How can developing countries power up public investment?

Unlocking the power of public investment is a crucial policy lever for achieving the Sustainable Development Goals. The latest  Global Economic Prospects report finds that certain policy interventions can help emerging market and developing economies (EMDEs) boost output by up to 1.6 percent over 5 years by scaling up public investment by 1 percent of GDP. The main question is: What types of policy interventions can help EMDEs utilize the growth benefits of public investment?

The good news is that there is substantial evidence on what types of policies are needed. These policies can be grouped into three actionable areas, or the three ‘E’s’: (1) Expansion of fiscal space, (2) Efficiency of public investment, and (3) Enhanced global support.
 

1. Expansion of Fiscal Space

Fiscal space, the room in a government’s budget that allows it to spend without compromising debt-service capacity or economic stability, is crucial for public investment. High debt service often leads liquidity-constrained EMDEs to cancel or delay projects. Increased spending on interest payments reduces resources for physical and human capital investment (figure 1.A). This problem has worsened since the 2010s due to rising debt levels and interest rates (figure 1.B). 
 

Figure 1. A high debt service burden can reduce public investment

^{Sources: International Monetary Fund; Kose et al. (2022); World Bank.}

^{A. Data are averaged over the 2010s. Net interest payments are the difference between primary balances and fiscal balances. B. Lines show weighted averages with nominal GDP in U.S. dollars as weights. Interest payment refers to net interest payment. Interest rate refers to long-term interest rate.}

EMDEs can expand their fiscal space by undertaking the following measures.  

• Improve domestic revenue mobilization. EMDEs can focus on simplifying the tax structure, streamlining tax administration, and adopting new technologies to process tax payments and monitor compliance. This can help increase tax revenues without necessarily increasing tax rates, making the tax system more efficient and less burdensome for taxpayers. Such adoption was successfully implemented in several countries, including Kenya and the Philippines.
• Prioritize and reallocate spending. Removing inefficient subsidies and reallocating resources towards more productive uses can create fiscal space. For instance, subsidies that do not effectively target the poor can be reduced or eliminated, and the savings can be redirected towards investments in health, education, and infrastructure. Countries such as Mexico have successfully undertaken fuel subsidy reforms.
• Improve debt management and establish credible and predictable fiscal frameworks. Strengthening public debt management and adopting multi-year budget planning frameworks can enhance fiscal space. This includes developing a comprehensive debt management strategy, improving debt transparency, and ensuring that borrowing is sustainable and aligned with long-term development goals. Jamaica was able to significantly expand its fiscal space in the last decades through better debt management and a credible fiscal framework.
  

2. Efficiency of Public Investment

Public spending efficiency measures how well fiscal resources are spent. Inefficient spending occurs when one dollar of public investment does not result in an equivalent increase in productive public capital. In extreme cases, it leads to “white elephant” projects with limited economic returns but high cost. Low spending efficiency can undermine sovereign risk and debt sustainability. Improvements in government spending efficiency are essential for maximizing the benefits of public investment. Estimates suggest over one-third of public investment in EMDEs may be lost to inefficiency, much more than in advanced economies. Institutional weaknesses, such as regulatory bottlenecks and corruption, often result in lower-quality projects (Figure 2). 
 

Figure 2. Governance issues such as lower control of corruption can impact the quality of infrastructure provision

^{Sources: International Country Risk Guide (ICRG); WDI Database (World Bank).}

^{A. Bars show group medians ICRG’s index of Control of Corruption. The sample includes 36 advanced economies and 97 EMDEs, of which 17 are low-income countries (LICs).}

^{B. 2013-23 averages. The quality of transport infrastructure reflects perceptions of the quality of trade and transport-related infrastructure. The logistics performance index reflects perceptions of the overall quality of logistics. The sample includes 34 advanced economies and 100 EMDEs, of which 19 are LICs.}                                                                                                                                                                                                         

EMDEs can improve the efficiency of public investment projects by employing the following interventions.

• Adopt a transparent procurement process. Digital innovations can improve spending efficiency, transparency, and accountability, and public finance management.
• Systematically monitor and evaluate project implementation. Regular monitoring and evaluation of public investment projects can help identify reasons for cost overruns and delays, allowing for timely corrective actions. This can improve future projects.
• Ensure adequate infrastructure maintenance. Including sufficient funds in medium-term budgets for maintenance can lengthen the life of public infrastructure, thus, the quality of the services provided.
• Engage the private sector. Public-private partnerships can leverage private sector resources, although the success over the past decades has been mixed due to the relative complexity of implementation. Technology now enables governments to step away from direct provision as in the case of telecommunications and cellular networks. Instead, effective regulation ensures efficient service of those public goods.
• Partner with international organizations. EMDEs can utilize frameworks developed by international organizations. For example, the World Bank’s public investment management framework helps countries assess the strengths and weaknesses of their public investment practices.
  

3. Enhanced Global Support

Some EMDEs, especially low-income countries, may need additional financial and technical assistance from the international community to finance large-scale public investment projects and implement complementary reforms. The returns from those investments could potentially be very high. The international community needs to step up, especially on climate-related infrastructure projects.

Source : World Bank