DP6139 | Public investment: a remedy or a curse? Examining the Role of Public Investment for Macroeconomic Performance

Publication Date

23/02/2007

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Abstract

This paper explores the implications of public investment for macroeconomic performance within a simple two-period policymaking model. We show that under the balanced-budget rule, the contribution of public investment to future output plays a key role in determining its effects on macroeconomic performance. When policymakers resort to debt issue in financing expenditures, the attractiveness of public investment crucially depends on the return from capital spending relative to the cost of public borrowing. We also consider the case of a capital borrowing rule where only public investment could be financed by additional borrowing and find similar results. Our findings point to the key role of the quality of public investment in its impact on macroeconomic outcome and highlight the importance of efficient mechanisms for selection, implementation and monitoring of public investment projects in both developed and developing countries.