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The increasing accumulation of government debt has become a concerning issue for many countries around the world. This mounting financial burden has significant implications for various industries, including real estate. For most countries, public debt only grew during the COVID-19 pandemic.
In Italy, public debt has been on a downward trend since COVID. However, recent months have seen a revision of the country’s budget deficit for the past few years due to the country’s Superbonus incentive, which aimed to boost the amount of ESG-compliant construction in the country.
An energy crisis linked to the Ukraine war and inflation had Italy's economy contracting slightly in the fourth quarter of 2022. Still, experts say that the government's greatest challenge in managing its debt mountain lies in volatility, not yield.
Italy’s GDP also decreased by 0.1 percent in the final three months of last year compared to the previous quarter, according to an initial estimate. However, it grew 3.9% last year, surpassing the 3.7% government forecast.
Recently, Citi Research wrote that “Higher cash needs over the coming years plus slowing real GDP growth will make it more challenging for the government to set the debt-GDP ratio on a clear downtrend.”
As of mid-2022, commercial real estate investors and lending institutions have been taking a wait-and-see attitude due to rising capital costs caused by restrictive monetary policies, worsening growth expectations, a picture of increased uncertainty, and worsening investment conditions. This situation has been exacerbated by the volatility of commodity prices due to the negative effects on construction costs, which poses a challenge to the sustainability of new real estate developments.
According to CBRE, from mid-2022 onwards there has been an increase in commercial real estate yields due to price revaluations in response to the economic landscape and shrinking business operating margins, such as higher energy costs in much of Europe. Investment volumes will likely decline during the phase of monetary policy normalisation, commodity market instability, and macroeconomic uncertainty, which has persisted this year.
Read: GRI Club members discuss the best investing choices in Italian real estate.
Credit: KYNASTUDIO | Envato
Many real estate leaders do not appear overwhelmingly concerned. Real estate leader Amundi says: “We are not worried about the Italian public debt. The first key figures about the 2023 Budget Law are in line with the principles of prudence and debt sustainability and it's correct that they also give further support to those parts of the economy most vulnerable to the energy crisis. I would say that the first fiscal choices of the new government appear realistic and also market-friendly.”
One of the threats on the horizon for Italy due to its debt is punishment from the European Union because of their Stability and Growth Pact (SGP). In March 2020, the SGP was suspended just as Europe entered the first COVID-19 lockdown, and May will mark the end of the suspension.
The SGP is the Eurozone's set of monetary rules for safeguarding, which prevent countries from spending beyond their means. The member states have agreed to hold their GDP deficit and debt ratios below 3% and 60%, monitored by the European Commission and Council finance ministers. In the past, other southern European countries, such as Greece and Portugal, have received bailouts from the EU, and the SGP aims to prevent this.
Countries that break the rules for three consecutive years have the potential to be fined a maximum of 0.5% of their GDP, although these consequences are not usually explored. However, there has always been the potential that this would occur, particularly against southern European countries. There are 14 EU states with debt limits lower than 60% at present.
Credit: Formatoriginal | Envato
In previous years, Italy has received criticism from the EU on its budgets, and in 2018 Italy’s budget was rejected entirely, with the EU stating that the plans deviated "from the recommended adjustment path towards the medium-term budgetary objective".
Although several reforms and complementary mechanisms have been implemented over the years, the SGP has remained strict for the most part despite criticism. Many have protested that it disproportionately punishes the more impoverished member states. Additionally, it has been criticised for being in disagreement with other EU principles, such as the requirements to invest in sustainability and digitisation.
Read: Italy’s EU Resilience and Recovery Plan and its impact on real estate.
Recently, Italy’s Prime Minister has said that "It is not conceivable that the investments needed to make our system competitive are not taken into account in the governance.” Meloni stated that for Italy a return to the previous criteria set out under the SGP would be "tragic", and that "we need governance that is more attentive to growth.”
"Today we are all being asked to make major investments for the ecological and digital transition, for strategic supply chains," Meloni emphasised.
For investors seeking to navigate the challenges of investing in real estate amid high government debt, several strategies can help minimize risk and maximize returns. These might include focusing on markets that demonstrate strong, long-term growth potential or targeting undervalued assets in areas with existing or planned infrastructure development. Additionally, diversification across different property types, regions, and countries can help mitigate the risks associated with investing in high-debt environments.
In conclusion, a comprehensive understanding of the complex relationship between government debt and the real estate market is crucial for both industry professionals and investors. High government debt can have wide-ranging implications for real estate prices, market dynamics, and investment opportunities. By staying informed and adopting appropriate strategies, it is possible to navigate this challenging landscape and find success in the real estate sector, even in the face of mounting public debt.
Discuss Italian real estate and the impact of macroeconomics in the industry at Italia GRI 2023 with other real estate leaders.
Written by Sarah Garnett