July 10 (Bloomberg) -- Italy’s credit rating was lowered to BBB, or two levels above junk, by Standard & Poor’s because of expectations for a weakening of economic prospects and the nation’s impaired financial system.
The outlook on the rating, reduced from BBB+, remains negative, the New York-based ratings company said in a statement late yesterday. S&P analysts said that, even with unprecedented easing by the European Central Bank, real interest rates for non-financial companies in Italy exceed the level before the financial crisis.
“This is still two steps away from junk so that’s reassuring,” said Roberto Perli, a partner at Cornerstone Macro LP in Washington and a former economist for the Federal Reserve’s division of monetary affairs. “I can see some short-term volatility but not a lot more than that.”
Austerity measures, while enabling Italy to reduce its deficit to within European Union limits, deepened the nation’s slump. With the economy headed for its eighth quarter of contraction and joblessness at its highest since at least 1977, Prime Minister Enrico Letta in the last two months postponed a sales-tax increase and suspended a property tax payment.
“The rating action reflects our view of a further worsening of Italy’s economic prospects coming on top of a decade of real growth averaging minus 0.04 percent,” S&P said. “The low growth stems in large part from rigidities in Italy’s labor and product markets.”
Yields on Italy’s debt securities maturing in May 2023 increased seven basis points, or 0.07 percentage point, to 4.48 percent at 8:46 a.m. Rome time. The spread over comparable-maturing German bunds rose 10 basis points to 285.3 basis points.
Italy, bearer of the euro’s second-biggest debt relative to gross domestic product, needs to sell more than 30 billion euros of bonds and bills a month. Italy is selling 7 billion euros of 1-year bills and 2.5 billion euros of 3-month bills today.
The country’s benchmark stock index, the FTSE MIB Index, dropped 0.5 percent today. The gauge has lost 3.5 percent this year, compared with a 5.5 percent advance for companies in the Stoxx Europe 600 Index.
Investors are paying less attention to the views of ratings companies and relying more on their own analysis. Yields on sovereign securities last year moved in the opposite direction from what ratings suggested in 53 percent of 32 upgrades, downgrades and changes in credit outlook, according to data compiled by Bloomberg published in December.
Still, Italian Prime Minister Enrico Letta said in an Italian television interview that S&P’s downgrade shows “the situation remains complicated, and internationally those who think that everything has been resolved are very wrong.”
Italy’s economic output in the first quarter of 2013 was 8 percent lower than in the last quarter of 2007 and continues to fall, S&P said. The company reduced its growth forecast for 2013 to minus 1.9 percent, from minus 1.4 percent.
“This is a brutal reminder that austerity can be achieved two ways: by raising taxes or slashing expenditures,” said Francesco Galietti, founder of Rome-based Policy Sonar. “We have achieved a decent result but we simply didn’t get the mix right.”
The International Monetary Fund said in a report last week that Letta still faces an uphill battle in helping his country exit its longest recession in more than two decades.
The IMF cut its growth outlook for Italy this year, saying GDP will shrink 1.8 percent, compared with its April forecast of 1.5 percent. The economy will expand 0.7 percent in 2014, up from its previous estimate of 0.5 percent.
“This is very bad news, but there might be a silver lining,” Galietti said of the downgrade. “Maybe it’s a good warning that will make the government focus to cut state expenditures instead of raising taxes.”