Allocating a higher share of public spending to physical and human capital formation can also promote growth. Investments in physical capital, such as roads and other infrastructure, can increase the economy’s productive capacity.23 Although the efficacy of such investment varies across projects and countries, recent research indicates that it may have a significant impact on economic growth. One study finds, for instance, that an increase in public investment in transportation and communication of 1 percent of GDP is associated, on average, with an increase in annual per capita GDP growth of as much as 0.6 percentage points.24 A better-educated and healthier population contributes to growth. Beyond their direct effects on well-being, improvements in the education and health status of the population also increase worker productivity. Reductions in communicable diseases such as malaria have positive spillover effects on growth by promoting tourism and foreign direct investment.25 Indeed, it has been estimated that each 10 percent improvement in life expectancy at birth can raise the per capita GDP growth rate by 0.4 percentage points.26 Although it has been difficult for economic research to quantify the magnitude of the effect of education on growth, there is nonetheless evidence that it can be significant.27 Economic growth, in turn, has beneficial effects on education attainment and health status, contributing to a virtuous cycle of stronger education, health, and growth.
Physical and human capital spending should also be protected during fiscal adjustments. Fiscal consolidations that protect capital expenditure tend to be both more sustainable and better for growth.28 This finding reinforces the notion that reorienting public expenditures away from less productive spending, such as untargeted subsidies, and toward more productive spending, such as investments in physical and human capital, facilitates growth in many countries in both the short and long runs.
However, capital accumulation should not come at the expense of unsustainable damage to the environment. Economies that derive much of their income from natural resources cannot sustain growth by substituting physical capital accumulation for deteriorating natural capital. Severe environmental degradation can affect a country’s long-run macroeconomic performance. The impact of this may be most devastating for the poor, who often depend on natural resources for their income and have few possibilities for substituting other assets. In the long run, growth strategies that pay attention to environmental quality and the efficiency of natural resource use contribute to investment, economic growth, and human welfare.29 Increased public expenditure on other items, such as law enforcement and the judiciary, may also be important for growth. However, data problems have significantly limited research on the impact of these outlays on growth.
Improving the composition of government outlays is an important element of the IMF’s fiscal policy advice. Under reform programs supported by the IMF’s PRGF, physical capital expenditures are targeted to rise, on average, by #/4 of 1 percentage point of GDP. At the same time, many of these programs involve measures to improve the efficiency of government spending and increases in spending for human development and poverty reduction (see the section on “Fiscal Policy, Human Development, and the MDGs”).30
Fiscal Dimensions of Sustainable Development Prepared for World Summit on Sustainable Development Johannesburg, August 26–September 4, 2002
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