Does public capital spur private investment in developing economies?

Abstract

What drives private investment in a country is a question of paramount importance to both researchers and policy makers. Additions to a country's private capital stock help drive both faster growth and faster wealth creation, which often creates many positive spillover effects for a country's populace. In a study of twenty-two developing countries over a total of 660 country-year observations utilizing vector error correction models, this report found preliminary evidence that public capital stock growth positively caused growth in future values of the private capital stock in a country. Additionally, this study found that changes in the level of the population and changes in the strength of political institutions also caused changes in the level of the stock of private capital in a developing country. Tentative causal evidence also existed for changes in the domestic credit to the private sector as a share of GDP, financial openness, and the size of the economy causing changes in the stock of private capital in a country. Policy makers in developing countries should focus future efforts on improving the quality of their institutions and providing high quality infrastructure, both traditional and social, if they want to help increase their country's private capital formation and, consequently, growth.