Italy's Economy Unexpectedly Shrinks; Nears Recession (Update3)

By Flavia Krause-Jackson

Aug. 8 (Bloomberg) -- Italy's economy unexpectedly shrank in the second quarter, edging it closer to the fourth recession in a decade as households and businesses struggle to cope with more expensive oil.

The economy, first of the three biggest in the euro region to report second-quarter growth, contracted 0.3 percent after expanding 0.5 percent in January to March, Istat, the Rome-based statistics office, said today. Economists expected stagnation, according to the median of 22 forecasts in a Bloomberg News survey. From the same period a year earlier, the economy didn't grow at all.

European Central Bank President Jean-Claude Trichet yesterday said economic growth will be ``particularly weak'' through the third quarter after policy makers left borrowing costs at 4.25 percent. Italy is a bellwether for the effect record oil prices are having on the region.

``It's hard to imagine Italy doing better in the coming quarters,'' David Mackie, an economist at JPMorgan Chase & Co in London, said in a note. ``It is difficult to escape the conclusion that Italy will experience a recession.''

Confidence Slump

Consumer confidence slumped to the lowest since 1993 as rising energy prices drove the inflation rate to the highest level in six years and borrowing costs rose. Manufacturing also stalled.

The price of crude, down by a fifth from a July record of $147.27 a barrel, is 65 percent more expensive than a year ago.

``The outlook for the euro zone isn't good at all,'' Neil Mackinnon, chief economist at ECU Group Plc in London, said on Bloomberg Television. ``Higher interest rates aren't on the agenda, and I think the next ECB move is down. A recession is looming.''

ECB council member Nout Wellink said in an interview with Dutch RTL television today that second-quarter growth in the euro area ``won't look that good.''

Gross domestic product in Germany, the region's biggest economy, declined 0.8 percent in the second quarter, according to the median forecast of 11 economists surveyed by Bloomberg. That would be the country's first contraction in four years. The GDP report is due Aug. 14.

Italy's economy will expand a mere 0.4 percent this year, the slowest pace since 2003, the Bank of Italy and the Isae research institute said last month.

Lucky Escape?

Some economists, such as Morgan Stanley's Vladimir Pillonca, predicted the country would enter a recession as soon as the first quarter after a contraction in the final three months of 2007. That didn't happen, though predictions are still gloomy.

The government and the European Commission forecast growth of 0.5 percent, which would make Italy the laggard among the Group of Seven leading industrial countries and the 15 nations sharing the euro. Italy's expansion has already trailed the European Union average for more than a decade.

``The outlook for the Italian economy has deteriorated at an alarming pace,'' Jonathan Loynes, an analyst at London-based Capital Economics, said in a research note. ``Unless Italy can quickly implement much-needed economic reforms it may start to lose ground to the rest of the euro zone.''

Unpopular Measures

To stimulate growth, Prime Minister Silvio Berlusconi has pledged unpopular measures such as reducing the state bureaucracy and raising the average pension age from 58.

Italian industrial production stagnated in June as oil prices were edging toward an all-time high. Indesit Co., a maker of washing machines, said on July 30 that 2008 earnings will be lower than last year's and Fiat SpA, the country's biggest automaker, idled four car factories last month in the face of slowing demand.

On the consumer side, Italians are cutting back on spending on everything from new cars to clothes. New auto sales fell for a seventh month in July. Italian retail sales declined for the 17th month in July, the Bloomberg purchasing managers index showed.

Italy has slipped to 46th in the World Economic Forum's 2007- 2008 competitiveness ranking, trailing Latvia and Bahrain. The country came last in terms of labor productivity -- a key measure of economic growth and competitiveness -- among the 30-member Organization for Economic Cooperation and Development.

The Italian statistics office didn't provide a breakdown of the GDP figure. Istat will release its final report on Sept. 10.

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