Silvio Berlusconi's hope of improving Italy's economic standing before next year's election was dealt a double blow on Monday when data revealed a worse than feared manufacturing slump and ratings agency S&P cut Italy's outlook.
Industrial production figures for June fell way below forecasts and dimmed hopes that Italy could be coming out of recession. Standard & Poor's cut its outlook to "negative" and said Italy's politicians had no long-term economic solutions.
S&P's said it could cut its debt rating if Italy does not deliver a debt reduction strategy soon after next May's election, something it said neither Berlusconi nor the centre-left opposition looked willing or able to do.
"A general election must be held by May 2006 and neither of the two main political groupings has presented a cohesive strategy to address budgetary imbalances," S&P's credit analyst Moritz Kraemer said in a statement.
"As both the centre-right and the centre-left suffer from deep internal divisions, it will be difficult for either to undertake a post-election consolidation strategy firm enough to embark on a course of sustained fiscal and structural consolidation."
Italy, the euro zone's third largest economy, is lagging its peers, mired in a recession after two consecutive quarters of economic shrinkage, with a budget deficit in excess of European Union limits and one of the world's biggest public debt levels.
And in the last week, newspaper transcripts of bugged telephone calls - taped by the police in a bank merger probe - have heightened suspicions of improprieties by Italy's political and financial classes.
The transcripts fuelled charges that central bank chief Antonio Fazio had favoured local bank Banca Popolare Italiana in its battle with Dutch ABN Amro for control of Banca Antonveneta.
Economy Minister Domenico Siniscalco has said the phone-tap affair and subsequent doubts over Fazio's future were damaging Italy's credibility.
S&P's' outlook cut appeared to support his belief that Italy's reputation was suffering.
"The government must act starting in coming days to improve confidence," Siniscalco said in a statement responding to S&P's.
Italy must "take decisions on unresolved questions", he said, a possible reference to the Fazio affair. He also stressed the need to stick to the deal agreed with the EU to get the deficit back under 3 percent of GDP by 2007.
S&P said Italy was likely to succeed in keeping the 2005 deficit/GDP ratio within 4.3 percent, but the policies in place and under discussion for 2006 were unlikely to bring it down to the 3.8 percent target and it was more likely to hit 5 percent.
It also said Italy was being over-optimistic in its ability to make structural budgetary improvements or to achieve privatisation revenues of 1 percent per year, making its debt targets unrealistic.
"The resulting officially targeted debt ratio of 101 percent of GDP by 2009 also seems difficult to achieve, with a ratio of 108 percent of GDP for that year looking more plausible," it said.
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