Constraints on policymaking in high sovereign debt countries: case studies of Italy and Japan

Abstract While sovereign debt has become a major constraint in the policymaking of most developed countries, this article asks why the choices in fiscal and monetary policy were not uniform among the highest sovereign debt countries: Italy and Japan. While Japan has been fairly unconstrained in economic policymaking over the last 25 years since the onset of the ‘Lost Decades,’ Italy has been very strongly constrained even as debt levels are higher in the former than in the latter case. It is argued that Italy faced two important constraints to policymaking, which Japan does not face: (1) the higher exposure to foreign debt holding, which has made Italy more vulnerable to fluctuations in the interest rate, thus making the government more cautious about taking certain fiscal decisions; (2) the common currency and fiscal treaties to limit deficit and debt accumulation, which form a legal barrier to fiscal and monetary expansionism.