Fractionalization effect and government financing

Abstract

The weak government argument claims that fractionalized governments (coalition or minority governments) have more difficulty increasing their tax revenues or decreasing their spending than majority governments. This implies that weaker governments are associated with higher government deficits. In this paper, we test the implication of a fractionalization effect within the optimum financing model that suggests governments raise both their tax and seigniorage revenues to finance additional spending. We test the hypothesis for a sample of ten OECD countries for the period 1975-1997 and extend the period for the non-EU nations in the sample to cover 1975-2003. The empirical evidence presented here supports a positive relationship between the degree of fractionalization and seigniorage revenue. Our results also suggest that creation of seigniorage revenue is lower under right-wing governments and an independent central bank.