The impact of government expenditure compositions on economic growth: an empirical analysis.

Abstract

The aim of this research is broadly to achieve 3 main objectives. The first objective is to investigate the relationship between the composition of government expenditure and economic growth. This objective further extends to examine how low to middle-income countries compare in their growth effects of government spending compositions with other economies from high-income countries. The second objective is to examine the effect of corruption on economic growth via the compositions of government expenditure. The third objective is to investigate the impact of government expenditure on human capital and its important indicators (health and education) on economic growth. These objectives are achieved by using quantitative data techniques. For the first objective, the research develops an endogenous growth framework drawing on variables from existing models, and separates government expenditure into productive and non-productive forms. This analysis addresses some gaps in existing knowledge that persist in current economic growth research: comparing the impact of government expenditure compositions on economic growth at different stages of development, the possible endogeneity of fiscal variables and consequences of relying on the period-averaging process. Using panel data from 37 high-income and 22 low to middle-income countries covering 1993 to 2012, the findings are based on Ordinary Least Squares (OLS) two-way fixed effects and Generalised Method of Moments (GMM) techniques. It challenges much of the existing empirical literature in relation to developing economies by showing that a shift in government expenditure away from non- productive government expenditure and towards productive forms of expenditure are associated with higher levels of growth in both high-income and low to middle-income economies. Moreover, this analysis identifies the differing components of government expenditure that are most associated with increased long-run output levels in both high- income and low to middle-income economies. For the second objective, this thesis focuses on one channel that has received limited attention in current literature by examining the effect of corruption on the relationship between economic growth and government expenditure compositions. The research has formulated a system of equations in which corruption is modelled analytically as something that reduces the productivity of government spending in order to take account of the interdependency between government expenditure compositions, corruption and economic growth. The empirical strategy applied OLS two-way fixed effects methods to a panel of 37 high-income and 20 low to middle-income nations based on the availability of International Country Risk Guide (ICRG) corruption index during the period from 1993 to 2012. The findings show that by comparing the corruption-adjusted coefficient of productive and non-productive government expenditure for both low to middle-income and high-income economies, there is no evidence that corruption has a marked impact on the strength relationship between government expenditure, whether in from of productive or non-productive, and economic growth. These findings do not discount the possibility of corruption affecting growth through other means. For example, through altering the division of total government expenditure between productive and non-productive types. Lastly, the third objective focuses on examining the association between human capital and economic growth on a sample of high-income and low to middle-income economies (25 OECD countries and 5 ASEAN countries) for the period 1993 to 2012. There are a number of empirical researches carried out in developed economies, but there is limited research on the case of Asian countries, especially the ASEAN area, to investigate the effect of government expenditure on human capital on economic growth. Education has often been the main factor in the literature on human capital and economic growth, but this thesis also includes health as another factor. Therefore, this thesis concentrates on assessing the growth effects of government expenditure on human capital and its components (education and health). The findings show that an increase in the share of government expenditure on education enhances economic growth for both sets of data. However, the analysis recognises a negative effect of shifting more public spending towards the health component in OECD economies, while there is no significant impact of this component in ASEAN countries. With regards to the combined government expenditure on human capital, this analysis observes that there is a positive and significant connection between this expenditure and economic growth in ASEAN economies, but no significant effect in OECD countries.