Italy entered technical recession in 4Q18

Istat preliminary data, released earlier today, showed that the Italian economy entered technical recession in 4Q18. Data shows that the Italian seasonally adjusted GDP contracted by 0.2% quarter-on-quarter (QoQ) in 4Q18 (from -0.1% QoQ in 3Q18) and that the working day adjusted measure was up a meagre 0.1% year-on-year (YoY), signalling that also the trend is levelling off.

As it is always the case at the preliminary estimate stage, Istat did not disclose the detailed demand breakdown but indicated that domestic demand (gross of inventories) acted as a drag, while net exports provided a positive contribution to quarterly growth. From the supply side angle, Istat states that value-added contracted in agriculture and industry and was stable in services.

Lacking the official breakdown, we can only guess what the drivers were. Based on 4Q18 soft and hard data, we believe that the bulk of the contraction might be due to inventory de-cumulation and to another contraction in private investment, which was more vulnerable to the fallouts (on interest rates and business confidence) of the prolonged saga between the Italian government and the EU Commission on budgetary targets. We believe that private consumption might have been growth neutral, fuelled by still supportive labour market conditions. December labour market data, also released earlier today, showed that in 4Q18 employment was still in a (very mildly) expansionary mode. It increased by 0.1% QoQ, while the 0.8% QoQ outflow from the inactives pool fed the 2.4% QoQ increase in unemployment.

Looking ahead, chances of a sudden swift exit from recession already in 1Q19 look slim. Soft evidence available for January 2019 is not very encouraging, particularly on the business front. The composite business confidence indicator fell further to a new 4-year low, with manufacturers, service providers and retailers all reporting contracting confidence and only firms in the construction sector signalling a surprisingly strong improvement. Soft international trade conditions look set to remain in place over the current quarter as key pending uncertainties (US-China trade issue, and the Brexit saga) are unlikely to be cleared before the end of March. This should in principle continue limiting the scope for export accelerations, at least for the time being. Businesses will also continue being affected by confusing signals coming from the Italian government coalition partners, which are apparently struggling to strike a balance between their government management duties and European election campaign strategies, where each other is seen as a competitor and not an ally. The latest issue of the Bank Lending Survey provides unwelcome support to this, signalling a substantial contraction in expected credit demand for the first time since 2013.

Only private consumption seems to be in the position for possible positive surprises in the short run. In January consumer confidence posted an unexpected increase, possibly reflecting confidence that the introduction of the citizenship income and the pension reform as rubber-stamped by the budget will eventually propel households’ income, which might partially be true, but only in 2H19, due to implementation times. In the shorter run, gains in real disposable income will have to rely on the combination of resilient employment and the likely oil-driven deceleration in headline inflation.

After today’s GDP release, we now know that the statistical carryover for 2019 is a disappointing -0.2% YoY GDP contraction. Putting together GDP data with (scarce) available soft evidence for 1Q19, we have decided to trim our forecast for average Italian 2019 GDP growth to a tentative 0.2%.