Fiscal policy, debt management and exchange rate credibility: Lessons from the recent Italian experience

Abstract

This paper explores some potential determinants of exchange rate credibility with reference to the Italian experience of the 1990s. The analysis relies on a nonlinear framework emphasizing shifts between credible and non-credible states, and assuming a significant degree of persistence in the above regimes. Almost all fiscal and debt management indicators display significant effects on devaluation expectations. The main policy implications of the paper are that a restrictive fiscal stance, a lengthening of average debt maturity and an increase in the share of foreign-denominated debt are crucial to stabilize the Lira exchange rate and to qualify Italy in the former group of countries which will join EMU.