Optimal Public Program and Economic Growth: Theory and Evidence From a Developing Country

Abstract

A highly relevant policy debate in developing countries concerns whether limited public funds should be allocated to productive infrastructure or social transfers. Following recent developments in mathematical economics (e.g., Brandl 2022), we contribute to this debate by presenting a mechanism for selecting optimal public development projects. The incentive path compatibility axiom allows identifying an acceptable project (the one that increases the agent's utility for each money spent) using the notion of dominant strategies in game theory. Funding an infrastructure investment project is preferable to directly transferring resources to households. We construct a top-down dynamic computable general equilibrium (CGE) model and apply it to the Guinea-Bissau economy from 2014 to 2031. Evidence suggests that optimal public projects spur growth and social welfare. These results have significant policy implications for developing countries.