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«Wagner’s Law versus Keynesian Antoniou Antonis Hypothesis: Evidence from State General Archives of Greece, Greece gaknk  pre-WWII ...»

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PANOECONOMICUS, 2013, 4, pp. 457-472 UDC 338.24:330.34(495)

Received: 23 July 2011; Accepted: 29 August 2012. DOI: 10.2298/PAN1304457A

Original scientific paper

Wagner’s Law versus Keynesian

Antoniou Antonis

Hypothesis: Evidence from

State General Archives of Greece,



pre-WWII Greece



Summary: With data of over a century, 1833-1938, this paper attempts, for the Department of Economics, Aristotle University of Thessaloniki, first time, to analyze the causal relationship between income and government Greece spending in the Greek economy for such a long period; that is, to gain some katrak@econ.auth.gr  insight into Wagner and Keynesian Hypotheses. The time period of the analyTsaliki Persefoni sis represents a period of growth, industrialization and modernization of the economy, conditions which are conducive to Wagner’s Law but also to the Department of Economics, Aristotle University of Thessaloniki, Keynesian Hypothesis. The empirical analysis resorts to Autoregressive DistriGreece buted Lag (ARDL) Cointegration method and tests for the presence of possible ptsaliki@econ.auth.gr  structural breaks. The results reveal a positive and statistically significant long run causal effect running from economic performance towards the public size giving support to Wagner’s Law in Greece, whereas for the Keynesian hypothesis some doubts arise for specific time sub-periods.

Key words: Wagner’s Law, Economic growth, ARDL cointegration, Causality.

We acknowledge the valuable JEL: H50, E69, E62, C22, C51.

comments of two anonymous referees.

The theoretical and empirical relationship between government expenditures and economic growth turned to be an intense subject of analysis and controversy within the economic literature. It was raised as far back as in late 1800s and since then many empirical attempts have been proposed in order to explore the flow of causality between government size and economic development. Adolph Wagner (1893) was among the firstwho observed the overtime increasing tendency of public spending and the concomitant Wagner’s Law, as presented in economic literature since then, states that economic performance has a fundamental positive impact on public sector’s growth. However, an equally important strand in economic policy literature, rooted in Keynesian principles, argues for the opposite; that is public spending can form an exogenous tool of economic policy to enhance growth through its multiple effect on aggregate demand. As a result, many economists following the Keynesian tradition argue that an economy needs a Keynesian-type fiscal stimulus to be given temporarily in periods of recession by an active government (Phillip Arestis 2011), whereas, others, belonging to mainstream economics, argue that the government has to be small and not to replace the market mechanism. The evolution of the debate about the role of government in a society is presented in Daniel Yergin and Joseph Stanislaw (2002).

For the first time, the present paper attempts to gain some insight into the causal relationship between economic performance and government size in Greece 458 Antoniou Antonis, Katrakilidis Constantinos and Tsaliki Persefoni for such a long period of over a century, 1833-1938. In so doing, we explore the dynamics of this highly debated relation in a developing country, since Greece during this period was gradually transformed into a modern state. It is worth noting that the majority of relevant studies refer only to Postwar Greece and use econometric techniques that may give rise to spurious results about the strength of the long-run equilibrium relationship between government expenditure and national income. Instead, in the context of our empirical analysis the use of Autoregressive Distributed Lag (ARDL) approach to cointegrated analysis (Hashem H. Pesaran and Yongcheol Shin

1999) and time series data from 1833-1938 allows us to arrive to more reliable conclusions. The major advantage of the ARDL method is that by employing an appropriate augmentation it avoids problems of serial correlation and of endogeneity experienced by other cointegration methods. In addition, this method avoids pretesting of the order of integration, which is associated with other cointegration techniques.

Moreover, the present effort checks for structural breaks in the data set, since the time period is very long. Consequently, the results derived from our empirical analysis are expected to be more reliable and thus to provide us with a better understanding of the long run causal relation between government size and economic performance in Greece.

The remainder of the paper is organized as follows: Section 1 briefly presents the theoretical underpinnings of Wagner’s Law and reviews the basic literature about the causal relation between government size and economic performance. Ιn Section 2, the ARDL approach to cointegration is presented; the section continues with the description of data and the presentation and discussion of the empirical findings.

Finally, the concluding remarks and the proposals for future research are reported in Section 3.

1. Wagner’s Law in Economic Literature Through the years, several attempts have been made to explain the growth in public sector. Several propositions were put forward either by economists or economic historians. Walt W. Rostow (1960) suggested that the increase in public expenditure might be related to the pattern of economic growth and development of the various societies whereas Alan T. Peacock and Jack Wiseman (1961) argue that social crises cause the increase in public sector expenditure. William J. Baumol (1967) argues that the public sector, by being less productive than the private, is doomed to increase as the private sector increases, whereas Morris Beck (1976) suggests that the “relative price effect”, meaning that public sector unit costs increase faster than those in private sector, is the cause for the rise in public sector expenditure. Nevertheless,

Wagner’s Law is among the first attempts made to explain the increase in public sector and mathematically can be formulated as:

–  –  –

where G refers to the size of the public sector, Y stands for the level of economic performance, and t is for time. The various empirical studies use different indexes to approximate the size of the government, (i.e. the share of government spending over

–  –  –

GNP, the growth rate of government spending, the per capita public spending, etc.) and the level of economic activity, (i.e. the GNP per capita, the growth rate of GNP, etc).

However, different interpretations of the hypothesis under testing inevitably led to various models modifications. For instance, Richard A. Musgrave (1969) uses total and partial public spending and GNP in logarithms as the dependent and independent variables, respectively, in an attempt to estimate the income elasticity of “public goods”. Arthur J. Mann (1980), in his model for Mexico, estimates the income elasticity by taking GNP per capita as the independent variable and the share of public spending to GNP as the dependent variable.

Wagner’s Law has been empirically asserted over the years and, not surprisingly, the reported results are highly diverse and conflicting. For example several studies - Subrahmanyam Ganti and Bharat R. Kolluri (1979); Rati Ram (1987) for a sample of 115 countries; Les Oxley (1994) for Britain; John Thornton (1999) for the 19th century Europe; Kolluri, Michael J. Panik, and Mahmoud S. Wahab (2000) for the G-7 countries; Nikolaos Dritsakis and Antinios Adamopoulos (2004) for Greece have presented results in favour of Wagner’s Law. In contrast, the studies by Magnus Henrekson (1993) for Sweden and by George Hondroyiannis and Evangelia Papapetrou (1995) for Greece have reported empirical evidence that contradict Wagner’s hypothesis. Moreover, mixed results have been reported by Ram (1986) for a sample of 63 countries, Michael Chletsos and Christos Kollias (1997) for Greece, Erkin I.

Bairam (1995) for USA and by Chang Tsangyao, Wenrong Liu, and Stecen B. Caudill (2004) for a sample of ten industrialized countries.

In addition, studies exploring Wagner’s hypothesis versus the Keynesian one have also reported highly diverse and conflicting results. Panos C. Afxentiou and Apostolos Serletis (1996) for six European countries showed no evidence for both propositions, whereas the study by Biswal Bagala, Dhawan Uruashi, and Hooi-Yean Lee (1999) for Canada and the work by Constantinos P. Katrakilidis and Persefoni Tsaliki (2009) for Postwar Greece find supportive empirical evidence for both hypotheses. The studies by Mohammed A. Ansari, Daniel V. Gordon, and Christian Akuamoah (1997) for three African countries, Anisul M. Islam (2001) for the USA and by Abdulrazak F. Al-Faris (2002) for the Gulf Cooperation Council countries find evidence supporting the Wagner hypothesis but not the Keynesian view, whereas the study by John Loizides and George Vamvoukas (2005) for UK, Ireland and Greece reports mixed results.

However, the econometric techniques engaged in the aforementioned empirical analyses render their results problematic. Recently, progressive economic studies allow the use of cointegration and other advanced techniques in order to check; first, the over time tendency of public spending and gross national product; second, the hypothesis of a long-run relationship between public spending and gross national product; and third, the underline causality of this relationship (Islam 2001; Al-Faris 2002).

PANOECONOMICUS, 2013, 4, pp. 457-472 460 Antoniou Antonis, Katrakilidis Constantinos and Tsaliki Persefoni

2. Methodology, Data and Results

2.1 Methodological Issues The ARDL Cointegration Approach In the present analysis, we use the ARDL approach to cointegration which we consider it as a more appropriate technique since it presents certain advantages over other conventional cointegration procedures such as: the long and short-run parameters of the model are estimated simultaneously; all variables are assumed to be endogenous and the estimates obtained are unbiased and efficient since they avoid the problems that may arise due to serial correlation and endogeneity (Pesaran, Shin, and Richard J. Smith 2001); inability to test hypotheses on the estimated coefficients in the long-run associated with the Engle-Granger method are avoided; the need to establish the order of integration amongst the variables is obviated, which is equivalent to saying that the method can be applied even in the case where the variables are I(0) or I(1) or a mixture of the two but not I(2). Moreover, in case that cointegration is detected, the resulting Error Correction Model (ECM) can be used for Granger noncausality tests, as suggested recently by Joao R. Faria and Miguel Leon-Ledesma (2003). An advantage of using a bi-variate approach to test for causality is that it allows to test, on the one hand, the short-run causality through the lagged differenced explanatory variables and, on the other hand, the long-run causality through the Error Correction (EC) term. As Clive W. J. Granger, Bwo-Nung Huang, and Chin-Wei Yang (2000) suggest a significant EC term implies long-run causality from the explanatory variables to the dependent variable. The ARDL approach to cointegration

involves the estimation of the following conditional EC versions:

p q dGt   0   bi dGt i   ci dYt i   1Gt 1   2Yt 1  et (2) i 1 i 0

–  –  –

where G is a proxy for government expenditure, Y is a proxy for economic performance and d denotes first differences. Based on the above equations, we perform a “bounds test” for the detection of a long-run causal relationship between the two variables. The test involves an F-test on the joint null hypothesis that the coefficients of the level variables are jointly equal to zero (Pesaran and Shin 1999; Pesaran, Shin, and Smith 2001). The statistic displays a non-standard F-distribution and its value depends on whether the variables are individually I(0) or I(1). Instead of the conventional critical values, the test employed involves two asymptotic critical value bounds, depending on whether the variables are I(0) or I(1) or a combination of both.

If the test statistic exceeds their respective upper critical values, it may be argued then that there is evidence of a long-run relationship. If the test statistic falls below the lower critical values, we cannot reject the null hypothesis of no cointegration.

However, if the test statistic lies between the bounds, inference about cointegration is inconclusive.

PANOECONOMICUS, 2013, 4, pp. 457-472 Wagner’s Law versus Keynesian Hypothesis: Evidence from pre-WWII Greece The conditional long-run model can be produced from the reduced form solution of the above equations, when the first-differenced variables jointly equal zero.

The long-run coefficients and the corresponding ECM are estimated through an appropriate ARDL specification. The lag structure for the ARDL specification is determined by the Akaike’s Information Criterion (AIC). Autocorrelation has also been considered.

–  –  –

2.2 Data The empirical analysis engages annual data of the Greek economy (Antonios Antoniou 2004; Antoniou, George Kostelenos, and Ioannis Kaskarellis 2007) and the time period under investigation covers the period 1833-1938. At this point, we have to mention that for Greece, there are official published data since 1911 by the Statistical Service. Prior to 1911, there are no officially completed time series data: however, a reliable time series data set for the period under question has been constructed by two research institutions, namely the Centre of Planning and Economic Research and the Historical Archives of National Bank of Greece (Georgios Kostelenos et al. 2007).

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