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Public Investment under Fiscal Constraints

Author

Listed:
  • Emanuele Bacchiocchi
  • Elisa Borghi
  • Alessandro Missale

Abstract

EU New Member States must comply with the Stability and Growth Pact (SGP) and the investment requirements implied by the Lisbon Agenda. However, the SGP rules may result in underinvestment or distortions in the allocation of public expenditure. This paper provides new evidence on the effects of debt sustainability and SGP fiscal constraints on government expenditure in fixed capital, education and health in OECD countries by estimating government expenditure reaction functions to public debt and cyclical conditions. We find that, at high levels of debt, government capital expenditure and education expenditure are significantly reduced as the debt ratio increases in all OECD countries independently of EMU (or EU) membership. By contrast neither capital expenditure nor education expenditure is affected by the debt ratio in low debt countries. These findings are robust to the inclusion of the government deficit in the estimated reaction functions. Hence, it appears that EU countries have been constrained in their investment decisions more by the need to ensure debt sustainability than by the rules of the SGP. In low debt NMS countries public investment even increases with the debt ratio, a finding that is reassuring for their growth prospects. However, a less optimistic picture emerges when we focus on expenditures in public health and education, as it appears that NMS governments cut such expenditures --even at low levels of debt-- as the deficit increases. Problems in controlling total expenditure together with the preventive arm of the SGP may have penalized investment in human capital in NMSs while leaving fixed capital investment unaffected.
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Suggested Citation

  • Emanuele Bacchiocchi & Elisa Borghi & Alessandro Missale, 2011. "Public Investment under Fiscal Constraints," Fiscal Studies, Institute for Fiscal Studies, vol. 32(1), pages 11-42, March.
  • Handle: RePEc:ifs:fistud:v:32:y:2011:i::p:11-42
    DOI: j.1475-5890.2011.00126.x
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    File URL: http://hdl.handle.net/10.1111/j.1475-5890.2011.00126.x
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    1. repec:zbw:rwirep:0557 is not listed on IDEAS
    2. Boldrick, Isabel, 2021. "Die Konjunkturreagibilität öffentlicher Investitionen am Beispiel der deutschen Schuldenbremse," CIW Discussion Papers 1/2021, University of Münster, Center for Interdisciplinary Economics (CIW).
    3. Olegs Tkacevs, 2020. "Secular Decline in Public Investment: are National Fiscal Rules to Blame?," Working Papers 2020/04, Latvijas Banka.
    4. Jørgen Juel Andersen & Mads Greaker, 2018. "Emission Trading with Fiscal Externalities: The Case for a Common Carbon Tax for the Non-ETS Emissions in the EU," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 71(3), pages 803-823, November.
    5. Jäger, Philipp & Schmidt, Torsten, 2016. "The political economy of public investment when population is aging: A panel cointegration analysis," European Journal of Political Economy, Elsevier, vol. 43(C), pages 145-158.
    6. Nicholas Crafts, 2013. "Long-Term Growth in Europe: What Difference does the Crisis Make?," National Institute Economic Review, National Institute of Economic and Social Research, vol. 224(1), pages 14-28, May.
    7. Bertola, Giuseppe, 2010. "Fiscal Policy and Labor Markets at Times of Public Debt," CEPR Discussion Papers 8037, C.E.P.R. Discussion Papers.
    8. Martin Murín, 2016. "Vplyv spôsobu tvorby fiškálneho deficitu na ekonomický rast [The Influence of Fiscal Deficit Creation on Economic Growth]," Politická ekonomie, Prague University of Economics and Business, vol. 2016(2), pages 176-192.
    9. Barry Eichengreen & Ugo Panizza, 2016. "A surplus of ambition: can Europe rely on large primary surpluses to solve its debt problem?," Economic Policy, CEPR;CES;MSH, vol. 31(85), pages 5-49.
    10. Douglas Sutherland & Peter Hoeller & Rossana Merola, 2012. "Fiscal Consolidation: Part 1. How Much is Needed and How to Reduce Debt to a Prudent Level?," OECD Economics Department Working Papers 932, OECD Publishing.
    11. Moulaye Bamba & Jean-Louis Combes & Alexandru Minea, 2020. "The effects of fiscal consolidations on the composition of government spending," Applied Economics, Taylor & Francis Journals, vol. 52(14), pages 1517-1532, March.
    12. Victor Barros & João Tovar Jalles & Joaquim Miranda Sarmento, 2021. "Drivers of the Tax Effort: Evidence from a Large Panel," Working Papers REM 2021/0169, ISEG - Lisbon School of Economics and Management, REM, Universidade de Lisboa.
    13. Antonio Fatás & Atish R. Ghosh & Ugo Panizza & Andrea F Presbitero, 2019. "The Motives to Borrow," IMF Working Papers 2019/101, International Monetary Fund.
    14. Philipp Jäger & Torsten Schmidt, 2015. "The Political Economy of Public Investment when Population is Aging – A Panel Cointegration Analysis," Ruhr Economic Papers 0557, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen.
    15. Feld, Lars P. & Schmidt, Christoph M. & Schnabel, Isabel & Truger, Achim & Wieland, Volker, 2019. "Den Strukturwandel meistern. Jahresgutachten 2019/20," Annual Economic Reports / Jahresgutachten, German Council of Economic Experts / Sachverständigenrat zur Begutachtung der gesamtwirtschaftlichen Entwicklung, volume 127, number 201920.
    16. Ugo Panizza, 2014. "Public Debt Risks in Italy Myths, Facts, and Policies," IHEID Working Papers 13-2014, Economics Section, The Graduate Institute of International Studies, revised 12 Feb 2014.

    More about this item

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • H52 - Public Economics - - National Government Expenditures and Related Policies - - - Government Expenditures and Education
    • H54 - Public Economics - - National Government Expenditures and Related Policies - - - Infrastructures
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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