Institutionalizing Monetary Dominance: Lessons from Brazil’s Legal Framework

Brazil’s model demonstrates that monetary dominance as a binding legal reality requires institutions willing to defend it.

By Jefferson Alvares

As inflation resurfaces across advanced and emerging economies, the question of how to coordinate fiscal and monetary policies has become urgent again. In many jurisdictions, even when central banks act aggressively to tighten monetary policy, inflation persists because fiscal authorities pursue expansionary budgets, undermining monetary objectives. This misalignment is usually seen as a coordination failure, solvable only through political consensus or inter-agency negotiation.

Brazil offers a striking alternative. Unlike jurisdictions where coordination between fiscal and monetary authorities depends on political will, Brazil has legally entrenched the principle of monetary dominance. Under its current framework, fiscal authorities are not merely encouraged but legally obliged to act consistently with the inflation-targeting mandate of the Central Bank of Brazil (BCB). Oversight institutions and courts are empowered to enforce this alignment, illustrating how legal design can aim to insulate monetary policy from fiscal pressures. But the framework has limitations.

Fiscal Dominance Versus Monetary Dominance

The economic literature distinguishes between fiscal dominance and monetary dominance as alternative institutional arrangements. Under fiscal dominance, the fiscal authority sets its budget independently, leaving the central bank to monetize deficits through seigniorage, thereby losing control over inflation. Monetary policy, in this context, becomes endogenous to fiscal needs.

Conversely, under monetary dominance, the central bank independently controls the monetary base and price level. Fiscal policy must adjust to ensure that any deficits not covered by planned seigniorage are financed through debt issuance at prevailing market rates. In this arrangement, fiscal sustainability is a consistency requirement for effective monetary policy. Legal frameworks can reinforce monetary dominance by clearly assigning responsibilities, limiting fiscal access to central bank resources, and institutionalizing accountability mechanisms.

Brazil’s Institutional Evolution

Brazil's path from fiscal dominance to monetary dominance unfolded over six decades and can be divided into three phases.

First, from its founding in 1964 through the 1980s, the BCB operated under a model of fiscal dominance. The monetary and credit policy, set by the National Monetary Council (CMN), prioritized developmental goals over price stability. Instruments like the "monetary budget" and the "conta de movimento"—an account of the central bank on the books of Banco do Brasil, a commercial bank—effectively mandated the Central Bank to finance public deficits, blending monetary expansion with subsidized credit programs. Inflation, predictably, spiraled out of control during this period.

Second, the late 1980s and 1990s saw a gradual separation of monetary and fiscal policy. The 1988 Constitution prohibited the BCB from directly financing the Treasury and assigned it the monopoly over currency issuance. Structural reforms, such as the extinction of the monetary budget and the creation of the National Treasury Secretariat, further separated fiscal operations from monetary management. The Real Plan (1994) initially stabilized prices via a quasi-currency board mechanism, before transitioning to an inflation-targeting regime in 1999.

Third, the 2000s and 2010s witnessed the construction of a robust legal framework for monetary dominance. The Fiscal Responsibility Law of 2000 set stringent limits on public borrowing and established procedural requirements to ensure fiscal policies were consistent with monetary objectives. Complementary Law No. 179 of 2021 codified price stability as the primary mandate of the Central Bank, removing ambiguities that had historically weakened its authority. The 2023 fiscal framework further constitutionalized the goal of long-term debt sustainability.

Legal Enforcement of Monetary Dominance

A crucial feature of Brazil's framework is the availability of institutional mechanisms to enforce monetary dominance. The Federal Court of Accounts (TCU) monitors fiscal practices for consistency with macroeconomic targets, including inflation control. Additionally, the judiciary can be invoked to adjudicate instances where fiscal authorities pursue policies that conflict with the Central Bank’s mandate. Stability of the purchasing power of the currency is now recognized not only as an economic goal but as a legal obligation binding the entire public administration.

This legal enforceability distinguishes Brazil's model from systems that rely solely on political norms or informal coordination. It elevates macroeconomic consistency to a constitutional and administrative requirement, creating potential remedies when deviations occur.

Persistent Challenges

Despite this sophisticated framework, practical challenges remain. Brazil's Central Bank failed to meet its inflation targets in 2001–03, 2015, 2017, and between 2021 and 2024 -- and is on track to miss the target again this year. In each case, fiscal policy expansion conflicted with monetary tightening, forcing the BCB to raise interest rates more aggressively and weakening investment and growth. These episodes reveal that while legal mandates can align incentives, they cannot, by themselves, eliminate political pressures.

Moreover, judicial and institutional enforcement of monetary dominance remains largely untested. While courts and oversight bodies are empowered to intervene, exercising these powers against politically sensitive fiscal authorities demands considerable institutional fortitude.

Lessons for Governance Design

Brazil’s experience illustrates both the potential and the limits of legal design in macroeconomic governance. Formalizing monetary dominance in law can hardwire fiscal-monetary consistency into the system, reducing reliance on political goodwill. Yet, institutional courage and sustained political commitment are indispensable for enforcement.

As countries grapple with post-pandemic fiscal pressures and rising inflation risks, Brazil’s model offers an instructive blueprint. It demonstrates that monetary dominance need not remain a normative ideal; it can be a binding legal reality—provided that institutions are willing to defend it.

Jeff Alvares is senior counsel to the Central Bank of Brazil, former counsel to the International Monetary Fund, and a former member of the Financial Stability Board secretariat.