Government Investment And The European Stability And Growth Pact

The authors consider the effect of excluding government investment from the deficit subject to the limits of the European Stability and Growth Pact. In the model they consider, residents of a given country discount future costs and benefits of government spending more than efficiency would dictate, because they fail to take into account the portion that will accrue to people that have not yet been born or immigrated into the country. It is thus in principle desirable to design budget rules that favor long-term investment (by allowing more borrowing) over other government spending that only carries short-term benefits.