Do Financial Markets Reward Government Spending Efficiency?

To mitigate the economic impact of the corona crisis many governments have heavily engaged in counter-cyclical policies contributing to record high deficit and debt levels. Therefore, the more efficient use of public resources will be given special attention by financial markets’ participants. For a sample of 34 OECD countries over the period 2007-2018, this study finds that increased public spending efficiency is indeed rewarded by the Big Three rating agencies through higher sovereign credit rating notations. And these in turn naturally imply lower funding costs for governments in capital markets - an important policy implication to consider in times of Covid-induced scarce budgetary resources.