Forward and backward linkages of public procurement in India

Abstract

Economic literature predicts intricate relationship between public expenditure and private investment and this has garnered a lot of interest especially post global financial crisis. Standard IS-LM model predicts that a higher degree of public investment tends to crowd out private expenditure on capital goods. This is irrespective of how the public good provision has been attained – either through taxation or open market operations. However, an alternative strand of economic literature now highlights that higher government spending specifically on infrastructural facilities like bridges, railways, roads, education, health, etc. can result in significant complementarities on private sector by raising marginal productivity of private capital. In a similar vein, large-scale public sector procurement also has significant backward and forward linkages with the industry and at times can lead to systematic changes in the industry structure. The standard textbook model showcase crowding out effects in an equilibrium situation, and are ceteris paribus, whereas interest rates also change simultaneously (depends on what real interest rate under consideration). It would also be good to first look at the quantum of govt. borrowings - since all levels of govt. can borrow, i.e. center, state, etc. the combined borrowing is what matters for the entire economy as whole - which later translates into public debt, so what the IS-LM hides is that while increased borrowing has a crowding out effect, it does not talk of a sustainable level of debt (it assumes govt. can borrow endlessly). Government procurement is mostly govt. consumption or at max. expenditure for re-distribution, it may or may not involve raising debt and is very program dependent. There is a lot of theory on complementarity of public investment and private investment - there are several theories - Big Push theory, Hirschman's model and Debraj Ray's disposition on Complimentary investment. Mihir Rakshit talks about a similar model in a book "Readings in Public Finance" to find 'acceleration' in private investment, given levels of public investment - depends on what we take as public investment, or sectors in which private investment has increased after public investment increase or public consumption expenditure (as proxied by public procurement) increase.