Appendix B: The Supply-Side Effect of Public Investment in Japan

B1 Earlier Studies

In this case study, we examine the supply-side effect of public investment in Japan. Whether public capital provision is efficient in Japan is a crucial question from a normative perspective. Some empirical studies have analyzed the productivity of public capital in Japan. In the 1990s, Iwamoto (1990) and Mitsui and Ota (1995) calculated the marginal productivity of public capital based on the estimated production function. They concluded that the level of public capital was considerably low in Japan until the early 1980s.

Ihori and Kondo (1998) investigated the effect of public investment on private consumption by estimating the consumption function from 1955 to 1996. They found that in the 1960s, public investment had a significant impact on private consumption; however, this impact decreased after 1980. The evidence suggests that the total level of public capital was not considerably low in the 1990s. Ihori and Kondo (1998) and Ihori and Kondo (2001) found that the causality relationship between public works and private consumption was significant during the entire sample period (1957-1994). Moreover, this causality was strong, and the impulse response of private consumption to public works was substantial during 1958-1975. However, both causality and the impulse response reduced subsequently.

Thus, the aggregate level of public capital might have been sufficient or considerably high in the last part of 1958-1975. As shown in Asako et al. (1994), if the allocation of public works is appropriately revised, then it can stimulate macroeconomic activities and enhance economic welfare.

Ihori and Kondo (2001) investigated the efficacy of public works for the Japanese economy. They investigated the productivity of disaggregated public capital goods by estimating the productivity of income related to public capital, or labor income, based on the aggregate production function approach. While not definitive because of limited data availability, their results suggest that the allocation of public works was not optimal in Japan. Namely, there still existed large differences among the marginal productivity levels of the various types of public capital. The infrastructures for railways, telephone networks, and postal services were not large enough until the early 1990s. Thus, if public works spending was reallocated to projects in order to improve economic efficiency, it could have stimulated private consumption and enhanced economic welfare in Japan.

To sum up, the supply-side effect of public investment has decreased in recent years. The aforementioned studies commonly conclude that public capital was productive, but its productivity has declined in recent years. In addition, see Aso and Nakamoto (2008) for a similar conclusion.

 
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