Government Expenditures, Transfer Payments and Economic Growth

Incorporating a two-level government structure into an endogenous growth model, we distinguished between productive and non-productive government expenditures. With transfer payments considered, we showed that (1) there was an “Inverted U-shaped” relationship between the tax rate and the long-run economic growth, so was the relationship between the degree of fiscal decentralization and the long-run economic growth; (2) optimal ratios between productive and non-productive expenditures of two levels of governments, between transfer payments and other parts of expenditures of the state-level governments are needed to maximize the long-run economic growth.