SAVING ITALY BEFORE IT IS TOO LATE

1. The Italian economy has been brought to an abrupt halt by the nationwide quarantine. As commercial activity has ceased in the world’s eighth-largest economy, the risk of a broader contagion may turn on how well Italy’s banks — long regarded as Europe’s weakest — withstand the test. Cash-strapped businesses and households may stop repaying their bank loans. At the same time, the government bonds that make up a big chunk of bank assets may lose value as Rome’s costly anti-crisis spending spooks investors. That would erode banks’ capital reserves and crimp their lending, further slowing the economy.
2. Italy is headed for another round of its sovereign debt crisis. Even before the coronavirus epidemic struck, the Italian economy was in recession, its public debt burden was the second-highest in the Eurozone after Greece, and its banking system was anything but sound.
3. The coronavirus shock will be devastating to the Italian economy. It’s tourist sector accounts for as much as 6 percent of the country’s economy.
4. Conservatively it would seem that Italy’s economy is likely to decline by at least 5 percent in 2020. Indeed, JP Morgan is now projecting that the Italian economy will contract at annualized rates of 10 percent and 14 percent in the first and second quarters of this year, respectively.
5. If the Italian economy were to have a deep economic recession, one must expect that the country’s budget deficit will balloon and its public debt will rise to more than 140 percent of GDP by year-end. One must also expect that its troubled banking system’s non-performing loans will increase at a rapid pace.
6. With an outstanding government debt of around € 2.3 trillion and an increased budget deficit on account of a deep recession, Italy’s government could need up to € 500 billion of public support in each of the next two years. At the same time, Italy’s troubled € 3.7 trillion banking system could require a huge amount of ECB financial support were Italian depositors to take flight.
7. Spillovers from heightened stress in Italy would be global and acute stress in Italy could push global markets into uncharted territory. If Italy were downgraded to junk status losses would spread through financial markets. Banks in France, Spain, Portugal and Belgium all hold substantial amounts of Italian government debt.

Non-Italian banks credit exposure to Italy

1. France: € 285.5 billion
2. Germany: € 58.7 billion
3. Belgium: € 25.2 billion
4. Spain: € 21.4 billion
5. United Kingdom: €17.4 billion
6. Portugal: € 1.9 billion
7. Ireland: € 272 million
8. Malta: € 170 million
9. Luxembourg: € 101 million
10. Cyprus: € 67 million
11. Other banks: € 17.4 billion