Italy seen in line for Fitch upgrade as fiscal outlook improves

By Valentina Consiglio

ROME (Reuters) -Italy is likely to get a ratings boost from Fitch on Friday when the agency reviews the creditworthiness of the euro zone's third largest economy, analysts say, reflecting the country's political stability and improving public finances.

Fitch raised the outlook on Italy's BBB evaluation to positive a year ago, and economists expect the rating will now be lifted on the heels of upgrades last week to fellow peripheral euro zone countries Spain and Portugal.

Fitch's review of Italy will be followed in coming weeks by S&P Global, Moody's, Morningstar DBRS and Scope Ratings.

"Italy has demonstrated a consistent and credible commitment to fiscal consolidation, which reinforces the case for improved creditworthiness," said Filippo Mormando, European sovereign strategist at BBVA.

He added that, in view of Fitch's considerations given in downgrading France, a "positive surprise" for Italy cannot be completely ruled out, either by upgrading it to BBB+ and maintaining a positive outlook, or even making a double-notch upgrade to A-.

Italy's 2024 budget deficit of 3.4% of gross domestic product was well inside the government's 3.8% target, and Economy Minister Giancarlo Giorgetti has suggested it could fall below the European Union's 3% ceiling this year, a year ahead of schedule.

Citi economist Giada Giani pointed to Italy's "positive fiscal dynamic" during the summer, boosted by strong state sector tax revenues which rose around 4% in January-July compared with the same period of last year.

On the political front, Prime Minister Giorgia Meloni's government, in power since 2022, shows no sign of instability, in marked contrast to the recent turmoil in France, whose rating was downgraded by Fitch last week.

Luigi de Bellis, head of research at Italian investment bank Equita, said Italy had achieved "a virtuous mix" of factors including fiscal discipline, political stability and growing appetite for its bonds among international investors.

NARROWING SPREADS

Foreign net purchases of Italian government bonds rose in June by the largest amount since June 2019, according to Bank of Italy data.

The gap, or "spread", between Italy's benchmark 10-year bonds and equivalent German paper is around its narrowest in 16 years, while the Italy-France spread, which was as wide as 2 percentage points, or 200 basis points, during the COVID-19 pandemic, fell to below one basis point on Wednesday.

"We expect that Fitch will improve Italy's rating in the light of a deficit-to-GDP ratio below 3% this year and a credible consolidation path," de Bellis said in a note to clients this week.

Despite these positive judgements, Italy's situation has many black spots, including the euro zone's second largest and slowly rising debt pile, its lowest employment rate, chronically weak economic growth and stagnant productivity.

Its current BBB rating by Fitch is below those of all euro zone countries except Greece, which is on BBB-, and compares to Germany's AAA, France's A+, Portugal's A, and Spain's A-.

Italy's looming reviews come against a broader backdrop of a steadily diminishing gap in investors' perceptions of the euro zone's core and periphery countries.

Credit default swaps, a gauge of market confidence in countries' creditworthiness, already price in an upgrade of Italy to single A territory among the main ratings agencies, while Spain is priced as high as AA.

Equita's de Bellis said Moody's and Morningstar DBRS, which both have Italy on a positive outlook, could follow Fitch with ratings upgrades.

(Reporting by Valentina Consiglio, additional reporting by Sara Rossi, writing by Gavin JonesEditing by Gareth Jones)