Markets will do more to restrain the Italian government's plans to extend fiscal spending than the European Commission, according to speakers at the Institute for International Finance's conference in Bali, Indonesia.
The EC is hoping for sovereign bond-market investors to force Italy's populist leaders to reverse course on plans to increase its fiscal deficit to 2.4% in the next year, building on a debt-to-GDP ratio that was already 133.1% in the first quarter of the year.
"When I speak to European policymakers about Italy, the story is always, 'We, the policymakers, hope you, the market, will discipline Italy," said Joachim Fels, managing director at Pacific Investment Management Co. LLC.
A further worsening of relations between the Italian government and Brussels is one of the key concerns to the outlook for the EU, together with Brexit and trade tensions, according to speakers at the IIF's annual event.
"Most worrisome is that the government doesn't want to do a lot of structural reform. This is one of the biggest differences with France, for instance," said Michala Marcussen, group chief economist at Société Générale SA. She pointed to the measures implemented by French President Emmanuel Macron to liberalize the economy and reduce the country's fiscal deficit to within the EU's 3% of GDP limit.
Marcussen said the Italian deficit plan was not, on its own, overly concerning as other governments have run bigger deficits; a larger worry is the reaction of rating agencies.
"We need to see what the EC has to say about the Italian budget at the end of November [after it completes its assessment of the country's budget proposal]. It can be manageable. I worry more about the judgment that the rating agencies will make and if Italy were to be downgraded a notch," she said, noting that there will continue to be volatility in Italian markets as the date of the actions arrive.
Panelists agreed that the responsibility to resolve the financial stresses is that of the Italian government, rather than through European institutions, such as the European Central Bank or the European Stability Mechanism.
"We should not look for the ECB or ESM to bail Italy out," said Fels. "We have to be very cautious about Italy and the European situation."