By Giuseppe Fonte and Giselda Vagnoni
ROME (Reuters) - The ruling coalition is willing to keep Italy's public deficit below 2 percent of gross domestic product (GDP) next year, a government source said, signalling a compromise that boosted the Italian bond market on Tuesday.
The government, made up of the anti-establishment 5-Star Movement and the far-right League party, must present its first budget and economic targets this week.
Both parties are seeking tax cuts and higher welfare spending to spur the economy, but the central bank is concerned that a spike in the deficit could put Italy's huge debt mountain on an unsustainable course.
"The idea to remain below the psychological threshold of 2 percent is prevailing," the source said following a budget meeting late Monday at Prime Minister Giuseppe Conte's office.
Another source said that during the encounter, Economy Minister Giovanni Tria, an academic who does not belong to either of the ruling parties, repeated his call for a 2019 deficit target of 1.6 percent, while 5-Star and League ministers pushed for a figure above 2 percent.
Italian daily La Stampa reported on Tuesday that ministers had agreed to a compromise and will endorse a 2019 deficit of 1.9 percent of GDP. The paper said it would also include a 36-billion-euro ($42 billion) investment package in the budget that has been touted by Europe Minister Paolo Savona.
Italy has the biggest debt pile in the euro zone in terms of GDP after Greece and the fear that its government could foster uncontrolled spending has unnerved markets causing a sharp rise in Italian interest rates over the summer months.
Signs that the coalition looked ready to reach a compromise over the budget helped Italian bonds.
Italy's 10-year bond yield fell 9 basis points to 2.86 percent (IT10YT=RR), shrinking the spread over benchmark German Bund yields to around 232 bps, from around 245 bps late on Monday.
The prime minister's spokesman warned last week that 5-Star would sack Treasury officials unless they found the resources needed for extra welfare spending.
Tria attended Monday's meeting flanked by his ministry's three top officials, the sources said.
Conte flew to New York on Tuesday to attend the opening session of the United Nations General Assembly on Sept. 25 and 26. He is due to return to Italy in time for a cabinet meeting expected on Sept. 27 to sign off on the budget goals.
Italy has to set growth, deficit and debt targets for 2019-2021 by Sept. 27 and will have to submit its draft budget for next year by mid-October.