Italy is facing a rising likelihood of a technical recession in the first quarter of this year as the rapidly worsening coronavirus outbreak threatens to further damage an economy that was already shrinking.

The Italian economy contracted 0.3 per cent quarter on quarter in the final three months of 2019, the steepest decline in six years, and the global economic impact of coronavirus could drive a further contraction in the succeeding quarter, said economists. A technical recession is defined as two consecutive quarters of contraction.

“The first-quarter hit to China from the coronavirus will probably drive further weakness in Italy’s manufacturing-sensitive economy,” said Nadia Gharbi, senior economist at Pictet Wealth Management.

The majority of cases of the virus that have been diagnosed so far are concentrated in the wealthy regions of Lombardy and Veneto that make up about a third of Italy’s output.

The nation’s finance capital, Milan, is at the heart of the outbreak and has shut down schools, offices and tourist attractions as part of its response to the outbreak. Some businesses have asked workers in affected areas to stay at home.

Column chart of GDP, % change on previous quarter showing Italy has endured three recessions in recent years

Italy has quarantined at least 10 northern towns and the southern region of Basilicata has imposed a quarantine on people arriving from the northern regions of Piedmont, Lombardy, Veneto, Emilia-Romagna and Liguria.

The combination of travel restrictions and disruption to work, supply chains and tourism all threaten to weigh on the country’s struggling economy.

“There is a clear risk that [the Italian economy] falls back into recession for the fourth time since 2008,” said Jack Allen-Reynolds, senior Europe economist at Capital Economics.

Investors reacted on Monday by seeking safety in the financial markets. Italy’s FTSE MIB index of leading shares fell 4.6 per cent, leaving it on track for its worst day since June 2016.

The yield on Italy’s benchmark 10-year government bonds, which moves inversely to price, rose 9 basis points from market close on Friday, to 1 per cent.

Italy’s tourism industry is particularly vulnerable to the shutdowns resulting from the coronavirus outbreak.

The country attracts about 128m arrivals annually, almost equally split between domestic and foreign visitors. Foreign visitors accounted for about €42bn of spending in the country in 2018, according to calculations by the Bank of Italy.

“I am dealing with cancellation after cancellation,” said Guido Carresi, who manages two hotels in central Florence and was looking forward to the beginning of the high season. “If the fear for the spread of the virus continues for long, it will be really tough for our finances this year.”

The economic value-added generated by tourism amounts to nearly 6 per cent of gross domestic product in Italy, according to calculations by the Bank of Italy, a higher contribution to economic growth than in France and Germany.

The wider economic environment was already looking grim. Mr Allen-Reynolds expects “domestic demand is likely to have remained very weak” in the first quarter of 2020, while “the outlook for investment is particularly poor, with firms reporting that conditions for investment have worsened”.

Empty turnstiles at Milano Cadorna railway station during the morning rush hour in Milan on Monday
Milano Cadorna railway station during what is normally the morning rush hour on Monday © MATTEO CORNER/EPA-EFE/Shutterstock

Italy’s exporters and manufacturers were battling an economic drag from the past two years of US-China trade tensions and the slowdown in Germany’s car industry, while domestic demand remains below the level it was a decade ago.

Now the shutdowns and supply chain disruptions caused by coronavirus add “a further headwind to industrial production”, said Mr Allen-Reynolds.

Italy’s exporters have been critical in recent years in staving off a deeper slump for the eurozone’s third-largest economy by output. Over the past three years, Italy’s exports of goods and services grew at more than three times the pace of the overall economy, and expanded at a slightly faster speed than those of France and Germany.

Military officers wearing face masks outside Duomo cathedral in Milan on Monday
Military officers wearing face masks outside Milan’s cathedral on Monday © Reuters

As a share of GDP, Italy’s exports of goods and services rose to 31 per cent in 2018, from 25 per cent in 2010.

Italy’s long tradition of high-value exports has been powered by its international reputation for quality in sectors ranging from luxury fashion to food as well as industrial manufacturing.

This has kept many Italian businesses going as the country’s economy has flatlined in the past two years, dragged down by the low productivity of domestically-oriented businesses, adverse demographics and poor job growth.

But they are particularly exposed to both the domestic and global economic consequences of the disease.

Line chart of Real indices, rebased showing Italy's exports grew while the economy stagnated

“Whatever growth [Italy] has experienced in recent years has been closely correlated to how the global economy has fared,” said Silvia Dall’Angelo, senior economist at Hermes Investment. “At the same time domestic demand has been sluggish, implying that Italian growth has been particularly vulnerable to external shocks.”

The pain caused by a slowdown for exporters could have particularly notable economic consequences as a result of the sharply higher productivity these companies exhibit compared with domestic-focused businesses.

Italy’s exporters are more than twice as productive than non-exporting businesses, according to official data, as well as being bigger in size and offering Italian workers higher wages.

If these exporting businesses are hurt, the pain is likely to be felt across the domestic economy.

Bar chart of % outperformance in gross value added per worker compared to non-exporters, by number of employees (2017) showing Italy's exporters are more productive than non-exporters

Italy’ household domestic consumption has not grown over the past decade, while real average wages are still below pre-crisis levels and job growth is the slowest of any other major eurozone economy over the past two years.

Italy’s economy minister Roberto Gualtieri said on Sunday that “in the baseline scenario, this impact may still be relatively small and temporary”. But, he added, “there is full awareness of the risks that a wider spread of the epidemic represents for global growth”.

Lorenzo Codogno, a former chief economist at the Italian Treasury, said the virus hit Italy as it faced “an already-fragile economic and public finance situation”.

A quarter-on-quarter contraction of between 0.5 per cent and 1 per cent in the first three months of 2020 “would not be outside of a reasonable range of predictions” if the outbreak does not worsen further, he said.

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