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Macro-economic background and economic outlook In 1995 the rate of growth in GDP has jumped to 3% compared with 2.2% in 1994. A deceleration, evident since the last quarter of 1995, has begun later than in the other main European countries and growth is expected to remain subdued. The slowdown of economic activity is due to the slackening of import demand of Italy’s main trading partners. On the whole in 1996, GDP growth is projected to be 1.8%. After rapidly accelerating from the first quarter of 1995, inflation returned to a downward path from the start of 1996. In March, it dropped to 4.5% year on year; this compares with a maximum of 6% in November 1995. Inflation is expected to fall to 3.3% by the end of 1996. Last year, despite the downward trend in interest rates in the main industrial countries, the Bank of Italy maintained a restrictive anti-inflationary monetary stance. In the first months of 1996, the sharp decrease in inflation and the appreciation of the lira caused short-term interbank rates to drop below the fixed term advances rate (10.5%). In the next few months, a decline in interest rates should be made more likely by the further reduction of inflation and the prospects of another cut in German interest rates. The prerequisites for a cut in interest rates appear to be the slowdown of inflation to 4% for 1996 and further progress in the budget deficit consolidation. Yield forecasts and the shape of the yield curve Yields on 10-year treasury bonds (BTPs) have outperformed the decline in Bunds from October to December 1995. They have fallen from a high of 13.2% in March 1995 to a minimum of 10% in January this year, and have now risen to 10.5% on the back of the rise in United States and German long term interest rates. The yield spread over German 10-year bonds has sharply decreased from a high of 620 basis points in April 1995, to 405 basis points one year later. The closing of the gap between the Italian and the German rates is expected to continue during 1996. The Italian yield curve has flattened: at the beginning of April the difference between a three month and a ten year yield was around 1.1%, while six months ago it was 1.5%. The flattening of the curve (even more evident in February) is due to the perspectives already mentioned about inflation and economic growth and the high possibility of a cut in official rates in the next future. We expect that, toward the end of the year, the curve will steepen a little (around 1.3%) according to the scenario of lower short-term rates in the second part of 1996 and the possibility of a more cautious reduction in long-term rates. Budgetary considerations and funding pressures Since 1992, Italy has embarked on a virtuous path of fiscal consolidation with effective action to improve public finance, including a thorough reform of the state pension system. In 1995, the public sector borrowing requirement has been held down to 130 trillion lire as targetted by the 1995 Finance Bill. According to the medium term plan (1996-98), the Italian government envisaged a reduction in the public sector borrowing requirement from 9.5% of GDP in 1994 to 7.4% in 1995 and to 5.9% by 1996. The 3% Maastricht requirement should be met in 1998. In absolute terms, the public sector borrowing requirement should be cut to 109.4 trillion lire in 1996. The primary budget surplus should rise to about 80 trillion in 1996 from 65 trillion lire in 1995, while the debt service bill should remain around 190 trillion lire. According to updated projections about the state sector requirement results for the first three months of 1996, a supplementary package (about 10 trillion lire) is likely to be decided to meet the 1996 deficit target. The 1996 Finance Bill includes a clause which requires an automatic correction on the side of expenditure cuts in the case that updated forecasts are higher than those anticipated. In 1996 the pressure on the bond market will be similar to that of last year, when the deficit was financed primarly with net issues of BTPs and to a minor extent with CTZs (Zero Coupon Certificates) and BOTs (Ordinary Treasury Bills). We do not expect major changes in the managing of the debt by the Treasury in 1996: this means that the new deficit will be mainly financed by issues in BTPs and CTZs, while we expect very small ­p; if not negative ­p; net issues in CCTs (Treasury Credit Notes) and BOTs. Market history and structure Important changes have characterized the managing of public debt by the Treasury since the beginning of the 1980s. That period was characterized by the predominance of short-term bonds, while the medium- and long-term bonds were largely made up of variable rate CCTs. Beginning in 1983, investors’ interest in CCTs made it possible to cut down the proportion of BOTs issued and thereby extend the average maturity of the debt. In 1986, medium-term fixed-rate issues again assumed an important role with the introduction of BTPs. This tendency continued through the following years, and culminated in 1993 with the 30-year BTP issue, which signified an increase in the average maturity of the debt (at present 3 years and 3 months, compared to 2 years and 10 months in June 1993). Since the late 1980s, treasury policy has been characterized by the introduction of market criteria into government security management. The most important actions have been the adoption of an auction system through which the market determines prices; the creation of the Secondary Telematic Market (MTS) for government bonds; and the care taken to ensure sufficient liquidity for bonds in the MTS via the provision of adequate volumes of bonds for each individual issue. Bond auctions Traditionally, government bond options were based upon the system of sealed envelopes. Now, a computerized method is used. The market subsequently benefits from shorter auction times and more rapid diffusion of the results. Italian government bonds can take varying forms: BOTs (Ordinary Treasury Bills) are short-term bonds initially introduced to compensate temporary Treasury imbalances and have become one of the most popular forms of family savings. The bonds are zero-coupon with maturity ranging from three to six and twelve months, expressed in days. They are issued fortnightly, through competitive price auctions and without a base price indicator. Requests (ranked by bid prices) must be in hundredths of a percentage point for 3 and 6 month bills and in five hundredths for one-year bills and are met at the bidding price until all bills on offer are allocated. If there are many requests for bills at the stop-out price, they are allocated on a pro-rata basis. There also exixts a mechanism to prevent speculation which excludes bids far under market prices. CTZs (Zero-coupon Treasury Credit notes) were issued in February 1995 for the first time: their maturity is 24 months, expressed in days. They are issued fortnightly through a marginal auction, without a price indicator. Requests must be in five hundredths of a percentage point. A mechanism to exclude speculation similar to that for the BOTs is used. As the issue of a given bond is re-opened through auctions of successive tranches, the reference price for taxation purposes is the price fixed for the first tranche. BTPs (Medium-Long Term Treasury Bonds) are fixed-rate government bonds with semi-annual dividend coupons. They played a limited role in financing state deficits during the 1970s and the early 1980s, but now their net issues finance almost all the deficit. At present they are issued with 3, 5 and 10 years maturities. The characteristics of the auctions (that take place every beginning and mid-month) are the same as for the CTZs. The same bond is re-issued until it reaches a large flotation (usually at least 10 trillion lire). CCTs (Treasury Credit Notes) are variable-rate, medium-long term bonds, with semi-annual dividend coupons (or annual for some old issues), indexed to BOT yields. They played a major role in the 1980s, but now are being progressively substituted with BTPs. At present, they have a 7-year maturity and are issued twice a month via marginal auctions, like the CTZs and BTPs. They, too, are re-issued until they reach a large flotation. The CCT indexing mechanism has changed with time. Currently, it is as follows: the simple gross yield-at-issue of six-month BOTs in the last auction which precedes the due date of interest is divided by two and rounded off to the nearest five hundredth. The spread is then added to this amount. By Banca Nazionale del Lavoro’s finance and research departments Head of fixed income department P Tesoro +39 6 4702 6048 Italian government bonds trading desk Proprietary trading A Zazza Tel: +39 6 47026089 Fax: 47026343 Screen-based govt bonds (MTS) G Bonsignore Tel: +39 6 47026030 Fax: 47026425 Derivatives P M Rosa Tel:+39 6 47026848 Fax: 47026425 Repos G Dell’Acqua Tel: +39 6 47026382 Fax: 47026550 Auctions S De Grandi Tel: +39 6 47026115 Fax: 47026409 Italian market analysis A Mastrota Tel: +39 6 47026062 Fax: 47026343 Economic research department G Ajassa Tel: +39 6 47028414 Fax: 47028444 C Mazio Tel: +39 6 47028431 Fax: 47028444 |
