Investors who spent recent weeks fretting about France's public finances are turning their attention to Italy, where new government spending plans and a contested electoral reform have raised fresh questions about the country's debt.

Giorgia Meloni's centre-right government will next week present a budget that includes recently approved spending on defence and energy. Analysts at Goldman Sachs say the plans will widen Italy's deficit over the next two years and could put its debt-to-GDP ratio on course to become the highest in Europe by 2028.

€28bn in extra borrowing

On 2 October, the government approved an extra €28bn ($31bn) in borrowing over two years for defence and energy. Although the plans were scaled back from earlier proposals, they have raised Italy's deficit targets for 2027 and 2028, with the 2027 target lifted to 3.4% of GDP.

That would keep Italy above the EU's 3% deficit ceiling, after the government had worked to bring it down and exit the bloc's excessive deficit procedure.

Filippo Taddei, senior European economist at Goldman Sachs, said the changes could heap further pressure on Italian government bonds ahead of next year's general election. Wider deficits combined with higher yields, the bank argues, would push up the debt burden.

Defence and energy pressures

The government says the spending is necessary. Like other European countries, Italy is under pressure from Nato allies and the United States to increase military budgets sharply. Energy prices, pushed up by conflict in the Gulf and disruption to shipping, have also squeezed households and businesses.

Ministers argue that investment in defence and energy security is unavoidable and that Italy's economy and public finances are in stronger shape than in past crises.

Reasons for calm

Not everyone is alarmed. Bond investor PIMCO said strong domestic ownership of Italian debt and improved fundamentals offer support. A large share of Italian government bonds is held by Italian banks, institutions and households, making the market less vulnerable to sudden foreign selling.

Italy's political stability under Meloni, who has led one of the longest-lasting governments in the country's post-war history, has also reassured markets in recent years, helping to narrow the gap between Italian and German borrowing costs.

A new voting system

The fiscal debate comes days after Italy's parliament approved a fiercely contested overhaul of the electoral system championed by Meloni. Lawmakers voted 227 to 164 to move to a fully proportional system, which the prime minister argues will increase the chance of clear winners and more stable government.

Opposition parties say the reform has been designed to help Meloni's right-wing coalition hold on to power. In a heated debate, they accused the government of changing the rules shortly before an election in a way that favours incumbents.

Supporters respond that Italy has long suffered from fragile coalitions and frequent changes of government, and that the reform will deliver clearer mandates.

Election uncertainty

For investors, the combination of looser fiscal plans and an approaching election is the key concern. Analysts say campaign promises could add further spending pressure, while any uncertainty over the result could push yields higher.

The experience of France, where political turmoil over budget cuts has unsettled markets, is a reminder of how quickly sentiment can shift when fiscal plans meet political instability.

What to watch

The budget presentation next week will be scrutinised closely by the European Commission, credit rating agencies and investors. Brussels will assess whether Italy's plans are consistent with EU fiscal rules, which allow some flexibility for defence spending.

For now, Italian borrowing costs remain well below the crisis levels of the past. But with deficits rising and an election ahead, Rome may find that markets are less forgiving than they have been during Meloni's first term.