Public expenditure and economic performance: A comparison of developed and low‐income developing economies

Governments incur expenditures in order to fulfill the following roles in the economy: (a) to correct distortions or market failures; (b) regulate private activity that might harm society; (c) provide public goods and services (i.e. economic and social infrastructure); and (d) often engage in productive activity. Some of these activities improve economic efficiency while others reduce it. There is also considerable evidence of inefficiency in the public provision of goods and services. However, the nature and extent of government involvement in the economy varies significantly between the developed industrial market economies and the developing world, particularly the low‐income economies. Historically, government in the developing economies have exercised relatively greater control and direction over their economies in all the above categories, while public sector involvement in the developed economies has remained largely confined to the provision of public goods and services, regulatory functions and the management of income‐maintenance programmes. Citing historical evidence, a number of leading economists have argued that government size has had no impact, one way or another, on economic performance of industrial market economies. For the low‐income economies the evidence, though mixed, points more towards a positive overall impact of government on growth performance. The present exercise, using a simple growth‐modeling framework and a longer span of time‐series data, produces additional evidence in support of the above propositions. Moreover, this study seems to confirm the Gerschenkron hypothesis that an effective role of the state is directly linked with the ‘stage of backwardness’ of the economy.