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Public investment in developing countries: A blessing or a curse?

  • Cavallo, Eduardo
  • Daude, Christian

This paper analyzes the relationship between public and private investment in developing countries. We set up a simple theoretical model where two countervailing forces coexist. On the one hand, public investment raises the marginal productivity of private capital and leads to potential crowding-in of private investment. On the other hand, weak institutions and restricted access to financing could diminish the positive effects of public investment projects and crowd-out private investment. The empirical results - which exploit both the time series and cross sectional variation in the data using a panel of 116 developing countries with annual observations between 1980 and 2006 - suggest that on average the crowing-out effect dominates. Moreover, we find that this crowing-out effect is dampened (or even reversed) in countries with better institutions - where the marginal productivity of public investment is conceivably higher - and that are more open to international trade and financial flows, such that financing constraints are less binding.

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Article provided by Elsevier in its journal Journal of Comparative Economics.

Volume (Year): 39 (2011)
Issue (Month): 1 (March)
Pages: 65-81

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Handle: RePEc:eee:jcecon:v:39:y:2011:i:1:p:65-81
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