From budgets to better lives: how governance shapes fiscal effectiveness in human capital formation

Purpose This study aims to examine how governance quality shapes public finance decisions in health and education, and how these, in turn, affect human capital outcomes in South Asia. It investigates governance’s dual role as both a determinant of budget allocation and a moderator of spending effectiveness. Design/methodology/approach A novel three-layer structural equation modeling (SEM) framework, estimated via two-stage least squares, is applied to panel data from seven South Asian countries spanning 2000–2023. Governance is operationalized using the constructs of government effectiveness and control of corruption, alongside macroeconomic controls and sectoral spending indicators. Findings Results show that stronger governance significantly increases public investment in education and health and enhances its developmental impact. Health spending is strongly associated with life expectancy, while education spending improves schooling outcomes. The governance–spending interaction is particularly robust for education, indicating institutional quality’s critical role in fiscal effectiveness. Research limitations/implications The model uses national-level data and may not capture subnational disparities or informal institutions. Practical implications Governance reforms – alongside increased fiscal allocations – are essential to improve the returns on public spending in social sectors. Originality/value This study advances a multidimensional SEM framework integrating governance, fiscal policy and human development within a unified empirical model – rare in regional analyses. It conceptualizes governance not as context but as a mechanism shaping fiscal outcomes.