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Italy can play diplomatic hardball during 1938 just as they did during 1934.
Not sharing DB601 engine with Italy may mean Germany foregoes the opportunity to annex Sudetenland.
I Those lumps and bumps on the engine cowling covered the cylinder heads of course, so the only way to eliminate them would be to increase the diameter of the entire cowling, which would be a bad option.
If we concentrate on things available in 1939, I'd pick the Aeronautica Umbra Trojani AUT.18, Caproni - Vizzola F.5, or the Macchi C.200
Any of them could be developed into a good aircraft ... but you have to DO it, not talk about it.
What if....Italy had gotten hold of the P&W R-1830, either legally or by ripping it off like everyone else did. The P&W was about the same weight as the Fiat donk in the Saetta but produced another 330hp. The Folgore was proof that the Saetta was well up to the extra power. It was competitive against second tier fighters like the Hurricane and P-40 with 870hp - with 1200 hp it might have been giving Spitfires a fright.