Fiscal Dominance and Money Growth in Italy: The Long Record

Abstract

Fiscal dominance, the extent to which government deficits condition the growth of the money supply, has been the prevailing regime in Italian monetary history since political unification in 1861. The nature of the institutional structure linking budget deficits to monetary base creation has changed over time. In the early days, the profit-seeking banks of issue intermittently exceeded the legal ceiling on their outstanding currency in order to lend to the government. Public finance exerted stronger influence on monetary policy, first in the 1930s and later in the 1970s, when fiscal dominance reached its high point. In the 1990s fiscal dominance held but in the opposite direction. To meet the provisions of the Maastricht Treaty and qualify for the European Monetary Union, Italian policy makers had to grant independence to the central bank and drastically curtail budget deficits.