Estimating the Impact of Public Investment for the United Kingdom: Has the Golden Rule of Public Finance Made a Difference?

Abstract

This paper uses a SVAR methodology to investigate the effects of public investment on growth, and more specifically, the effects of the introduction of a golden rule. We extend the existing literature by estimating a model of the British economy that takes into account long run factors. This seems necessary when dealing with a multi annual variable like public investment, and its long term effects on public finances through debt accumulation. We find that in such a long run framework investment has significant and permanent positive effects on GDP growth; this result runs counter to most recent literature on the topic, that was limited to a short run specification. We further find, by comparing different subsamples, that the introduction of the golden rule in 1997 strengthened this positive effect of public investment.

Fiscal policy is still an effective instrument of macroeconomic policy

“…Recent research appears to be supportive of assigning a significant role to public investment. In their attempt to test for these propositions, Jérôme Creel, Paola Monperrus-Veroni, and Francesco Saraceno (2006) elaborate on the Blanchard and PANOECONOMICUS, 2011, 2, pp. 143-156 Perotti (2002) approach, which, as implied above, popularized the VAR technique in a short-run analysis to account for the long-run properties of fiscal policies.…”