Juha Tervala (University of Helsinki)
We analyze the welfare multipliers of public spending—the consumption equivalent change in welfare for a one dollar change in public spending—in a DSGE model. The welfare multiplier of public investment depends crucially not only on the productivity (output elasticity) of public capital, as shown by earlier studies, but also on the depreciation rate of public capital and the efficiency of public investment defined as a fraction of public investment spending that translates into the public capital stock. When the key parameter values are set based on the empirical estimates for advanced economies and the output multipliers are consistent with the empirical estimates, the welfare multiplier is positive and sizable. The welfare multiplier is roughly zero when the key parameter values are set to match the features of developing economies. A public infrastructure push in advanced economies makes sense, but developing economies should enhance the efficiency and/or productivity of public investment.
Juha Tervala (University of Helsinki) and Giovanni Ganelli (International Monetary Fund, Washington, D.C.)