grow 0.7 percent in 2011 instead of the 1.1 percent forecast in April and 0.6 percent in 2012 rather than 1.3 percent. That compares with the growth forecasts by the IMF of 0.6 percent this year and 0.3 percent next.

The ministry also forecast a budget deficit of 3.9 percent of GDP this year, 1.6 percent next year and 0.1 percent in 2013. The IMF projected the deficit to fall to 4 percent of GDP in 2011, 2.4 percent in 2012 and 1.1 percent in 2013.

Berlusconi has pushed through two packages of deficit cuts since mid-July totaling about 100 billion euros. Measures included raising the value-added tax by one percentage point to 21 percent and a levy on incomes of more than 300,000 euros to balance the budget by 2013. The second, announced on Aug. 5, was a condition of ECB support.

The negative outlook on Italy announced last month by S&P means there’s a one-in-three chance that the company will lower the nation’s rating again within the next 12 to 18 months, Moritz Kraemer, S&P’s managing director of European sovereign ratings, said Sept. 20.

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