Testing for causality between government spending and taxation

In the past few years the public sector deficit in Greece has reached alarmingly high levels. In view of the various hypotheses about the relation between government spending and revenues, we test for causality between these two determinants of public deficit.     

Elections and government spending

It is widely believed that electoral pressures cause legislators to favor government spending programs. This electoral theory of spending is shown to encompass two core hypotheses: (1) the electoral consequences hypothesis, which states that support for spending programs improves the representative's electoral showing; and (2) the legislator insecurity hypothesis, which states that greater electoral insecurity leads representatives to be more in favor of spending programs. A test of these ideas using spending scores for U.S. representatives in 1986 finds that neither hypothesis is supported by the data.     

Party system nationalization,presidential coalitions,and government spending

This paper argues that there is a strong relationship between geographical patterns of political parties' electoral performance and the composition of central government expenditures. When party system nationalization is high, the composition of spending will focus more on non-targetable expenditures, while targetable expenditures increase as the party system distribution of votes across different districts becomes less homogenous. However, the effect of party nationalization on spending type is conditioned by the size of the presidential coalition; targeted transfers will increase if the coalition size decreases, even if party nationalization is high. I find support for these hypotheses with an empirical analysis of district-level electoral and government expenditure data for several countries in Latin America between 1990 and 2006.     

Inefficient households and the mix of government spending

A model is presented in which individuals can vote over government subsidies to a private good and over redistributive taxation. The subsidized good is purchased and shared by couples who act noncooperatively, while possibly being altruistic towards each other. The framework allows a separation of the subsidy policy from redistributive policy. In a majority voting equilibrium the subsidy is used exclusively to correct the individuals' spending pattern. The results suggest that spending on private goods should be an important item in government expenditures when there is strong positive income bias in the political process and/or when household decisions are relatively inefficient.     

Costs of taxation and the size of government

Existing theory on the form of government suggests that a parliamentary system promotes a larger size of government than does a presidential system. This paper extends the existing theory by allowing for distortionary taxation. A main result is that if taxation is sufficiently distortionary, the parliamentary system may promote a smaller size of government than the presidential system. The proposed mechanism appears consistent with several empirical patterns in the data that cannot be explained by other theories.     

Seat-vote curves, loyalty effects and the provincial distribution of Canadian government spending

Federal government spending in the Canadian provinces for 1962–2002 is examined with emphasis on the role of seat-vote elasticities in majoritarian electoral systems. Fixed effects regressions establish that per capita federal spending in a province increases with political competition, as measured by provincial seat-vote elasticities, and with loyalty to the federal government as measured by the degree of provincial support for the federal government. However, too much loyalty can be counter-productive because very loyal provinces are uncompetitive with low seat-vote elasticities.     

From myth to reality: Globalisation and public spending in OECD countries revisited

The prevailing but not unchallenged 'conventional wisdom' in the literature dealing with the impact of globalisation on public spending is that the effects of increased openness can be compensated through the welfare state. Repeatedly, studies have found little evidence for a 'race to the bottom' in taxation or spending. This research note shows that it is premature to conclude that globalisation has no negative impact on public spending. By extending the period of observation into the 2000s, by looking at changes in openness and spending instead of their levels, and by disentangling the effects of openness in the cross-sectional and over-time dimensions of variation, this article shows that the association between increased openness and spending is clearly negative. Although the contribution of this research note is mainly empirical, some theoretical arguments are presented, emphasising the long-term nature and complexity of policy making in the politics of globalisation.     

Supermajority rule,the law of 1/n,and government spending: a synthesis

I develop models in which a minimum winning coalition decides on the level of government spending, where the Coase theorem holds amongst members of the winning coalition. An increase in the supermajority requirement has potentially conflicting effects on spending. A higher requirement increases the tax price internalized by the minimum winning coalition, but also increases the number of districts included in this coalition. I develop separate models in which the spending in question consists of (i) a nonexcludable good, (ii) a distributive consumption good, (iii) infrastructure spending and (iv) a transfer payment. A supermajority rule has no effect on spending for nonexcludable goods and ambiguous effects on spending for distributive projects and infrastructure spending. An increased supermajority requirement does unambiguously reduce transfer spending. I also relate the supermajority rule to the law of 1/n. If the Coase Theorem holds and a minimum winning coalition forms, an increase in the number of districts n has precisely the same effect on overall expenditure as a decrease in the supermajority requirement. Thus, the ambiguous spending effects stemming from supermajority rule carry over into this version of the law of 1/n.     

Procyclical government spending: a public choice analysis

Procyclical government spending occurs when government expenditures increase at a faster rate than income in an economic upturn but fall at a faster rate in a recession. Voracity effects occur when competition for increased spending proves more effective as national income increases. Public choice theory can be applied to describe the distribution of fiscal power across different tiers of government to shed insight into competition for intergovernmental transfers. Politicians have electoral incentives to press for intergovernmental transfers but they also have electoral incentives to signal their ability to manage the economy. With this mix of incentives, the prediction is that intergovernmental transfers will be procyclical and that sub-central government spending will be more procyclical than central government spending. Public choice analysis of pressure for increased public spending predicts a specific pattern of cyclical government spending. This pattern can be observed when analyzing government expenditures in 20 OECD countries between 1995 and 2006.     

Relationships between government size and economic growth: Japan's government reforms and evidence from OECD

This paper examines the relationship between government size and economic growth of 21 industrialized countries. Government size is measured by government final consumption expenditures and transfer payments. The relationship between government consumption is expected to increase GDP growth for developing countries, and reduce it for industrialized countries. Government consumption can contribute to increased economic growth. However, government consumption is likely to expand beyond an efficient level in industrialized countries. In contrast, transfer payments, and social welfare programs are likely to reduce economic growth for most countries. These programs reduce work incentives and encourage tax avoidance activities. Work disincentives and tax avoidance reduce economic growth. These expected relationships are consistent with economic performance and government size for the countries considered here. Inefficiency and excessive government growth are checked by voter feedback as tax burdens exceed the associated benefits. Unfortunately, government program costs and benefits are asymmetrically distributed. The resulting tendency is to expand government programs, particularly programs that benefit a majority of voters at the expense of a minority. This tendency becomes even more acute as the tax system becomes more progressive (i.e., tax burdens become concentrated. Reductions in government size are more likely with stagnant or declining economic growth, and in government programs whose costs are widely shared, compared to programs with widely shared benefits and narrowly shared costs.     

Persistence in government spending fluctuations: New evidence on the displacement effect

In spite of Peacock and Wiseman's 1961 NBER study demonstrating the “displacement effect”, simplistic theoretical and empirical distinctions between temporary and permanent spending are common. In this paper, impulse response functions from ARMA models as well as Cochrane's non-parametric method support Peacock and Wiseman's conclusion by showing 1) government spending in the aggregate displays strong persistence to temporary shocks, 2) simple decomposition methods intended to yield a “temporary” spending series have a weak statitistical foundation, and 3) persistence in spending has increased during this century. Also, as a basic “fact” of government spending behavior, the displacement effect lends support to interest group and bureaucracy models of government spending growth.     

Issue compensation and right‐wing government social spending

It is well‐established that prolonged left‐wing incumbency has a positive long‐term effect on welfare effort in terms of high levels of social spending and reduced levels of economic inequality and poverty. Prolonged left‐wing incumbency also influences the institutional set‐up of welfare states, in particular generating strong support for existing arrangements in countries with large welfare states. The issue ownership literature furthermore shows that the public comes to distrust right‐wing parties as defenders of the welfare state. In countries that have a tradition of left‐wing incumbency it is particularly important for right‐wing governments to compensate for the distrust of the public because of the popularity of the welfare state and strong vested interests. While right‐wing governments on average are negatively associated with social spending, there is a strong positive association between right‐wing government and social spending in traditionally left‐wing countries. It is even the case that right‐wing governments in these countries spend more on social welfare than left‐wing governments. This indicates that right‐wing governments are forced to compensate for the lack of public trust by being even more generous than the left.     

Public preferences about government spending: Partisan,social, and attitudinal sources of policy differences

Although the causes and consequences of the growth of government have become the focus of increasing scholarly attention, relatively little empirical research has been done about the nature and determinants of individual fiscal preferences. The present study analyzes patterns of partisan, socioeconomic, and attitudinal differentiation in public spending preferences for a variety of government functions. Two important findings emerge from our analysis. First, attitudes about the adequacy of government spending for each of the functions considered are shown to have two dimensions—a support for spending dimension and a support for change dimension. Second, the patterns of partisan and socioeconomic cleavages about government spending are shown to vary significantly across policy domains. This fracturing of demand structures, it is argued, may be one of the root causes of the performance crisis of political institutions.     

Legislature size and government spending in Italian regions: Forecasting the effects of a reform

We analyze the effect of different legislature size on per capita regional expenditure in Italy. According to the theory, legislature size has an indefinite effect on government spending because logrolling and transaction costs may have canceling effects. We find a large and significantly positive effect of the number of legislators. We use these findings to forecast the effects of the increase in the number of legislators that is taking place in some regions: a 10% increase in legislature size commands on average a 12% increase in per capita regional expenditure.     

A new framework for testing the effect of government spending on growth and productivity

Does government spending have a positive or negative effect on economic growth? The results of earlier empirical studies give mixed results. In this study we suggest a new method for testing the effect of different kinds of government expenditure on productivity growth in the private sector. The focus on productivity in the private sector and the use of disaggregated data makes it possible to avoid or mitigate a number of methodological problems. The major conclusions, which are quite robust, are that government transfers, consumption and total outlays have consistently negative effects, while educational expenditure has a positive effect, and government investment has no effect on private productivity growth. The impact is also found to work solely through total factor productivity and not via the marginal productivity of labor and capital.