Transcript eco 4113 fiscal economics competition and government 1

ECO 4113 FISCAL ECONOMICS
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Assoc. Prof. Yeşim Kuştepeli
COMPETITION AND
GOVERNMENT
COMPETITION AND GOVERNMENT
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Public finance must consider the relationship between
competition and government in a market economy.
Government’s role takes many forms:
- actions to encourage or costraint competition
- competition between governments
- competition among private firms in supplying
products and services to the government as buyer,
- frequent cases when both government and private
producers are supplying similar services to
overlapping clienteles.
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Assoc. Prof. Yeşim Kuştepeli
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Competition is central to the workings of a market
system.
ENCOURAGING COMPETITION
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Governments have two primary tools with which to
promote competition and restrain the excesses of
monopoly
Assoc. Prof. Yeşim Kuştepeli
* Antitrust law is a tool ,which defines and
imposes penalties for behavior by firms that is
intended to limit or destroy competition
* The other tool has been a variety of regulatory
agencies empowered to curb the excesses of
monopolies that are not within the reach of the
antitrust laws.Historically ,these regulated
monopolies have included telecommunications,
banking,railroads,trucking,airlines,and electric
power providers.
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There is usually enough workable competition.
The competitors who generate workable
competition may be firms in related industries or
workable competition may come about as the
result of new technology.
Assoc. Prof. Yeşim Kuştepeli
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Workable Competition
In either case,its main feature is to offer
consumers some alternative suppliers or products
in order to restrain most of the excesses of what
generally proves to be only monopoly power.
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Assoc. Prof. Yeşim Kuştepeli
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Regulatory agencies tend to develop cozy
relationships over time with the industries that
they regulate,thwarting the intent of oversight.
As a result ,the capture theory of regulation says
that these agencies will come to regulate their
industries largely for the benefit of the industries
themselves rather than their customers ,who are
underrepresented in the regulatory process.
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Assoc. Prof. Yeşim Kuştepeli
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In recent decades,more emphasis has been placed
on positive approaches to encouraging
competition.
Some of these approaches include
Facilitating technology tansfer(particularly from
universities and government laboratories)
Small business development
Business incubators
Pooled risk management
Other services that enable new firms to get a
start against established competition
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DISCOURAGING COMPETITION
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Assoc. Prof. Yeşim Kuştepeli
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People who invest in physical or human capital have no
trouble establishing their property rights to that
investment in order to try to earn a fair rate of return.
However for people who invest in intellectual or artistic
creations ,protecting property rights is a major challenge.
Governments offer creators of such valuable products and
services some degree of protection through
Patents
Trademarks
Copyrights
These protections allow the creator to sue those who copy
or appropriate their work without permission as a way of
asserting their property rights and earning a return on
their investment
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Assoc. Prof. Yeşim Kuştepeli
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Patents,trademarks,and copyrights also create
some degree of monopoly power for their owners.
To avoid creating long term monopolies ,these
intellectual property rights have finite lifetimes.
Every government in a market system has to
weigh the trade-offs between ensuring that
people have incentive to invent,innovate,and
create and the risk of encouraging
small,inefficient,unresponsive monopolies.
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Government purchasing,especially at the federal
level,favors large firms.
Assoc. Prof. Yeşim Kuştepeli
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A second effect that government has,indirectly,
on competition in the private sector is through its
procurement practices.
Because the paperwork is complex,the volume of
the order is often very large.
Larger firms are just more connected to the
information network through which information
about planned government purchases is
disseminated.
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As the compliance costs will raise the average or
unit cost more for a small firm than a large
one,regulations have the effect of putting small
firms at a competitive disadvantage.
Assoc. Prof. Yeşim Kuştepeli
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A third, indirect but significant effect that
government has has on competition has to do
with the paperwork burden that firms incur in
complying with a host of regulations,such as
environmental,disability access,gender
equity,and worker safety rules.
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Public transportation,rural electricity,and solid
waste collection and disposal have all been in
government hands because the alternative was
either a private monopoly or no supplier of the
service at all-services that were considered
desirable as merit goods or goods with positive
externalities but not able to generate a profit as
an inducement for a private supplier.
Assoc. Prof. Yeşim Kuştepeli
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Finally,governments have historically been the
sole supplier of certain kinds of services because
the market was so limited and the economies of
scale so substantial that only one firm-or perhaps
none-could profitably serve the market.
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COMPETITION BETWEEN
GOVERNMENT AND PRIVATE FIRMS
One of the defining characteristics of government is
that it possesses certain kind of monopoly power.
 At a minimum,governments have a monopoly on the
lawful use of force,which is reserved to the police.
 When the government has monopoly power over the
legal use of force ,it is able to compel citizens to
submit to its demands.
 Those demands include payment of taxes,
compliance with the speed limit,registering for the
military draft, attending school until age 16,and
smoking only in designated places.
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Assoc. Prof. Yeşim Kuştepeli
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As a result it will be less sensitive to customer
concerns and less likely to try to be more
efficient,to keep prices down,and to provide
better services.
Assoc. Prof. Yeşim Kuştepeli
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When a government has the exclusive right to
provide services ,it can’t force people to use its
services but it can prevent others from supplying
similar services.
In many areas ,government agencies compete
both directly and indirectly with private
firms,both for profit and nonprofit
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Indirect competition simply means that many
government activities could also be undertaken by
private suppliers ,in which case the threat of lost
jobs and loss of power and prestige can have the
same effect as direct competition on bureaucrats
and government workers
The threat of competition forces government
agencies to be more efficient,responsive,and
accountable if they think that service provision
might be turned over to a private supplier
Assoc. Prof. Yeşim Kuştepeli
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The direct competition takes place when certain
services, such as education, recreation,
transportation, health care, are offered by both
public and private agencies.
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SHOULD GOVERNMENT COMPETE?
When government is expected to compete directly
with private suppliers of some services (education
for example),what happens to those social
benefits or public goods aspects of the service
that justified public involvement in the first
place?
 While government agencies and business firms
have some common challenges ,methods,and
characteristics,often they are quite different in
mission and purpose.
 The similarities and differences will vary greatly
from one agency to another.
 The appropriate standards for evaluating their
performance may likewise be very different.
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Assoc. Prof. Yeşim Kuştepeli
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COMPETING IN THE LABOR MARKET
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Private firms and governments at all levels compete in the
labor market for the same pool of available workers
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The package offered by government tends to be different
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Often the wage scale is less attractive,but there is much
more job security,often more opportunity for advancement
,and frequently more generous benefits,particularly sick
leave and annual leave
Private firms vary greatly,but they tend to rely heavily on
salary as an incentive rather than job security or benefits
Even at the local level ,competition between the
government and other major employers affects the total
cost of labor,labor turnover,and the kinds of workers each
side can attract
Assoc. Prof. Yeşim Kuştepeli
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COMPETITION FOR RESOURCES WITHIN
GOVERNMENT
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Because government ,like households and
firms,faces a budget constraint.
The budget constraint is strongest for local
governments,who usually must balance their
budgets and have limited ability to raise taxes or
tap new revenue sources.
Assoc. Prof. Yeşim Kuştepeli
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All government agencies have to compete for
resources.
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FISCAL SURPLUS, FISCAL IMPACT,
AND ECONOMIC IMPACT
Fiscal surplus measures the cost-benefit
calculations made by the industry,potential
resident or commercial developer in terms of
taxes,fees,and public services
 Fiscal impact measures the opposite side of the
coin,looking at taxes and fees generated and
public services demanded from the governments’
point of view
 Economic impact is the brodest of the three
measures ,looking at the total change in economic
activity in terms of income,employment ,and
wealt creation
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Assoc. Prof. Yeşim Kuştepeli
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FISCAL SURPLUS OR DEFICIT
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If the difference is positive ,the tax payer has a
fiscal surplus;if negative a fiscal deficit
While taxes are easy to measure, the value of
services received is highly subjective,so that two
taxpayers with the same tax burden may have
different fiscal surpluses because they value
services differently
Assoc. Prof. Yeşim Kuştepeli
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Add up the value of services received ,and
subtract the value of taxes paid (including any
fees or other nontax obligations)
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Mathematically,the fiscal surplus for the ith
individual in the jth location is given by
FSij = ΣSVij-ΣTij
Assoc. Prof. Yeşim Kuştepeli
where
FS is fiscal surplus
SV is the value of services received from
governments
T represents taxes ,including fees and other
forms of nontax obligations
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FISCAL IMPACT
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If the new resident or firm will generate more
revenue to the government than the cost of providing
the additional services,the fiscal impact is positive
The mathematical formula is
Assoc. Prof. Yeşim Kuştepeli
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The government compares the cost of providing
services for the additional resident to the amount of
revenue that resident would be expected to generate
(SC):FIij= Σ Tij –ΣSCij
where FI is the fiscal impact ,SC is the estimated
additional service costs
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The revenue side is the easier part of the computation.
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The cost of serving an additional household may vary greatly
according to its size, income level,and location.
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Determination of fiscal surplus and fiscal impact is not a zerosum game,although there are some trade-offs
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If the value that the citizens place on the service is higher
than the cost of producing it,then citizens can have a fiscal
surplus even while the local government has a positive fiscal
impact
In the case of a pure public good,where adding another user
does not diminish the amount available to existing users ,the
service cost of an extra resident is zero while the value of the
service remains positive
The government can afford to offer this taxpayer a favorable
tax service package because an extra resident will result in a
revenue increase,yet expenditures will remain unchanged
Assoc. Prof. Yeşim Kuştepeli
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ECONOMIC IMPACT
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The key to creating a positive economic impact is
some external source of private revenue,which
may come from selling goods and services to non
residents or from attracting residents that have a
source of income from outside the local economy
Assoc. Prof. Yeşim Kuştepeli
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Economic impact measures not only the effect
on/of the public sector but also the impact on the
private economy from adding new firms or
residents
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Communities need export industries in order to
acquire the resources to pay for imports,that is,to
make purchases of goods and services produced
outside the immediate locality
A manufacturing industry is one way to have that
multiplier effect,but so are medical centers,resource
based industries(timber,agriculture,oil and
gas,minerals) or a “mailbox economy” of retirees
receiving pensions and Social Security checks from
elsewhere
Assoc. Prof. Yeşim Kuştepeli
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Export industries –local firms that sell primarily to
buyers outside the local market –are said to have
multiplier effects on the local economy in terms of
the additional spending and job creation that result
from their payroll
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INTERSTATE COMPETITION AND
TAX/SERVICE INCENTIVES
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Every state would like to attract or develop highquality employers who pay good wages,pay lots of
taxes,demand relatively few services,respect the
environment, and in general enhance the quality of
life in the state
States are looking to create positive fiscal impacts
To do so they must lure the residents and firms with
both special amenities and tax/service packages that
are competitive with other locations,not merely fiscal
surplus
Assoc. Prof. Yeşim Kuştepeli
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States are in competition with one another for
industry and high income residents
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While many firms build large ,expensive physical plants
that have a long useful life time,others require relatively
little capital investment and can easily pick up and relocate
Because of this risk,some states or local governments have
included in their aggrements with new or expanding firms
receive such inducements a provision known as clawback
Assoc. Prof. Yeşim Kuştepeli
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To balance the desire for a positive fiscal impact with the
firm’s (or citizens)search for fiscal surplus ,states
increasingly are turning to negotiated agreements with
business firms,which is a form of price discrimination
A clawback provison requires repayment of certain benefits
if the firm does not stay in that location for some minimum
period of time or fulfill the terms of the aggrement in terms
of dollars invested and jobs created
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INTERLOCAL COMPETITION
AND THE TIEBOUT HYPOTHESIS
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Making those choices,moving between localities
because of the relative attractiveness of the tax
and service packages,is called “voting with one’s
feet”
Assoc. Prof. Yeşim Kuştepeli
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Even more intense than the competition between
states for residents and industry is the
competition between local governments for highincome residents,commercial facilities of various
kinds,industry,and even state institutions
(colleges,prisons,hospitals)
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TIEBOUT HYPOTHESIS
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The Tiebout Hypothesis has been one of the
most fruitful ideas in regional economics in that
it has led to considerable empirical testing as
well as further refinements of our understanding
of locational decisions and capitalization of the
fiscal surplus into the prices of land and homes
Assoc. Prof. Yeşim Kuştepeli
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The classical description of the workings of
interlocal competition was that of regional
economist Charles Tiebout in 1956
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Communities ,in turn, are trying to attain some
optimal population in order to reach an efficient
size that will minimize the average cost of
providing public services
Under these circumstances,people will tend to
cluster in communities in which tastes and
preferences for public services and taxes are
relatively homogeneous
Assoc. Prof. Yeşim Kuştepeli
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The Tiebout Hypothesis was based on the
assumption that both workers and firms not only
engage in the usual informed ,self-interested
decision-making processes that lie at the heart of
economics,but also that workers and firms are
mobile
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The Tiebout hypothesis suggests that mobility
gives voters much more voice and clout in the
decisions of the local public sector
The threat of losing residents or commercial and
industrial facilities because of mobility is a
powerful device for getting the attention of
politicians and bureaucrats,much more powerful
Assoc. Prof. Yeşim Kuştepeli
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This model suggests a monopolistically
competitive model of many similar communities
differentiated by the offerings of the public sector
as well as other amenities that influence people’s
locational choices
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HOMOGENEOUS COMMUNITIES
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One conclusion of the Tiebout hypothesis is that
there may be some tendency for communities to
become segregated by income levels
Assoc. Prof. Yeşim Kuştepeli
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The Tiebout hypothesis suggests that markettype forces will result in communities that are
relatively homogeneous in terms of preferences
for public services and the willingness to pay for
them
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FISCAL CAPITALIZATION
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Capitalization refers to the process by which a stream of
future income flows or expected costs is incorporated into the
present value of an asset.
If the fiscal surplus on a property increases,the value of the
property should increase by the same amount.
If the fiscal surplus decreases ,either because the expected
future tax burden increases or the expected value of services
decreases the value of the property should decline.
Assoc. Prof. Yeşim Kuştepeli
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The process by which present and future fiscal surpluses are
reflected in the prices of houses is called fiscal
capitalization.
The change in the stream of future obligations and benefits is
incorporated into the value of the property,or capitalized.
An important implication of fiscal capitalization is that any
changes in taxes or service levels impact primarily those who
own the property at the time,not future owners
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FISCAL ZONING
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When zoning regulations set high minimum lot sizes
or minimum square footage requirements in order to
protect the value of the fiscal surplus of established
and higher income residents,they are engaging in
fiscal zoning.
The result of fiscal zoning tends to be communities
that are homogeneous not only in tastes and
preferences but also in income and wealth.
Assoc. Prof. Yeşim Kuştepeli
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Another implication of the Tiebout hypothesis is that
cities and even countries can attempt to defend
themselves against some of the undesirable effects of
citizen mobility through zoning designed to limit inmigration of low-tax,high service demand residents.
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INTERNATIONAL COMPETITION AND GOVERNMENT
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If the factors of production tended not to move ,then the only
source of competition between national governments was the
movement of goods,which governments could restrict with
tariffs,quotas,and other regulations.
If a single government has lost much of its monopoly
power,perhaps it can regain or retain some power by joining
with other nations to become one of several oligopolists
or”price leaders” in a global society made up largely of very
small to moderate-sized nations.
Large nations or coalitions of nations have considerable
influence in international negotiations on such issues as
working conditions,environmental regulations,fishing
rights,and protection of intellectual property rights
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In a global economy,national governments find that
competition with other nations puts constraints on their
monopoly power.
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