The Influence of Public Spending on Private Investment in Developing Economies: Does Institutional Quality Matter?

Abstract

The role of institutional quality in the relationship between public spending and private investment is a controversial theme because institutional quality can mitigate the crowding-out impact of government expenditure on the private sector's investment. Does institutional quality contribute to public spending – private investment nexus in developing countries? This paper provides the answer by studying the role of governance quality in government spending – private investment nexus for a panel dataset of 98 developing countries over the period 2002–2020. It uses the system/difference GMM estimators for robustness checks and estimation. The empirical results seem counter-intuitive. Institutional quality and public spending increase private investment, while interaction decreases. The paper looks at some arguments to explain and suggests policy implications to improve institutional quality and enhance private investment.