Government spending multipliers and financial fragility in Italy

This study investigates the government spending multipliers for Italy conditional on the level of financial fragility, addressing the gap in the literature on fiscal policy effectiveness under varying financial conditions. Using data from Istat and Bank of Italy's database covering 1999Q1-2019Q4, we employ the Interacted-VAR to examine the hypothesis that multipliers are higher during periods of high financial fragility. Our analysis reveals that greater multipliers and more crowding-in of private consumption occur during periods of high financial fragility, where the pronounced economic effects of government spending shocks also contribute to a loosening of household budget constraints. Indeed, the employment rate and real wages increase more during periods of high financial fragility. These findings offer new insights into the effectiveness of fiscal policy during financial stress and provide implications suggesting that financial fragility levels are a key factor in shaping the effects of fiscal policy.