1. Public Finance
Chapter4 Public Goods
CHENG Beinan PH.D

2. Topics in this chapter Public goods defined
Efficient provision of public goods
The privatization debate
Public goods & public choice

3. §1. Public goods defined Content of this section:
Characteristics of Goods
Types of Goods
Noteworthy Aspects of Public Goods

4. Characteristics of Goods
Excludable v Nonexcludable
Excludable – preventing anyone from consuming the good is relatively easy
Nonexcludable – preventing anyone from consuming the good is either very expensive or impossible
Rival v Nonrival
Rival – once provided, the additional resource cost of another person consuming the good is positive
Nonrival – once provided, the additional resource cost of another person consuming the good is zero
1st click – Excludable v Nonexcludable and all sub paragraphs
2nd click – Rival v Nonrival and all sub paragraphs 4

5. What is the difference between national defense and pizza?
CAN
CANNOT
Be consumed simultaneously
Be easily excluded from consuming

6. §1. Public goods defined Content of this section: Types of Goods
Characteristics of Goods
Types of Goods
Noteworthy Aspects of Public Goods

7. Types of Goods PRIVATE GOODS NATURAL MONOPOLY COMMON RESOURCES
EXCLUDABLE
RIVAL
YES NO
PRIVATE GOODS
NATURAL
MONOPOLY
1st click - “Private goods”
2nd click - “Public goods”
3rd click - “Common resources”
4th click - “Natural monopoly”
COMMON RESOURCES
PUBLIC GOODS

8. §1. Public goods defined Content of this section:
Characteristics of Goods
Types of Goods
Noteworthy Aspects of Public Goods

9. Even though everyone consumes the same quantity of the good, it need not be valued equally by all.
House cleaning
National defense

10. Q9
In order to respond to the tastes of its patrons, Fairfax County Public Library discards books that have not been checked out in two years in order to make space for more popular books [Miller, 2007]. This policy led them to pull classic works by William Faulkner and Thomas Hardy, freeing up space for popular works by John Grisham and James Patterson.

11. Given that it has become easier and cheaper to find books in retail and online stores in recent years, do libraries provide a public good? Is the public good aspect of libraries met by providing books with mass-market appeal or by providing a cultural storehouse of classic books?

12. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

13. Classification as a public good is not absolute; it depends on market conditions and the state of technology
Scenic view: small vs. large number of visitors
Radiovision → CATV

14. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

15. A commodity can satisfy one part of the definition of a public good but not the other.
Road in rush hour: inexcl but rival;
Beach hard to reach: nonriv but excl.

16. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

17. The characterization of a commodity depends on the state of technology and on legal arrangements.
E-ZPasses
West lake in Hangzhou

18. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

19. Some things that are not conventionally thought of as commodities have public good characteristics.
Honesty

20. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

21. Private goods are not necessarily provided exclusively by the private sector.
Medical services
Housing

22. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

23. Public provision of a good does not necessarily mean that it is also produced by the public sector.
Garbage collection in US

24. Noteworthy Aspects of Public Goods
Same consumption ≠Same valuation
Comparative classification
Nonexcludability & nonrivalness need not go together
Technology & legal arrangements’ affects on characterization
Noncommodities & PG characteristics
Private good ≠ private provision
Public provision ≠ public production

25. Q1
Which of the following do you consider pure public goods? Private goods? Why?
a. Wilderness areas
b. Satellite television
c. Medical school education
d. Public television programs
e. Automated teller machine (ATM)

26. A1
a. Wilderness area is an impure public good – at some point, consumption becomes nonrival; it is, however, nonexcludable.
b. Satellite television is nonrival in consumption, although it is excludable; therefore it is an impure public good.
c. Medical school education is a private good.

27. Topics in this chapter Public goods defined
Efficient provision of public goods
The privatization debate
Public goods & public choice

28. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

29. Efficient Provision of Private Goods
Price
Adam (DfA)
Eve (DfA)
Market (DfA+E)
$11 5 1 6 $9 7 3 10 $7 9 14 $5 11 18 $3 13 22 $1 15 26

30. DfA+E DfA DfE $ Sf Quantity of Pizza Back 1st click – Adam’s D curveSf
1st click – Adam’s D curve
2nd click – Eve’s D curve
3rd click – sum of Adam and Eve at P = 11
4th click – sum of Adam and Eve at P = 9
5t click – sum of Adam and Eve at P = 7
6th click – sum of Adam and Eve at P = 5
7th click – sum of Adam and Eve at P = 3
8th clck – sum of Adam and Eve at P = 1
9th click - Market Demand curve and dashed horizontal lines disappear
10th click – Market Supply curve
DfA+E
DfA
DfE
Quantity of Pizza
Back

31. Horizontal Summation:
The process of creating a market demand curve by summing the quantities demanded by each individual at every price.

32. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

33. Pareto Efficiency – Private Goods Case
Necessary condition for Pareto efficiency:
MRSfaAdam = MRSfaEve = MRTfa

34. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

35. Efficient Provision of Public Goods
Units of Fireworks 1 2 3 4
Adam (DrA)
$300
$250
$200
$150
Eve (DfE)
250
200
150
100
Market (DfA+E)
$550
$450
$350

36. DrA+E DrA DrE $ Sr Quantity of Fireworks 1st click – Adam’s D curveSr
DrA+E
1st click – Adam’s D curve
2nd click – Eve’s D curve
3rd click – sum of Adam and Eve at Q = 1
4th click – sum of Adam and Eve at Q = 2
5t click – sum of Adam and Eve at Q = 3
6th click – sum of Adam and Eve at Q = 4
7th click - Market Demand curve and dashed horizontal lines disappear
8th click – Market Supply curve
DrA
DrE
Quantity of Fireworks

37. Vertical Summation:
The process of creating an aggregate demand curve for a public good by adding the prices each individual is willing to pay for a given quantity of the good.

38. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

39. Pareto Efficiency – Public Goods Case
Necessary condition for Pareto efficiency:
MRSfaAdam + MRSfaEve = MRTfa

40. Q4
In 2008, The US government spends about $ 1.6 million on the search for extraterrestrial intelligence (SETI). Is such research a public good? Is it sensible for the government to pay for such research?

41. Q11
Suppose that there are only two fishermen, Zach and Jacob, who fish along a certain coast. They would each benefit if lighthouses were built along the coast where they fish. The marginal cost of building each additional lighthouse is $ 100. The marginal benefit to Zach of each additional lighthouse is 90-Q, and the marginal benefit to Jacob is 40-Q, where Q equals the number of lighthouses.

42. a. Explain why we might not expect to find the efficient number of lighthouses along this coast.
b. What is the efficient number of lighthouses? What would be the net benefits to Zach and Jacob if the efficient number were provided?

43. Q12
A lone person fishing at a lake can catch 10 fish per day. Each additional person fishing at the lake reduces the catch per person by one fish perday. If a person would rather stay home than catch fewer than four fish (i.e., the opportunity cost of going to the lake is four fish), how many people will show up each day to fish at the lake? What are the net benefits to society of this outcome? What is the efficient number of people fishing to show up at the lake? Is access to the lake a public good?

44. Q13
Britney and Paris are neighbors. During the winter, it is impossible for a snowplow to clear the street in front of Britney’s house without clearing the front of Paris’s. Britney’s marginal benefit from snowplowing services is 12-Z, where Z is the number of times the street is plowed. Paris’s marginal benefit is 8-2Z. The marginal cost of getting the street plowed is $ 16.

45. Sketch the tow marginal benefit schedules and the aggregate marginal benefit schedule. Draw in the marginal cost schedule, and find the efficient level of provision for snowplowing services.

46. Q3
Tarzan and Jane live alone in the jungle and have trained Cheetah both to patrol the perimeter of their clearing and to harvest tropical fruits. Cheetah can collect 3 pounds of fruit an hour and currently spends 6 hours patrolling, 8 hours picking, and 10 hours sleeping.

47. a. What are the public and private goods in this example?
b. If Tarzan and Jane are each currently willing to give up one hour of patrol for 2 pounds of fruit, is the current allocation of Cheetah’s time Pareto efficient? Should he patrol more or less?

48. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

49. Problems Achieving Efficiency
The Free-Rider Problem
The incentive to let other people pay for a public good while you enjoy the benefits.
Solutions to the free-rider problem
Perfect price discrimination
When a producer changes each person the maximum he or she is willing to pay for the good.
Do people free ride?

50. Q8
Several years ago, some citizens of the town of Manchester, Vermont, decided to launch a school fundraising campaign. A private group of citizens decided how much every household and business should contribute, and there was a good deal of social pressure to pay the full amount. One flier urged, “We cannot sit back and wait for our neighbors to carry the load” [Tomsho, 2001, p. A1]. Use the experimental results on free riding discussed in this chapter to predict the outcome of this campaign.

51. §2. Efficient provision of public goods
Content of this section:
Efficient Provision of Private Goods
Pareto Efficiency – Private Goods Case
Efficient Provision of Public Goods
Pareto Efficiency – Public Goods Case
Problems Achieving Efficiency
Laboratory Experiments and Free-Riding

52. Laboratory Experiments and Free-Riding
Typical results
People contribute about 50% of resources to provision of public good
Contributions fall the more often the game is repeated
Cooperation fostered by prior communication
Contribution rates decline when opportunity cost of giving goes up
“Warm-glow” giving

53. Topics in this chapter Public goods defined
Efficient provision of public goods
The privatization debate
Public goods & public choice

54. §3. The privatization debate
Content of this section:
Privatization
Public vs Private Provision
Public vs Private Production

55. Privatization:
The process of turning services that are supplied by the government over to the private sector for provision and / or production.

56. §3. The privatization debate
Content of this section:
Privatization
Public vs Private Provision
Public vs Private Production

57. Public vs Private Provision
What is the right mix?
Relative wage and materials costs
Administrative costs
Diversity of tastes
Commodity egalitarianism
The idea that some commodities ought to be made available to everybody.

58. §3. The privatization debate
Content of this section:
Privatization
Public vs Private Provision
Public vs Private Production

59. Public versus Private Production
Incomplete Contracts
Low cost + complete contract → private production
Reputation building
Policy Perspective: Should airport security be produced publicly or privately?
Market Environment
Private monopoly → low efficiency
Fierce competition + public enterprise → high efficiency
Case in the city of Phoenix
Competition matters, not the ownership

60. Q5
The aircraft company Airbus receives much of its funding from European governments. Airbus recently decided to build a new 550-seat mega-jetliner, with duty-free shopping courts and restaurants on board. The project has experienced production delays as well as cost overruns, and it now appears that there will be very few buyers.

61. An industry expert says the idea from the start was “nonsense” [Aboulafia, 2006]. Is public sector production of aircrafts ever justified? Explain why it could lead to the apparently ill-advised decision to build the mega-jetliner.

62. Q6
Although Mexico has vast reserves of oil, in recent years its production of oil has been failing. In order to reverse this decline. President Felipe Calderon recently attempted to privatize the state-run oil company Pemex [Luhnow, 2008].

63. Many opponents of the proposal argued that privatization of Mexico's telephone company Telmex had led to a monopoly, which was charging exorbitant prices. Would you expect something similar to happen if Pemex were privatized? Relate your answer to our discussion of the role of market environment when assessing the consequences of privatization.

64. Q7
It has been estimated that private prisons are about 10 percent cheaper, on a per prisoner basis, than public prisons [Hart, Shleifer, and Vishny, 1997]. On this basis, would you recommend that prisons be privatized? If not, what other information would you require?

65. Q10
Private military firms provided much of the logistical support to American troops in Afghanistan and Iraq, and some people have advocated using such troops to help stop the genocide being carried out in Darfur, Sudan. Critics of these mercenary troops argue that they charge too much, act irresponsibly, and fail to provide long-term fixes.

66. As one opponent stated, "There's no reason to assume that a private company hired to perform a public service will do better than people employed directly by the government" [Krugman, 2006, p. A27]. Relate this debate to our discussion of the role that contracts play in deciding whether to produce a public good privately.

67. Topics in this chapter Public goods defined
Efficient provision of public goods
The privatization debate
Public goods & public choice

68. §4. Public goods & public choice
The quantity decision → Collective decision → Public choice

69. DEFINTIONS Pure public good: Non-rival: Non-excludable: Private good:
A commodity that is non-rival and non-excludable in consumption.
Non-rival:
Once provided, the additional resource cost of another person consuming the good is zero.
Non-excludable:
Preventing anyone from consuming the good is either very expensive or impossible.
Private good:
A commodity that is rival and excludable in consumption.
Back

70. Commodity egalitarianism:
Impure public good:
A good that is rival and/or excludable to some extent.
Privatization:
Taking services supplied by government and turning them over to the private sector.
Commodity egalitarianism:
Notion that some commodities ought to be made available to everyone.

71. Q2
Indicate whether each of the following statements is true, false, or uncertain, and justify your answer.
a. Efficient provision of a public good occurs at the level at which each member of society places the same value on the last unit.
b. If a good is nonrival and excludable, it will never be produced by the private sector.

72. c. A road is nonrival because one person’s use of it does not reduce another person’s use of it.
d. Larger communities tend to consume greater quantities of a nonrival good than smaller communities.