Ella 
European Central Bank (ECB) policymaker Klaas Knot cautioned on Friday that Italy is grappling with the consequences of raising its deficit targets, leading to increased borrowing costs. Knot urged governments to exercise fiscal restraint or risk facing “market discipline.”
Knot, who is also the governor of the Dutch central bank, suggested that he did not see a need for the ECB to intervene in the bond market to narrow the spread between Italy’s and Germany’s borrowing costs. This spread had widened following Italy’s announcement of new budget plans.
“The spread of (Italy) has run up a little bit over the last few weeks because of an upward revision of the deficit trajectory,” Knot explained during a conference. “So there is still market discipline.”
The ECB can purchase a country’s bonds if it deems that country is experiencing undue market pressure, a move it made during the pandemic in 2020 and in the previous year.
However, the ECB has emphasized that it would not intervene if it believed that a country’s economic policies were unsound and contributed to its difficulties.
Italy recently announced plans to increase its budget deficit by 23.5 billion euros ($24.8 billion) between 2023 and 2025 to fund various support measures for families, workers, and pensioners. This announcement caused the yield spread between Italy’s and Germany’s 10-year bonds to widen to 200.2 basis points, the widest since March. It also increased pressure on Italy, one of the eurozone’s weaker borrowers, at a time of already elevated borrowing costs.
Knot was the first ECB policymaker to directly address Italy’s situation, but he noted that fiscal profligacy, which hampers the ECB’s efforts to combat inflation, was not unique to Italy and extended to other countries as well.
“This is the time to… build your fiscal buffers for the time in which the economy maybe goes into recession again in the future, but what we see is that all deficits are close to the 3% (European target), or above the 3%,” Knot emphasized.
Speaking at the same conference, Croatian ECB policymaker Boris Vujcic echoed Knot’s call for fiscal discipline, especially after the large deficits incurred during the pandemic.
“Ministers of finance who were prudent enough… used periods of high inflation to lower down the public debt,” Vujcic stated. “Others much less, so if they haven’t done enough they have more problems further down the road.”
In an earlier interview, ECB board member Isabel Schnabel, known for her hawkish stance, emphasized that the recent surge in yields indicated that “governments need to be even more prudent.”
