OECD sees Italian recession deepening in 2009

ROME Nov 25 (Reuters) - The Organisation for Economic Cooperation and Development slashed its outlook for Italy on Tuesday, forecasting the euro zone's third largest economy will suffer a deep recession this year and next.

In its twice-yearly Economic Outlook, the OECD forecast Italy's gross domestic product would contract 0.4 percent this year, the first annual decline since 1993, and shrink 0.9 percent in 2009.

This would mark the first time Italy has posted two consecutive years of falling GDP since World War Two. The Paris-based body previously forecast GDP growth of 0.1 percent this year and 0.9 percent in 2009.

"Global financial turmoil hit an economy already weakened by several years of low productivity growth, deteriorating competitiveness and high public debt," the OECD said.

After contractions already reported in both the second and third quarters of this year, "further falls in GDP can be expected until late 2009", the report said.

In the throes of the current crisis Italy should allow a modest relaxation of its budget deficit goals, it said. But Italy's very high public debt meant it had less scope than its partners for expansionary policies.

The deficit will rise to 2.5 percent of GDP this year from 1.5 percent in 2007, and to 2.9 percent in 2009, skirting the European Union's 3 percent ceiling and well above the government's current 2.1 percent target, the OECD projected.

With the recent widening of sovereign interest rate spreads, Italy is already suffering the consequences of excessive public debt, it said. "With high public debt, further fiscal tightening is inevitable ... The needed fiscal consolidation will nevertheless be a drag on demand," it said.

Italy's debt, at around 104 percent of GDP, is the highest in the euro zone and the third highest in the world.

After falling for over a decade due to immigrant labour and more flexible labour market rules, Italy's average unemployment rate is forecast to rise this year to 6.9 percent from 6.2 percent, and climb to 7.8 percent in 2009.

The average inflation rate, based on the EU-harmonised index of consumer prices, will fall back sharply next year to 1.5 percent from 3.5 percent in 2008 due to lower commodity prices and weaker demand.