Bank of Italy sees gloom deepening for economy

Bank of Italy sees gloom deepening for economy

ROME, Jan 18 (Reuters) - Italy's central bank cut its forecast for the country's shrinking economy on Friday, as tight credit conditions and a gloomy international backdrop darken the domestic outlook before a national election in February.

The Bank of Italy said it now expects gross domestic product (GDP) to fall by 1.0 percent this year rather than the 0.2 percent contraction it forecast in July.

It also warned the budget deficit might not have fallen below 3 percent of output last year, which would stop Italy from exiting the EU's excessive deficit procedure, despite austerity measures imposed by technocrat Mario Monti's government.

In a quarterly economic report that highlighted the economic challenges that will face Monti's successor, the bank said the recession that started in the third quarter of 2011 would extend well into 2013, with unemployment continuing to climb and reaching 12 percent by 2014 from 8.4 percent in 2011.

Later on Friday a government official said fresh corrective measures may be needed to meet fiscal targets for this year, unless Italy's partners are flexible in allowing a deficit overshoot.

The central bank's report will be unwelcome reading for Monti, who is bidding for a second term in the Feb. 24-25 vote but whose centrist alliance lags Pier Luigi Bersani's centre-left and the centre-right led by former Prime Minister Silvio Berlusconi.

Since his appointment in November 2011, Monti has had to repeatedly cut his growth forecasts and raise his deficit and debt targets as economic conditions have weakened.

In September he raised the 2012 deficit target to 2.6 percent from 1.7 percent, and the central bank expects even that goal has been missed. Data for 2012 public finances will be issued by statistics bureau ISTAT on March 1.

Bank of Italy Governor Ignazio Visco said whichever government came to power in February would have a tough job.

"Our country must find the motivation and the incentives to decisively tackle the problem of growth," he said in a speech in Florence delivered after the report.

He called for reforms to liberalise markets, cut red tape, curb tax evasion and corruption and improve the civil justice system.