ROME (Reuters) - Bank of Italy Governor Ignazio Visco said on Wednesday that families and firms would suffer if borrowing costs stayed high, and called on the government to ensure fiscal stability.

FILE PHOTO: Bank of Italy Governor Ignazio Visco speaks in Rome, Oct. 31, 2017. REUTERS/Remo Casilli/File Photo

Italy’s coalition government is locked in dispute with the European Commission over an expansionary 2019 budget which raises the planned fiscal deficit to 2.4 percent of gross domestic product from 1.8 percent this year. Brussels says this breaks EU rules.

In a keynote speech in Rome, Visco said rising government bond yields in recent months would cost the state more than 5 billion euros next year if they did not retrace, with a knock-on effect on Italy’s huge public debt.

“Italy’s public debt is sustainable, but there must be a clear determination to keep it that way,” Visco said.

His comments seemed directed at the governing coalition of the anti-establishment 5-Star Movement and the right-wing League that took office in June.

“Uncertainties over Italy’s convinced participation in the European Union and the single currency must be dissipated,” Visco added.

Both the League and 5-Star used to campaign on an anti-euro platform, and though the government repeatedly stresses it has no intention of leaving the euro, markets remain nervous about the extent of its commitment to the single currency.

Visco said around half of the increase in government bond yields since the ruling coalition was formed could be attributed to lingering fears of an “Italexit”.

The Commission last week rejected Italy’s budget, saying it flouted a previous commitment to lower the deficit and would push up the country’s debt, already the second highest in the euro zone as a proportion of GDP.

The EU executive gave Rome three weeks to present a new budget, but the government says it has no intention of changing its plans. If Rome does not budge, the Commission could launch a so-called “excessive deficit procedure”, a disciplinary process that could eventually result in fines, though these have never been levied on any country in the monetary union.

Visco, who sits on the governing council of the European Central Bank, said Italy could withstand a rise in interest rates “so long as budgetary policy remains anchored to stability and we proceed with reforms aimed at strengthening the economy”.

He said that between May and August foreign investors had sold a net 82 billion euros ($92.96 billion) of Italian bonds, of which 67 billion were state bonds.

RECESSION RISK

The government says its big-spending budget is necessary to counter a slowdown and prevent Italy’s chronically sluggish economy tipping into recession.

Economy Minister Giovanni Tria, speaking at the same event attended by Visco, reiterated the message on Wednesday.

“We cannot afford not to raise the deficit,” he said, adding that Italy had still not recovered from a steep double-dip recession between 2008 and 2013 which had caused more damage to its economy than the Great Depression did in the 1930s.

Italian gross domestic product was flat in the third quarter compared with the previous quarter - the weakest result since the end of 2014, data showed this week.

Visco said the global outlook was darkening and this was particularly worrying for Italy.

“In a country like ours, where growth is already low, and has been below the euro zone average for many years, a further slowdown in economic activity would be felt more than elsewhere,” he said.

The government forecasts growth will accelerate to 1.5 percent next year thanks to increased investment, tax cuts and a new income support scheme, known as the “citizens’ wage”, which it says can boost consumer spending.

The impact of these measures will need to be substantial, Visco said.

He forecast growth this year of just 1.0 percent, below the official 1.2 percent outlook made earlier in October. Growth would be even lower next year, Visco said, not counting the effect of the measures in the budget, which has yet to be approved by parliament.

($1 = 0.8821 euros)