Fiscal Policy and Public Debt after COVID-19

Among EU countries, Italy is expected to pay the highest economic toll for the Covid-19 crisis. Gross domestic product is projected to fall at an almost double-digit rate in 2020 and the required fiscal policy response will put the government balance sheet under considerable strain, lifting deficit well over 10% of GDP. The resulting increase in the debt-to-GDP ratio by more than 20 percentage points is likely to be unparalleled across Europe. While interest rates remain low thanks to the massive intervention of the ECB, a persistent recession together with the possibility of widening spreads pose significant risks to debt sustainability. These risks may be exacerbated by a political crisis and by the dispute between the European Court of Justice and the German Constitutional Court, questioning the legitimacy of the ECB’s emergency bond purchase programs. This chapter discusses Italy’s fiscal policy response to the crisis, its macroeconomic effects and the implications for public debt dynamics, within the framework of EU-wide measures. We argue that the authorities should not miss the opportunity to address the debt sustainability issues by channeling support funds from the EU to an ambitious program of structural reforms aimed at lifting the ailing long-term productivity growth. ...