ECONOMIC GROWTH AND PUBLIC EXPENDITURE COMPOSITION: OPTIMAL ADJUSTMENT USING THE GRADIENT METHOD

Previous studies have looked at how the components of fiscal spending affect economic growth. However, we explicitly enquire into how to adjust the components in order to achieve the highest rate of economic growth starting from the present shares of components, by introducing a gradient method. The resulting optimal adjustment shares are proportional to the deviations from the average over elements of a gradient vector. The optimal adjustment share is completely estimated by using linear regression with any choice of omitted variable. The paper also provides an illustrative example taken from the annual panel data for the Japanese prefectural governments.