ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846

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Effects of Public Investment on Growth and Poverty

Counterfactual policy simulations of a sustained increase in public investment in infrastructure in India, financed through borrowing from commercial banks, show a substantial increase in private investment and thereby output in this sector. Due to increases in absorption, real private investment and output in all other sectors also seem to increase, resulting in several other macroeconomic changes. With a 20 per cent sustained increase in public investment in infrastructure, the government can accelerate real growth by 1.8 percentage points in the medium to long run, six to 10 years after the policy change. This will be accompanied by a 0.2 percentage point decline in the rate of inflation. The increase in income will lead to a 0.7 percentage point annual reduction in poverty in rural India. This shows the potential for achieving the much-debated 10 per cent aggregate real GDP growth in the Indian economy.

T here has been a lot of public debate in recent months, particularly after the presentation of the union budget for 2006-07 by the union finance minister, P Chidambaram, about (a) the need for achieving 10 per cent GDP growth and its feasibility, (b) the role and potential of the infrastructure sector in achieving the desired GDP growth, and (c) the ways and means of raising resources for public investment in the infrastructure sector and particularly, the use of accumulated foreign capital inflows for this purpose. This paper attempts to address these issues and seeks quantitative answers in a macroeconomic theoretical framework. The tool of counterfactual policy simulation is used for this purpose. The answers to the above questions seem affirmative as detailed below.1

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