Economic Modelling of Government Investment Impact on Economic Growth

Abstract

This paper studies the macroeconomic effects of government investment impact on economic growth. It describes how an economic modelling can be used to better understand the role of government investment policy on economic growth. Specifically, a research about relationship between government investment and economic growth using different approaches based primarily on the theory of economic growth is conducted. The pros and cons of five different ways to model the relationship between public investment and economic growth are reviewed. Starting with the production function approach in which the public capital stock is added as an additional input factor in a production function, which is then estimated at a national or regional level. Alternatively, a cost or profit function in which the public capital stock is included could be estimated by the behavioural approach. A third way to examine the relationship between government investment and economic growth is the so-called VAR approach. By imposing as few economic restrictions as possible this approach tries to solve some of the problems raised by the production function and behavioural approach. The first three approaches are all based on time-series. A fourth way to model the growth effects of public capital spending is to include government investment spending in cross-section growth regressions. Finally some attempts to estimate the growth effects of public investment spending using structural econometric models are discussed This paper reviews vital conclusion that government investment spending enhances economic growth, however it brings a series of questions to doubt about the magnitude of the effect