By Giuseppe Fonte and Gavin Jones

ROME (Reuters) -Italy on Wednesday slashed its growth estimate for this year as the war in Ukraine weighs on the economy, while confirming a previous budget deficit target of 5.6% of national output.

The Treasury’s annual Economic and Financial Document (DEF) forecasts gross domestic product in the euro zone’s third largest economy will grow by 3.1%, down from a 4.7% projection made last September.

For 2023, the government sees GDP growth of 2.4%, down from the previous target of 2.8%.

“It’s clear the war has caused a weakening of the outlook,” Prime Minister Mario Draghi told reporters after cabinet signed off on the targets. “Confidence has diminished a lot, consumers and companies see a less positive future.”

The economy probably contracted by 0.5% in the first quarter, the DEF showed. It is expected to recover between April and June, the document said, while acknowledging mounting difficulties connected with events in Ukraine.

A lasting war “would have strong repercussions on inflation as well as on economic growth”, it added.

In a worst-case scenario assuming an embargo on Russian gas and oil and serious shortages in supplies, the Treasury estimated growth of just 0.6% in 2022 and 0.4% next year.

Several independent bodies have already cut their GDP forecasts for Italy well below the government’s. The Milan-based Ref think tank sees 2022 growth of 2.0%, while employers lobby Confindustria forecasts 1.9%.

Confindustria chief Carlo Bonomi has said the country is already facing recession, defined as two consecutive quarters of falling GDP. Draghi told reporters he may be right.

“Bonomi is seeing things as they are,” he said. “At the moment you’re more likely to be right by being pessimistic than by being optimistic.”

The government forecast inflation, measured using the consumption deflator, of 5.8% this year and 2.1% in 2023.

The public debt, proportionally the highest in the euro zone after Greece’s, is targeted at 147% of GDP this year, down from a previous 149.4%, and seen declining to 145.2% in 2023.

In confirming the 5.6% deficit goal this year, Draghi is helped by the fact the fiscal gap is on course for 5.1% under an unchanged policy scenario.

This allows potential leeway worth 9.5 billion euros ($10.38 billion) of additional spending or tax cuts.

However, 4.5 billion euros will go to finance schemes to cap energy prices approved earlier this year that were only temporarily funded, leaving 5 billion euros available for the government to spend this year without hiking the 5.6% target.

Rome plans to use these resources in April to keep capping energy costs, extend financing for existing guarantee schemes on bank loans and help Ukrainian refugees, the DEF said.

The deficit is seen at 3.9% of GDP in 2023, unchanged from the previous target. It should fall to 3.3% in 2024 and return below the European Union’s 3% ceiling in 2025.

($1 = 0.9156 euros)

(Additional reporting by Angelo Amante, editing by Alex Richardson)

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