Car on the Road: An Economic Growth Model of Road Infrastructure’s Effect on Consumption and Economic Growth

GUO Guangzhen, LIU Ruiguo and HUANG Zongye

Summary: In this paper, we provide a theoretic and empirical framework for evaluating the impacts of road infrastructure on economic growth. In particular, we emphasize that the improvement of road infrastructure can directly affect household consumption to promote economic growth. This consumption channel is almost ignored in the literature which has been focusing on the impacts of transportation infrastructure on supply side factors, such as market size, market competition, transportation efficiency, and so on.

Following the overlapping generation framework, we present a simple model featuring road infrastructure and private car purchase. We assume road is a public good financed by government tax income. Road can not only directly facilitate economic activities, but also affect the household consumption decision, especially their expenditure on private cars. This is because the household utility of using a private automobile is affected by the availability of road infrastructure. As a result, public investment on road infrastructure can influence the household consumption bundle, and further promote economic growth. This new channel of road infrastructure on economic growth is called consumption effect.

Our conceptual model provides five propositions to describe the underlying mechanisms through which the government chooses public investment on road infrastructure to influence household consumption and economic growth: 1) If the government invests a higher share of total output on road infrastructure, the equilibrium capital-road ratio will decrease, meaning that the private capital becomes relatively scarce; 2) The output growth rate is positively associated with the growth rate of road infrastructure, as the share of public investment increases, the economic growth rate will first increase and then decrease; 3) Household expenditure share on private cars raises as road infrastructure improves; 4) As we add the new channel that road infrastructure can affect household consumption decision, the estimated growth rate of the economy will be higher; 5) As the mileage of the road continues to grow, the benefit from this road consumption channel fades out.

In order to verify this consumption channel of road infrastructure, we construct a panel dataset of Chinese provinces from 2000 to 2012. We use the total length of all types of road as the primary indicator of road infrastructure, and we also calculate a weighted road length index as an alternative measure using principal component analysis.

The main empirical analysis of this paper has two parts. In the first part, we study the connections between economic performance, road length, private car, and household consumption. In the second part, we empirically verify the underlying mechanisms derived from the theoretic model.

The first part of empirical results include two sets of regressions. In the first regression, we regress provincial GDP on road length, number of private car, controlling for railway, capital stock, and labor input. In the second regression, we estimate the relationship between the growth rates of output, road and private car. These baseline results show that both car and road are significantly correlated with economic development.

In the second part of empirical analysis, we focus on three sets of regressions. Our first result shows that provincial capital-road ratio is significantly negatively correlated with the road investment rate. It indicates that the private capital becomes relatively scarce, since the public investment is crowding out private capital. Second, we explore the linkage between household consumption and their access to road infrastructure, measured by road density. Our results show that the number of private cars and the expenditure share on private car purchase are significantly higher in province with high road density after controlling for income and regional fixed effect. Finally, we revisit the impact of road on economic growth. We show that both the road investment and the road density demonstrate inverted U shape patterns with growth rate. These findings are consistent with the propositions derived from the model.

This paper contributes to the literature by highlighting the consumption effect of infrastructure investment on economic development. Although it is motivated by our observation on private car consumption and road infrastructure, our results can be extend to other public investments.

Two important policy implications can be derived from our results. First, the benefit of public infrastructure investment might be underestimated since the existing literature has ignored this consumption channel, which lead to insufficient infrastructure investment. Second, in order to take advantage of this consumption effect, the design of public infrastructure becomes very important, as the planner have to consider the responses from not only the firms but also the households.

Key words: Road Infrastructure;Economic Growth;Car

JEL Classification: H41, L92, O18

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