Financial condition determinants: a cross-country analysis of local governments in Italy and Portugal

Purpose – This study examines the determinants of municipal financial condition (FC) by focussing on demographic, economic and political factors, while considering accounting basis as a contextual factor. It compares Italian and Portuguese municipalities within the fiscal illusion theory framework. Design/methodology/approach – Municipal FC is measured through a multidimensional FC Index constructed by the benefit of doubt methodology. Using panel data for 69 large municipalities in Italy and Portugal over the period 2019–2023, we estimate dynamic models through two-step system generalized method of moments on the pooled sample and interaction models to capture country-specific effects. Findings – Municipal FC is primarily driven by structural, economic and dynamic factors. Population density is negatively and consistently associated with FC, while tourism activity exerts a positive and significant effect in the pooled model. However, the comparative analysis reveals heterogeneous effects: tourism is positively associated with FC in Portuguese municipalities but negatively in Italian ones, highlighting its context- dependent nature. Also, the positive and significant lagged dependent variable suggests that municipalities with relatively stronger or weaker FC tend to remain relatively stable over time. By contrast, gross value added per capita and political variables do not show a significant effect. Accounting basis emerges as relevant as part of the broader institutional context affecting municipal FC. Originality/value – The study adopts an integrated framework that combines demographic, economic and political determinants with an accounting-related contextual dimension and interprets their interplay through fiscal illusion theory. It further applies a BoD-based FC Index in a cross-country comparison of municipalities, providing evidence of its usefulness for assessing municipal FC across different institutional settings.