EGB Supply: Italy to See Biggest Net Duration Fall in 2025, But Politics Means High Uncertainty

Summary

• As usual, EZ budgets rely on bullish economic growth, with Germany’s particularly lofty. Inflation overshoots could help the nominal picture.
• Real growth rates remain highly uncertain, with Trump’s tariff policy likely to have a large impact.
• We expect overshoots in German and French issuance. However, the German election and new French budget add uncertainty.
• Italy’s issuance should align with Tesoro expectations. Nevertheless, higher foreign ownership could make BTPs more exposed to selling.
• This and QT patterns suggest Italy will see the largest reduction in net-duration versus 2024’s issuance.

Market Implications

• We remain bearish BTPs vs Bunds, despite the issuance outlook,. The 10Y spread is very tight and should widen if (as we expect) the ECB cuts less than priced.
• Politics are important. French PM Bayrou appears safe for now, but the lurking risk of new elections lingers. We continue to expect Bund/OAT widening.
• We continue to expect higher EGB yields, which should also see some beta-widening.

Go to: Eurozone Supply Outlook | New Benchmark Predictions

The Outlook for 2025

Budget growth assumptions from the major EZ economies remain lofty. Germany’s real-growth assumptions sit the furthest above analyst expectations, while Italy and France’s (from the rejected budget) are a bit closer (Chart 1).

We likely significantly revise our full-year issuance estimates given Germany’s election and the new French budget, alongside the uncertainty in growth (partly due to US tariff policy).

Our forecasts for gross capital market issuance are:

• Germany: €255bn with upside risk | Finanzagentur: €240bn + green
• France: €313bn | AFT: €300bn
• Italy: €342bn | Tesoro: €330-350bn

For comparison, in 2024, our forecasts were:

• Germany: >€267bn | Finanzagentur: €267bn | Actual: €287bn
• France: >€300bn | AFT: €285bn | Actual: €330bn
• Italy: €370bn | Tesoro: €340-360bn | Actual: €360bn

Eurozone Budgets

Germany: How Much Extra Spend Will the New Elections Bring?

We are less negative on the EZ and German economy than the market, but the German budget real GDP growth assumptions still look too high (as in previous years).

Politics will be a large driver of the deficit. The German election on 23 February brings a lot of uncertainty. The recent trend has been a concerted outperformance by the far-right AfD (22%) at the expense of the centre-right CDU (28%).

Our base case if for a CDU/SPD (GroKo) grand coalition, though the odds of this are looking very tight – we project them currently getting 53% seats. With the Greens this would rise to 67%, enough to form a supermajority to change the constitution (and the debt brake).

However, this assumes that neither die Linke, nor FDP (both currently around 4.5% polling) manage to reach the 5% threshold for representation, nor win the three constituency seats needed to do so. Die Linke is in parliament because they (just) managed the latter in 2021, although they are now polling 0.4ppt lower.

Consequently, the GroKo’s capacity to form a majority will largely depend on how BSW performs versus die Linke. It would (somewhat perversely) be helped if the AfD took a greater share from both, and stopped BSW being represented, but would suffer if the BSW/die Linke vote share was split more evenly such that both parties entered the Bundestag. The latter seems to be the trend of late.

A further unknown is whether FDP voters remain loyal to the party or abandon ship to avoid wasting votes.

Overall, we expect the German government will need to spend more. However, coalition talks could be long-winded, even more so if the GroKo relies on the Greens for its majority.

The Finanzagentur has current plans for €240bn in capital market issuance this year, plus eight green bond taps, which could add an extra €13-15bn. In addition, net-Bubill issuance will cover €17bn.

The budget outlook remains highly uncertain, but we estimate that Germany will need to add €30bn pa to regular defence spending (Einzelplan 14) to reach 2.0% of GDP. However, this is unlikely to be realised in the 2025 plans due to intransigence and delayed negotiations. We pencil in an additional €10bn spending, likely covered by the Green issuance.

€66bn (deficit) + €196bn (maturing) + €10bn (defence) – €17.5bn (net bills) = €255bn

France: New Budget Means Higher Issuance

France’s budget has been in turmoil but may be nearing a breakthrough. The AFT’s initial issuance announcement was based on the (unlikely) €135bn central deficit target (c.4.5% nominal GDP; with a total the budget refers to this as 5.0%) from last year’s.

However, this deficit will need to be much higher. The latest planned French budget, likely for approval, assumes a 5.4% GDP deficit. We assume this will add at least €12bn to the original issuance requirement – meaning total issuance required is:

€135bn + €12bn (extra deficit) + €173bn (maturing) = €313bn

However, we continue to note that there remains a fat tail risk of new French elections this year ushering a more fiscally expansive government to power.

Italy’s Finances Face Headwinds

Italy finished 2024 with a better-than-initially-expected deficit (3.7% GDP vs 4.2% expected). Nevertheless, capital market issuance reached €377bn (€361bn net of exchange transactions), at the higher end of the MEF’s initial €340-360bn estimate and slightly below our estimate of €370bn.

In 2025, the MEF continues to expect strong nominal growth, partly driven by a very healthy reduction in unemployment. Growth would be helped if the EZ economy is not as weak as the market fears and inflation stays strong.

We expect issuance could come at the upper end of the Italian Tesoro’s 2025 gross capital market supply estimate of €330-350bn given:

1. Overly bullish budget assumptions on the labour market (unemployment expected to drop to 6.6%).
2. Pressure to increase defence spending, currently only 1.54% GDP (shortfall: €8bn):

€234bn (maturity) + €135bn (deficit) + €8bn (defence) – €37bn (NGEU) = €342bn

A key question is who will absorb the extra issuance? Central bank issuance will decline further in 2025 (est: €67bn, versus €63bn in 2024). So far, retail and non-residential owners have picked up the slack. Retail added €50bn from Oct-23 to Oct24, including €30bn of BTP Valore issuance. Additionally, €18.5bn of BTP Italia will mature this year.

We expect the Tesoro will choose to tap Valore twice more this year (the first time being the BTP Più in February) and Italia at least once (to replace the maturing bond).

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)