Public Investment: Another (Different) Look

Abstract

Using a structural Vector Autoregression approach, this paper compares the macroeconomic effects of the three main government spending tools: government investment, consumption, and transfers to households, both in terms of the size and the speed of their effects on GDP and its components. Contrary to a common opinion, there is no evidence that government investment shocks are more effective than government consumption shocks in boosting GDP: this is true both in the short and, perhaps more surprisingly, in the long run. In fact, government investment appears to crowd out private investment, especially in dwelling and in machinery and equipment. There is no evidence that government investment "pays for itself" in the long run, as proponents of the "Golden Rule" implicitly or explicitly argue. The positive effects of government consumption itself are rather limited, and defense purchases have even smaller (or negative) effects on GDP and private investment. There is also no evidence that government transfers are more effective than government consumption in stimulating demand.