The outlook for Italy's banking system has changed to stable from negative as problem loans will continue to fall, while banks' funding conditions improve and their capital holds steady, Moody's Investors Service said in a report.

"We expect Italian banks' problem loans to fall in 2020 for a fifth consecutive year," said Fabio Iannò, VP-Senior Credit Officer at Moody's. "However, their problem loan ratio of around 8% remains more than double the European Union average of 3%, according to European Banking Authority data. We also take into account our forecast for weak yet positive Italian GDP growth, and our stable outlook on Italy's sovereign rating."

Italian banks are set to have stable or moderately better profitability in 2019 and 2020 thanks to lower wholesale funding costs, lower cost of risk, and efficiency gains from recent restructuring initiatives. Capital ratios look set to remain stable, with almost all lenders reporting comfortable buffers above regulatory requirements.