How Does the Public Spending Affect Technical Efficiency? Some Evidence from 15 European Countries

The relationship between government size and economic growth has been widely debated. Departing from thisissue, we provide an empirical analysis of the impact of government size on technical efficiency. The aim of thispaper is to estimate by using a True Random Effect model the impact of public sector’s size and of publicexpenditure components on 15 European countries’ technical efficiency from 1996 to 2011. Using the total publicexpenditure as a proxy for the government size we estimate simultaneously national optimal production functionand technical efficiency model by controlling for income distribution and institutional quality. Our main findingsshow that the effect of public sector’s size on efficiency is positive while the type of public expenditures may haveboth positive and negative impact. In more details, results suggest that social protection, cultural, and healthexpenditures have a positive effect on technical efficiency, while others have a negative impact. Morecontroversial is the impact of education expenditure, even if a positive effect on efficiency prevails whencontrolling for heteroscedasticity.