Welfare and growth effects of alternative fiscal rules for infrastructure investment in Brazil

The productive impact of infrastructure has been investigated in the last years by an increasing number of studies that confirm the hypothesis that infrastructure capital positively affects productivity and output. This article studies the case of Brazil, and evaluates the welfare and macroeconomic impact of government actions when its productive role is taken into account. In order to analyze the interplay between fiscal rules, investment and growth, the paper investigates whether it would make sense to raise public investment and if so, under which fiscal rule it is best to do it. Three alternatives are considered: tax financing, debt financing or a cut in public consumption.

The authors construct and simulate a competitive general equilibrium model in which public investment can be financed through a variety of sources. The model is also used to investigate how much the deterioration of infrastructure conditions can explain the recent trajectory of the Brazilian economy. Results in this paper indicate that the compression of capital expenditures may have played a significant role in the growth slowdown of the Brazilian economy after the eighties. It also finds that the aggressive increase of taxation after the eighties was considerably more detrimental to growth than public investment compression.

In light of these findings, the authors suggest that increasing growth and improving welfare may be achieved through the following:

• returning public investment ratio to its level of two decades ago
• permanently increasing public debt from 56% of GDP to 60%
• or proportionally reducing government consumption in favor of investment

The paper concludes that the reduction of public consumption to finance the necessary expansion of public capital investment is the most desirable fiscal scheme among the one examined.