Public finance, governance and economic growth

This study 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 countries 1 . 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 public finance separately with control of corruption.

1 MINISTRY OF EDUCATIONAL & TRAINING UNIVERSITY OF ECONOMICS HO CHI MINH CITY _ NGUYEN PHUONG LIEN PUBLIC FINANCE, GOVERNANCE AND ECONOMIC GROWTH DOCTORAL DISSERTATION Ho Chi Minh City - 2018 iii TABLE OF CONTENT Table of Contents COMMITMENT i ACKNOWLEDGEMENTS ii TABLE OF CONTENT iii ABBREVIATIONS vii LIST OF TABLES ix LIST OF FIGURES x Abstract: xi CHAPTER INTRODUCTION 1.1 Research background 1.1.1 An overview of the status of global economies in the period 1996–2016 1.1.2 The differences of public finance and growth between developed and developing countries 1.2 Research motivation .10 1.3 Research objectives and research questions .14 1.4 Research scope 15 1.5 Research methods 16 1.6 Research contribution 18 1.7 Structure of dissertation 20 CHAPTER 2: 23 LITERATURE REVIEW AND HYPOTHESES DEVELOPMENT .23 2.1 Introduction 23 2.2 Some key concepts 24 2.2.1 Public finance 24 a) Tax revenue 25 b) Government expenditure .26 iv 2.2.2 Governance and corruption 27 2.3 Theoretical literature on the relationship between public finance and economic growth .33 2.3.1 Public choice theory 33 2.3.2 Cost-benefit theory of taxation 35 2.3.3 Governance theory 37 2.3.4 Economic growth theory: Exogenous and endogenous growth theory 39 2.4 Empirical literature on relationships among public finance, governance, and economic growth .41 2.4.1 Empirical literature on relationships between public finance, and economic growth 41 2.4.2 Relationship between tax revenue and government expenditures 45 2.5 Designing the analytical framework and building hypotheses 52 2.6 Summary 56 CHAPTER .58 METHODS AND RESEARCH DATA 58 3.1 Introduction .58 3.2 Research models 58 3.2.1 Long-term linkages between public finance, and economic growth 58 3.2 Tax revenue and expenditure relationship 61 3.3 Research data and its source .64 3.3.1 Determining appropriate variables and its sources 64 3.3.2 Collecting secondary data 67 Check balance and essential test 68 Choose appropriate analytical methods 68 3.7 Summary 77 CHAPTER .79 PUBLIC FINANCE, GOVERNANCE, AND ECONOMIC GROWTH: A LONG RUN ANALYSIS .79 4.1 Research data 79 v 4.2 Long-run relationship between public finance and economic growth 83 4.3 Linkage between tax revenue and government expenditure 85 4.4 Results of examining role of governance in modifying effect between public finance and economic growth 86 4.4.1 The role of governance in modifying effect between public finance and economic growth in developing countries 86 4.4.2 The role of governance in modifying effect between public finance and economic growth in developed countries 88 CHAPTER 5: 93 CONCLUSION, IMPLICATION AND LIMITATION 93 5.1 Conclusion .93 5.2 Suggestion to policy makers 95 5.3 Research limitation and future research 96 LIST OF AUTHOR’S PUBLICATION 96 REFERENCES 99 APPENDICIES .1 Table Appendix A1 List of studied countries Table Appendix A2 Table Appendix A3 Table Appendix A4 14 Table Appendix A5 17 Table Appendix A6 18 Table Appendix A7 19 Table Appendix A8 20 Description of variables .21 Correlation matrix 21 HT and IPS unit root test results (normal variables) 22 Results of co-integration test 29 Granger test results 30 vi Results of verification of governance role in modifying economic growth by SUR model 31 Results of verification of governance role in modifying economic growth by SGMM 38 Robustness check with CPI 43 vii ABBREVIATIONS Words GDP Meanings Gross Domestic Products OECD Organization for Economic Co-operation and Development RGDP Real GDP per capita LRGD Logarithm of Real GDP per capita Gexp Government expenditure Taxrev Total Tax revenue RE Random-Effects FE Fixed Effects OLS Ordinary Least Square SGMM System Generalized Method of Moments GMM Generalized Method of Moments SUR Seemingly Unrelated Regression EC Error Correction GLS Generalized Least Square 2SLS Two-stage Least Square HT Harris-Tzavalis (1999) test IPS Im-Pesaran-Shin (2003) test UEH University of Economics Ho Chi minh City USA United States of America US United States UK United Kingdom BI Business International Corporation ICRG International Countries Risk Guide WB World Bank IMF International Moneytary Fund viii UNDP United Nations Development Programme WDI World Development Indicators WGI World Governance Indicator WEO World Economic Outlook HDI Human Development Index CCI Control of corruption indicator CPI Corruption perception index ECM Error correction mechanism model TI Transparency International ix LIST OF TABLES Table 1.1: the global economic growth rebound Table 4.1: Description of variables ……………………………………… 78 Table 4.2: Correlation matrix ………………………………………………82 Table 4.3: Results of unit root test for a panel with normal data for the whole sample in 1996-2016………………………………………………………… 83 Table: 4.4: Results of unit root test for a panel with data of first different values for the whole sample in 1996-2016…………………………………… 84 Table 4.5: Westerlund long-run cointegration test results (lrgdp)………… 85 table 4.6: Westerlund long-run cointegration test results (tax – exp)…… 87 table 4.7: Pairwise Granger test results…………………………………… 88 Table 4.8: Westerlund long-run cointegration test results (lrgdp; Taxrev, and Gexp)………………………………………………………………………… 89 10 Table 4.9: The results of verification influence of corruption on public finance and economic growth in completely 82 developed and developing countries……………………………………………………………………… 91 11 Table 4.10: The results of verification of the influence of corruption on public finance and economic growth in 44 developing countries…………… 94 12 Table 4.11: The results of verification of the influence of corruption on public finance and economic growth in 38 developed countries…………… 95 13 Table 4.12: Robustness check of the corruption role in all 82 countries, 44 developing countries, and 38 developed countries ……………………………97 x LIST OF FIGURES Figure 1.1: The line trend of global per capita income growth and ratio of tax revenue and government spending in 1996 and 2016 in 38 developed countries .2 Figure 1.2: the line trend of global per capita income growth and ratio of tax revenue and government spending in 1996 and 2016 in 44 developing countries Figure 1.3: the shrink frequency rate Figure 1.4: Line trend of tax revenue – government expenditure – GDP per capita for whole sample in 1996-2016 Figure 1.5: Line trend of tax revenue – government expenditure – GDP per capita for 44 developing cuntries in 1996-2016 .6 Figure 1.6 : Line trend of tax revenue – government expenditure – GDP per capita for 38 developed cuntries in 1996-2016 7 Figure 1.7: The control of corruption indicators in 38 developed countries in 1996 and 2016 8 Figure 1.8: The control of corruption indicators in 44 developing countries in 1996 and 2016 9 Figure 2.1: Public sector in the economy………………………………… 26 10 Figure 2.2: Analytical framework of correlation of public fiance, corruption and economic growth ………………………………………………… 54 xi Abstract: This study 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 public finance separately with control of corruption In this study we call the “developed countries” are high-income countries, which were classified by World bank and determined as those with a GNI per capita, computed using the World Bank Atlas method On July 2015, high-income countries gained more than $12,736 This study also calls the “developing countries” are those countries were classified by World bank as seen as below Low-income economies are determined as those with a GNI per capita of $1,045 or less in 2014; Lower-middle-income economies are those with a GNI per capita of more than $1,045 but less than $4, 125; and upper-middle-income economies are more than $4,125 but less than $12,736 40 For 44 developing countries 41 42 43 Robustness check with CPI 8.1 CPI in developed countries (38 countries) 44 45 46 47 9.2 CPI in 44 developing countries 48 49 50 51 52 53 10 Results of VIF’s test: 54 11 Results of non-linear test - FDI – Lrgdp - INFL – Lrgdp - HDI – Lrgdp - TAXgdp – Lrdgp - GEXgdp – Lrgdp - CCI – Lrgdp - CPI – Lrgdp ... 2.3.3 Governance theory 37 2.3.4 Economic growth theory: Exogenous and endogenous growth theory 39 2.4 Empirical literature on relationships among public finance, governance, and economic. .. understanding the long run relationship among public finance, governance and economic growth Additionally, this result also supports that the long-run relationship between public finance and economic. .. governance on modifying public finance and promoting economic growth is the third research objective Firstly, investigating the effects of governance and public finance on economic growth helps this