Prof. Dr. Younis El Batrik Public Finance Lectures in PUBLIC FINANCE By Prof. Dr. Younis El Batrik

PUBLIC GOODS AND EXTERNALITIES Classification of Goods and Services Public Finance PUBLIC GOODS AND EXTERNALITIES Classification of Goods and Services 1- Private Goods Private Decisions Market transactions in exchange for money (Market Price) Excludable and rival in consumption 2- Merit Goods On the contrary of pareto optimum (allocative efficiency), individuals undervalue certain goods and services (insufficient merit to it) as a Result of uncertainty (Medical Insurance) Government Ways: Compulsion Subsidies Information

Classification of Goods and Services Public Finance Classification of Goods and Services 3- Public Goods Defined by Paul Samuelson in 1954 Markets do not exist for public goods, as they are: Non – rival: Any increase in the number of users will not reduce the service available to others, and without additional cost Non excludable Not possible to prevent use of the service by those who do not pay for it

Examples of Pure Public Goods Public Finance Examples of Pure Public Goods i. National Defense Protection is indivisible Additional persons involves no marginal or additional cost No charge for the beneficiaries and no exclusion for who do not pay ii. Peace Everyone wishes to maintain An essential element of the first fundamental theorem of welfare economics iii. Law and Order Beneficial to all individual in the society Different valuations on specific elements of law and order

Examples of Pure Public Goods Public Finance Examples of Pure Public Goods iv. Environmental Control Government actions became Increasingly important: pollution - Noise – Dwindling natural resources - Congestion v. Monetary Stability Common Monetary system to ensure against unpredictable monterey changes (Central Banks) vi. Regulatory Measures Collective services require money regulatory measures (pure food and drugs laws – traffic regulations)

Problems of the Provision of Public Goods Public Finance Problems of the Provision of Public Goods Two Major Problems 1- The free rider 2- The prisoner’s Dilemma The Free- Rider Problem The example of the lighthouse - If the organization is wholly voluntary, one factor must exists Either: To force the unreasonable persons to move off the island - No unreasonable persons IF not: As the common purpose would not overcome the strong incentive to avoid sharing the expenses Governmental action is necessary: The Government has the power to compel all members of the society to contribute to the costs of the collective goods

The Prisoner’s Dilemma Problem Public Finance The Prisoner’s Dilemma Problem How to reach an agreement where individuals are interdependent Mainly when the situation involves a large number of participants The dilemma can be overcome by a reordering of incentives to make the most beneficial choice for each individual is also the most beneficial for all Main Difficulties A) The logistics problem of getting everyone to participate in making decisions and sharing its costs. The increasing temptation to free- ride since the contribution of each individual is so small with little effect

Impure Public Goods and Services Public Finance Impure Public Goods and Services The impure public goods (Quasi – Collective) Private by nature – public by responsibility Examples of Impure Public Goods i. Public Education The whole community benefits (indivisible) certain families benefit Directly (divisible) ii. Public Parks Only visitors enjoy Non visitors do not enjoy

Public Finance Debates on the appropriate extent of Government Activity is Centered on the Quasi- Collective Category The main question how to finance different categories of Quasi- collective goods direct charges levied on users with or without general taxes supplement The relative importance or the presence of private and collective benefits of any activity cannot be measured objectively The individuals subjective estimation leads to different governments approach in organizing and financing impure public goods

Historical and Efficiency Effects Public Finance Historical and Efficiency Effects - Some government activities are financed as if they are wholly private Postal Services Highway facilities and services Provided by governments with divisible benefits financed from direct users charge It is useful to distinguish between public governmental support: By financing And by providing