Public finance, governance and economic growth

Abstract

This dissertation runs a co-integration and Granger causality tests that corroborate the existence of long-run co-integration linkages of public finance and economic growth and a bi-directional causal correlation between tax revenue and government expenditure. This finding suggests that to control deficits, a government’s decisions on collecting taxes and government expenditure should be simultaneous. To verify the effects of governance represented by control of corruption on modifying the relationship between public finance and economic growth, this study applies a seemingly unrelated regressions model for the dataset, followed by a robustness check using a corruption perception index developed by the Transparency International organization. Measuring public finance by two factors: total tax revenue and general government expenditure helps this study to confirm the results, which reveal that the governance has a positive role in the economy. Additionally, the interaction between governance and tax revenue or government expenditure affects economy diversely depending on the different economic groups of developing and developed countries1. For instance, in developing countries, the interaction between public finance and governance always becomes a beneficial factor for growth. While in developed countries, this interaction does not have any meaning with taxation. Therefore, it may increase the efficiency of government expenditure only. On the first side, the findings also suggest that developing countries should focus on governance in anti-corruption to increase the effectiveness of public finance and promote their economic growth. On the other hand, developed countries should make the decision on collecting tax separately with control of corruption.