Public investment is an important policy tool (Ramey, 2021), because it has two distinct properties. First, it has short-term demand-side effects similar to those of government consumption, and can therefore be used to stimulate the economy in the short run. Second, public investment increases long-lasting public capital that has long-term supply effects similar as the productivity increase. Both properties have been increasingly recognised by policymakers as useful instruments to manage the economy, especially after the Great Recession (see, e.g., Coenen et al. (2012) and Coenen et al. (2013)), but also in the more strategic longer run. A very prominent recent example is the report of Mario Draghi (Draghi, 2024), which among other things calls for a structural reform in Europe with a permanent increase in public investment. However, the effect of public investment on the economy depends not only on the level of investment, but also on the efficiency with which it is delivered. Typically, delays happen (Leeper et al., 2010), so benefits from investment accrue further in the future.
We investigate the effects of two frictions related to public investment that cause delays. The first friction, which we call time-to-plan, is the time that passes between the moment a public investment is announced and the time it starts being carried out. The second friction, called time-to-build, is the time that passes from the moment construction starts to when the project is delivered and put to use. There is an important distinction between them. Time-to-plan implies an announcement of public investment in the future, but no (or minimal) spending and hence no immediate stimulus until investment commences. Time-to-build implies that the stimulus from the demand-side related to public investment is already taking place, but the project has not yet been finished and put to use, so that there are no supply-side effects from higher public capital yet.
Delays can happen in either phase. During the planning phase the frictions causing delays are typically of a more bureaucratic nature: there are zoning issues, various permissions must be obtained, there may be objections from the public, litigations, etc. These can be sizeable. For instance, in Ireland the time between a permission is obtained and construction commences can come close to two years in some regions (NCPC, 2024). Frictions causing delays in time-to-build are typically more technical and related to the organisation of work, supply lines, availability of workers, etc.
Regardless of the reason, both types of delays are a common occurrence when public investment is concerned (Leeper et al., 2010), and at the same time important for the short-term economic fluctuations that are caused by government investment (Ramey, 2021). While these authors focused on the closed economy, we analyse these issues in an open economy that is a member of a monetary union. This has two implications. First, monetary policy reaction is (almost) absent, as the economy is small relative to the rest of the monetary union. Second, the effects of domestic prices on external competitiveness, i.e., on exports and imports, play an important role.
Delays in delivering public investment, however, are particularly interesting because of its productive property, in the sense that it increases the stock of public capital, which in turn increases productivity of the private sector. The notion has a long tradition starting at least from Baxter and King (1993) and continuing in Leeper et al. (2010) and Ramey (2021). This increase in productivity of the private sector occurs in the future (when public capital is constructed and put in productive use). Therefore, it has very similar properties to a positive news shock about an increase in future productivity,