Latent fiscal dominance: monetary accommodation and the Bank of Italy–Treasury divorce, 1962–1998

Francesco Leghissa

No 2026/0430, Working Papers REM from ISEG - Lisbon School of Economics and Management, REM, Universidade de Lisboa

Abstract: Italian monetary policy remained subordinated to public financing between the 1960s and the euro, deficits being routinely accommodated through monetary base creation. This paper asks whether that configuration amounted to a non-Ricardian regime in the sense of the Fiscal Theory of the Price Level. Bivariate VARs, a structural-cyclical decomposition of the primary balance addressing the observational equivalence critique, and a three-variable variance decomposition all yield Ricardian-like dynamics. Yet the structural primary balance behaved as a near-autonomous process, satisfying the definition of active fiscal policy. I characterise this as a hybrid regime, latent fiscal dominance within a Ricardian outcome, sustained by the central bank’s dual role as fiscal accommodator and market coordinator. The 1981 divorce dismantled that architecture progressively rather than triggering a regime switch: fiscal contributions to monetary base variance fell from 93 to at most 48 per cent, a transition the Annual Reports show was completed only under Maastricht.

Keywords: fiscal theory of the price level; fiscal dominance; Bank of Italy–Treasury divorce; monetary-fiscal interaction; VAR. (search for similar items in EconPapers)
JEL-codes: E52 E62 E63 H63 N14 (search for similar items in EconPapers)
Date: 2026-09
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