Risk Reduction and Public Spending

32 Pages Posted: 20 Apr 2016

See all articles by Shantayanan Devarajan

Shantayanan Devarajan

World Bank Middle East and North Africa Region

Jeffrey S. Hammer

Princeton University - Woodrow Wilson School of Public and International Affairs

Date Written: January 1998

Abstract

Government spending on risk reduction could improve welfare in developing economies, either by alleviating a risk-market failure or by reducing uncertainty in otherwise distorted markets.

As governments grow richer, the share of their GDP devoted to public spending rises. Public spending in the United States was 7.5 percent of GDP in 1913. It is 33 percent today. Although industrial countries spend twice as much as developing countries, government spending on goods and services is the same in both groups of countries. The difference is almost entirely due to transfer payments, which are about 22 percent of GDP in the industrial world.

Most of these transfer payments-pensions, health insurance, unemployment insurance, guaranteed loans-are aimed at mitigating risk in the private sector. Devarajan and Hammer explore how the framework for evaluating government spending on goods and services can be extended to incorporate the government's various risk-reducing activities.

They argue that there is a case for incorporating risk reduction into government spending, if doing so meets standard welfare-economics criteria for government intervention in the economy. Through examples-government-provided health insurance and crop insurance, price stabilization schemes, transfer programs for income support, public investments, publicly provided health care, and government credit guarantees-they show where government spending on risk reduction could improve welfare, either by alleviating a failure in risk markets or by reducing uncertainty in otherwise distorted markets. They illustrate calculations of the risk-reduction benefits of public spending and cite cases where their neglect could lead to serious underestimates.

This paper-a product of Public Economics, Development Research Group-is part of a larger effort in the group to improve the allocation of public expenditures in developing countries. The authors may be contacted at sdevarajan@worldbank.org or jhammer@worldbank.org.

Suggested Citation

Devarajan, Shantayanan and Hammer, Jeffrey S., Risk Reduction and Public Spending (January 1998). World Bank Policy Research Working Paper No. 1869. Available at SSRN: https://ssrn.com/abstract=604976

Shantayanan Devarajan (Contact Author)

World Bank Middle East and North Africa Region ( email )

1818 H Street, NW
Washington, DC 20433
United States

Jeffrey S. Hammer

Princeton University - Woodrow Wilson School of Public and International Affairs ( email )

Princeton University
Princeton, NJ 08544-1021
United States

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