dataset allows correcting for a set of relevant econometric issues, we also explore the effects of institutional quality on the volatility of public investment and on the quality of infrastructure and we look at which channel is contributing the most to the changes in these variables.

By and large, the findings of Keefer and Knack (2007) are confirmed when the same specification is used in a panel framework, suggesting an inverse association between public investment levels and institutional quality albeit with a smaller magnitude. Aid, revenues and natural resources abundance, on the other hand, contribute positively to capital spending, however there are no higher effects in settings where natural resources are high and institutional quality is low.

Contrary to Keefer and Knack (2007), we find some evidence of what has been argued in Tanzi and Davoodi (1997) and Mauro (1998) as our results suggest that corruption is the subcomponent of quality of governance that significantly contributes to the increase in the levels of public investment as a share of GDP. However, this is not true for the ratio of public investment to total investment, which is only significantly affected by bureaucracy quality.

These results support the idea that public investment can be used by governments as a vehicle for rent-seeking. If so, politicians are likely to push investment projects on the base of how much they can extract from them instead of looking at economic return and feasibility indicators. As a result, capital spending offers a misleading proxy for public capital stock, because of the misconduct surrounding project selection and government procurement practices that can vary substantially across countries and over time (see Pritchett, 2000). An alternative interpretation is that governments might increase public investment to compensate for the fall in private investment due to inability to create an attractive business environment.

Volatility of public investment is associated with lower institutional quality, suggesting that more frequent partisan and electoral shocks are likely to affect the size of the changes in capital spending. This result has operational relevance because highly volatile capital spending entails second-round effects on the required operation and maintenance expenditures. The variations of the latter adversely affect the contribution of public investment to development. Interestingly, while aid and natural resources increase the volatility of public investment, an increase in revenues is associated with its reduction, suggesting a proper macroeconomic management that results in a smoother investment cycle.<sup>24</sup> Among the single subcomponents of quality of governance, bureaucracy quality and law and order seem to be the most affecting ones.

Finally, as expected institutional quality is positively associated to some measures of infrastructure quality, and bureaucracy quality and law and order seem again to be the relevant subcomponents. This result would be inconsistent with the idea that public investment is offsetting the fall in private investment, since, if this was true, public investment quality should be high even when institutional quality is low. Nonetheless, these results should be treated cautiously because of data limitations.

These findings have policy implications. Public investment needs institutional capacity to be efficient. The pressure exerted by widening global imbalances and infrastructure gaps should be reduced through capital spending only when governments commit themselves to put in place policies that limit misconduct, in particular in the area of corruption, bureaucracy quality, and law and order. These should guarantee a higher quality of governance that is likely to promote less but higher quality and more productive public investment. At the same time, these reforms

> 24 It could be argued that volatile capital investment is not necessarily a bad outcome as countries might enjoy lump sum investments that are still beneficial. However, in general terms a good macroeconomic management should smooth the business cycle and therefore organize the public investment activities over time.

19