Government plays an important role in promoting and/or financing private capital formation.
It is accepted that public investment influences private investment, and thus serves to assist
the government to achieve a satisfactory high economic growth rate. Efforts to restructure
economic sector, such as through providing public infrastructures and utilities, inevitably affect
both public and private investment. If the accelerator mechanism prevails, investment must
rise, and then increase output level. As argued by Bennett (1983), government spending for
roads, public housing, and airports, for example, can stimulate, retard, or have no effect on
private investment spending. If increases in the stock of public capital retard (stimulate) private
investment, the marginal productivity of private capital will be reduced (increased) by public
investment. Consequently, neoclassical view states that a rise in public investment expenditurehas an ambiguous effect on private investment. Furthermore, Ram (1986) indicated that the
government plays a critical role in securing an increase in productive investment and providing
a socially optimal direction for growth and development. Meanwhile, according to Aschauer
(1989), one of the reasons is that the impact of public capital spending on private investment
depends on the persistence of the public expenditure change.
In addition, Barth and Cordes
(1980) propose that capital financed by the public sector should be an argument in the private
sector investment and production. As a result, the chief concern in demand management is
related to the complementarity or substitutability of public and private investment.1 There is
lack of consensus on the issue. Even though the issue has been the subject of much concern since it has been widely debated and has been rigorously analyzed by many respected
economists, it is still a major concern and controversial to many of them. Some argue that the
public investment has complementary effect on the private investment. On the other hand,
some argue that they do not. This controversy has been stimulated by the large elasticity of
output with respect to public capital found in the pioneer work of Aschauer (1989a and
1989b). The finding of Aschauer’s work, in fact, has always been referred by researchers to
empirically prove the controversial role of public capital investment. Furthermore, many
researchers have considered public infrastructure to do empirical analysis of the impact of
public capital on private capital formation. Most of them who investigate this issue have
focused on the economic benefits of public infrastructure through its impact on the performance
of private business. They argued that public investment that is related to infrastructure, the
provision of public goods can be complementary to private investment. The idea that public
infrastructure capital affects private investment activity and economic growth, either as the
complementarity or substitutability, was initially discussed by Buiter (1977), and then followed
by Blejer and Khan (1984), Aschauer (1989a, 1989b, 1993), Munnell (1990), Holtz-Eakin (1993),
and Erenburg (1993a). Buiter (1977) has asserted that a complementary relationship between
public and private investment was obvious, citing as examples public investment in project
such as dam construction and highways. The study by Blejer and Khan (1984), for instance, is
the most comprehensive attempt at understanding the impact of different types of public
investment on private investment. By using annual data pooled across 24 countries, their
study confirms the hypothesis that infrastructural investment has a positive effect on private
investment whereas non-infrastructural investment has a negative impact. The results of this
study are not conclusive because in the absence of a detailed breakdown of public investment,
the authors use proxies for investment in infrastructure. |
