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March 01, 2010

Overview of the Italian Law on Fiscal Federalism

Posted by Maria Gabriella Briotti and Maria Cristina Mercuri1 

Last May, the Italian Parliament approved a framework law on fiscal federalism. The law represents a crucial step towards the implementation of the reformed Title V of the Italian Constitution, which transfers increasing legislative authorities and administrative functions to sub-national governments. As such, the law has to be seen as the continuation of a long process of fiscal devolution started in the mid-1990s aimed at correcting gradually the existing vertical imbalance across levels of governments. The next step will be the adoption, by May 2011, of several legislative decrees that will have to define the operational content and practical application of the principles stated in the law.


In May 2009, eight years after the reform of Title V of the Constitution (Constitutional Law n. 3/2001), the Italian Parliament approved the framework law on fiscal federalism (Legge Delega n. 42/2009)2. The scope is to enhance tax autonomy and fiscal responsibilities of sub-national governments (Regions, Provinces, Municipalities, and selected Metropolitan area), notwithstanding a full guarantee of solidarity and cohesion principles, while also promoting public administration efficiency and budget consolidation processes.

Operational content and practical application of the principles established by the frame law will have to be defined by subsequent legislative decrees to be adopted by parliament within a 24-month period from the approval of the law (a 12-month deadline is instead set to harmonize the accounting systems across regions). As building blocks of the entire fiscal system, the executing legislative decrees will have to define in detail spending competencies and taxes to be devolved to local administrations, which services will be provided uniformly on the territory, how to finance equalization funds, and the amount of local expenditure to be financed through the equalization funds. The reform must be completed and enter into effect in five years since the frame law approval, although a somewhat longer period might be allowed to individual regions, to take into account special circumstances.

The law is structured around three main principles:

• The phasing out of a previous financing arrangements, which were largely based on vertical transfers and the assignment of tax autonomy and spending responsibilities to local administrations.

• The introduction of equalization transfers to redistribute resources across jurisdictions, allowing partial compensation of unequal fiscal capacity or full compensation of standard borrowing requirement, depending on the given spending category.

• The design and establishment of institutions charged with coordinating the implementation of fiscal federalism, the harmonization of local public accounting (specifically regions) and the coordination of fiscal actions across government levels.

A critical and innovative principle is that financing resources will be assigned to local administrations to perform their tasks on the basis of standard costs of production calculated against established efficiency norms (to be defined in the forthcoming executing decrees), or, alternatively, benchmarks (also yet to be defined). This represents a shift from the past, when financing needs of local administrations were assessed on the bases of past of spending patterns. Additional building blocks to the establishment of a system of fiscal federalism are the design of the recently approved Public Accounting Law3 and the final layout of the Public Administration reform.

Tax principles

The principle of tax autonomy allows local administrations to introduce own taxes as well as modify tax rates, deductions, and allowances. In doing so, they must respect the principle of territoriality (taxing power restricted to the territory of competence), the principle of correlation (taxes and benefits must be related) and the principle of moderation (principio di continenza) (taxing power limited to area of spending competences). The law explicitly states that the devolution of taxing powers to sub-national governments must not produce any increases of the national tax burden. Given the total tax burden defined at a national level by the central government, the question remains of its apportionment among government levels, which will have to be periodically agreed among central and lower levels of government.

Three main categories of revenues will finance sub-national governments: (a) own taxes, including additional tax rates on national tax bases; (b) shares of national tax revenues; and (c) redistributive transfers (shares of common pool funds). Within the first group, one must distinguish between “derived own taxes”, exclusively instituted and regulated by State law, and those that can be modified by local administrations within limits set by State legislation, and own taxes, which can instead be introduced by local administrations, provided tax bases are not already subject to State taxes.

Spending needs and redistributive transfers

Spending related to social welfare, with a redistributive impact and on which the State Law retains exclusive competence, will have to be provided at a uniform level (still to be defined in detail) throughout the national territory to prevent social and territorial disparity. This first group of spending includes, at the regional level, health, social assistance and education—limited to administrative costs—and, at the provincial and municipality levels, social assistance, education, transport, environment, and crime prevention.

Combined with own tax financing, assessed at standard rates, redistributive transfers are deemed to fill the financing gap in providing a uniform level of service. The costs of production for those services will be based on: (a) standard costs of production for regions; (b) standard spending for Provinces and Municipalities; (c) indicators of infrastructural needs, in accordance with local economic plans. Spending for transport at the regional level will have to insure an “adequate” (yet to be defined) level of services. Equalizing transfers of resources across area will overcome different fiscal capacity, assessed on the bases of identical tax rates. The law also states that there will be a “partial” compensation of unequal fiscal capacity for current spending and a “full” compensation for capital spending.

As to other spending categories, redistributive transfers will aim at reducing, in a yet to be defined fashion, territorial differences in fiscal capacity (as measured by the same tax rates). The redistributive/equalization funds are to be designed so as not to penalize local administrations’ efforts to raise further revenue, via either “own” taxes, or higher efficiency in tax collection and combating to tax evasion.

Challenges moving forward

Many critical details remain to be defined in the executing decrees, including those that will implement the new Public Accounting Law.

• The legislative decrees will have to specify in detail which taxes will be available to local administration under the tax autonomy principle, and which spending competencies will be transferred to sub-national governments, as well as determining the historical level of expenditure used in setting the baseline for the new financing arrangements and calculating applicable standard costs or spending. This will require, in addition to overcoming technical complexities, finding a balance between efficiency considerations, citizens’ preferences, and political viability.

• Given the large amount of revenue to be devolved (about 107 billions of euro in 2007, which is almost 50 percent of total revenue of sub-national governments, excluding the national health service) and only a limited availability of own taxes, one may expect a large use of shares of State taxes and “derived” own taxes (see Table A). While this is certainly an improvement compared to a previous discretional scheme of vertical transfers, it will not result in a significant broadening of tax autonomy, breaking somewhat the desired closer coordination between tax and spending decisions. As emerged from empirical studies on international experiences, best fiscal performances are to be found in countries where decentralized spending matches adequate tax autonomy.

• Definition and quantification of resources to be disbursed at a uniform level on the entire territory will require a major improvement in the quality of available information to generate efficiency and effectiveness indicators. Regions will have to undergo a real effort of harmonization of accounting criteria, as envisaged under the new Public Accounting Law, for producing a large and common informative basis.

• The new system of governance will require cooperation across government levels. It could also help to overcome a previous scheme combining fixed rules imposed by a higher level and soft budget constraints and lack of transparencies in the system of decentralized local entities. The regional adaptation of internal stability pact could increase system flexibility compared to a unique budget constraints, leaving room for a regional investment planning.


(In millions euro)


State Sector


Provinces &





Tax revenues





Other revenues





Transfer from:


  State Sector









  Provinces and municipalities












General payments





Transfers to:





  (of which: health spending)





  Provinces and Municipalities



















Source: Own elaboration on data from "Relazione Generale sulla Situazione Economica del

Paese-2007", Ministry of Economy and Finance, 2008.

1 Ms. Briotti is Principal Economist at the European Central Bank and was previously at the Istituto di Studi e Analisi Economica (ISAE); Ms. Mercuri is Director of the Public Finance Unit at the ISAE. This article is based on a chapter of “Rapporto ISAE Finanza Pubblica e Istituzioni, Rome, 2009, which is available at http://www.isae.it/Rapporto_ISAE_giugno_2009.pdf. The posts on the IMF PFM Blog should not be reported as representing the views of the IMF. The views expressed are those of the authors and do not necessarily represent those of the IMF or IMF policy.


3 Law No. 196, December 31, 2009, which will be discussed in a forthcoming blog article.  


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