Improved Credit Fundamentals, Tighter Lending Criteria
Executive Summary
Banks posted record profits amid narrower risk appetite and stronger consumer lending pricing. NPLs and country risk are today at historical lows, as the economy remains strong. Inflation risk and monetary policies remain key determining factors in credit underwriting.
Chapter 1: Italian credit market shakes off the freeze
Since 2025, the Italian banking sector has been operating under an increasingly favourable sovereign-risk environment. The country showed strong resilience to severe turbulence, with a projected real GDP growth rate of 0.5% in 2026 (as in 2025) and YoY July 2025-26 core inflation rate of 1.6%, remaining significantly below the 2.5% Euro Area rate. The current government’s disciplined budget consolidation has driven consensus to project a deficit below 3% of GDP for 2026. As a result, Rating agencies, such as S&P Ratings, upgraded Italy’s rating and outlook after several years of stagnation.
CDS premia have been catching up major EU peers (declining at an average rate of 10bps per year in the last 10Y) and are now stably well below the historical median; the BTP–Bund spread is currently close to 10-year lows and is now nearly 220bps lower than its 2018 peak. On the corporate issuers side, HY vs IG spreads are tightening and are now 32bps below the historical 10y median, as fixed income investors accept lower premia for higher risk issuers.
Since “Liberation Day”, largest banks, representing circa 80% of the lending market, have significantly tightened their lending criteria, amid geopolitical and macro headwinds. Collateral and balance sheet quality remain priorities to face regulatory challenge and monetary policy uncertainty.
Corporate lending has overall contracted by 15% in the last seven years, until Q1 2026 when it finally reached an inflection point of 3.4% growth YoY. SMEs remain underserved and the weak link in the credit market. Banks have dramatically reduced their exposure to smaller borrowers by 25% of volume in 2022-25. Q1 2026 recorded a marginal growth to SME lending, as credit applications grew the past 12 months (net 10% of Italian banks reporting a surge. Non-bank lenders are consolidating their current corporate lending market share of 9.2%
Large banks are shifting their exposure towards safer transactions also in the consumers, with one example being trade-off between mortgage and consumer lending. During the past seven years, the mortgage market has grown by 28% (€342 billion in Q1 2019 vs €442 billion Q1 2026), whilst unsecured consumer lending tightened by 5% (€172 billion in Q1 2019 vs €163 billion Q1 2026).
Consumption (currently 59.3% of GDP) has driven a boost in credit applications over the past 12 months (up by c. 5%). Given the change in lending criteria across the board, alternative lenders have been growing and, as of the end of 2025, represented 28.5% of the total consumer lending market.
Main Takeaway: Improving sovereign fundamentals are creating a more supportive backdrop for Italian credit, but banks remain increasingly selective on risk and capital deployment. In this context, non-banks lenders are stepping in to capture growing pockets of demand.
Chapter 2: Credit demand surges, banks risk appetite lags
Italian banks have reported an increase in credit applications for four consecutive quarters, reflecting the healthy foundations of the current economic cycle.
Tighter lending criteria remain a constrain to fuel SMEs (-4.0% YoY), the riskiest but also largest contributor to the country’s GDP (c. 60% as of 2025). On the other hand, large enterprise exposure sharply increased by 5% YoY in 2025, leveraging on historically stronger balance sheets and lower regulatory capital absorption, key determinants in credit underwriting.
Mortgages are still the fastest-growing asset class with a CAGR 2019-25 of 3.7%, as Italy remains one of the countries with the highest home ownership rate in the EU (77.1% in 2025 vs EU average rate of 68.5%). On the other hand, unsecured lending has decreased by 5% in the same period, as banks remain cautious on inflation risk. Pricing on newly originated consumer loans has reached nearly the all-time-high above 10% APR.
Increasing consumer credit demand along with tightening lending criteria have allowed non-bank lenders to grow their consumer lending market share by a further 5% in the last six years.
Main takeaway: Credit demand is back, but bank lending is increasingly selective: mortgages and large corporates are winning, while tighter underwriting is reshaping higher-risk credit segments
Chapter 3: Italian banks benefit from positive economic environment, tighter risk appetite, and efficient capital financing tools
In the wake of the pandemic, Italian systemic banks have prioritised underlying borrower credit quality. Business lending NPL ratios have plummeted to levels below pre-pandemic benchmarks (2.0% in Q1 2026 vs 8.3% in 2019). SMEs have stabilised at very low NPL rates (now 4.9%), narrowing the gap vs large enterprises in the last seven years by 2.5% (c. 4% in Q1 2019 to 1.5% in Q1 2026).
Banks’ ROE has almost doubled compared to pre-pandemic levels (reaching 15% in Q1 2026 vs 7.9% in 2019), supported by strong pricing, fee generation and contained cost of risk (down to 0.3% in Q1 2026). Total Capital Ratios remain stable, further reinforced by enhanced scale and operational efficiency as the sector continues to consolidate.
Declining Italian sovereign risk, persistent global geopolitical tension, and economic uncertainty are dragging banks to further implement tighter underwriting and capital allocation policies. This prudent approach is paying off.
Tighter credit selection has delivered cleaner balance sheets, lower cost of risk and a near-doubling of bank profitability. This is achieved by pursuing a business strategy that generated high risk-adjusted returns by combining favourable pricing (backed by the last thee-year high-interest rate environment) and disciplined, risk averse underwriting which has prioritised credit provision loss minimisation and preserving the Italian banking system overall capitalisation levels.
Outlook
S&P Ratings expect an overall improvement of the current Italian economic conditions. By 2027-28, GDP growth rate is expected to stabilise around 0.8%, benefiting from the continuous deployment of the Next Generation EU program, a package of EU-sponsored fiscal stimulus targeting structural and nationwide investments supporting the economic development of the country.
In this constructive local environment, we expect that the next Italian credit cycle will feature solid fundamentals, sustained credit demand, but a widening funding gap. NPLs across corporate and household lending are approaching historical lows, while large corporates and residential real estate backed lending continue to constitute the preferred lending solutions by banks, thanks to their outperforming pricing-risk trade-off, especially as reference lending rates remain attractive (Euribor 6M 2.20%).
On the other hand, rising inflationary and geopolitical risks are expected to impact smaller enterprises and unsecured consumer lending, as their demand is expected to remain unmet by traditional largest lenders. We expect this dynamic to give way to non-bank lenders, as they further scale up and consolidate their presence in the SME and consumer lending markets.
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