Public Sector Revenue

Principles, Policies and Management

Alberto Asquer

• Publisher: Routledge
• Year: 2017
• ISBN:
  9781315440989
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

In this time of acute financial pressure on public budgets, there is an increasing interest worldwide in alternative ways for governments to raise money, and how public authorities can develop the capacity to administer revenues efficiently and effectively. Taxation, the primary source of public revenue, is exposed to various threats, while alternative sources of public revenues have much potential but are rarely carefully designed and harnessed.

Public Sector Revenue: Principles, Policies and Management sets itself apart from other textbooks through its exclusive focus on the revenue side of public financial management. It provides the reader with the theoretical foundations and practical tools to understand the generation and management of revenues in the public sector, and it weaves a wide range of international examples throughout the text. Students will also benefit from a companion website with supplements including test questions and answers to the end-of-chapter discussion questions inside the book.

This textbook will be essential reading for students, managers and policymakers within the areas of public financial management, public sector accounting and public administration.

1 Financing the public sector

Public sector spending

Public sector spending grew in many countries in the world during the last two centuries. From about 1870 until the First World War, a general inclination towards principles of laissez-faire favoured ‘minimal’ government intervention in the economy, with the effect that public spending was limited to the most essential functions like defence, police and administration. Around 1870, unweighted average public expenditures amounted to about 10% of gross domestic product (GDP) in the world (Tanzi and Schuknecht, 2000). Only gradually did ideas about greater involvement of the government in economic and social affairs gain traction, and paved the way towards innovative forms of social protection and intervention of the government in economic activities.

By the late 1920s, many countries had introduced some form of social security. It was during the next couple of decades, however, that many governments started spending at levels that had never been experienced in the past. During the 1930s, increased public spending originated from expansionary policies that aimed to counteract the negative effects of the Great Depression. Then in the first part of the 1940s, public budgets soared because of military spending. In relative terms to the GDP, the size of public spending was also magnified because of the drop of business activity since 1929 and during the Second World War.

The post-war period witnessed the persistence of expansionary policies that had been recast as a desirable public venture rather than a temporary measure to offset the collapse of financial and economic activity. Keynesian ideas about the role of public spending to compensate for a shortfall of private sector demand intersected with socio-democratic (or, in the US, liberal) ideas about the merits of public spending for the redistribution of wealth (Musgrave, 1959) and the protection of citizens from risks (Galbraith, 1998). As Tanzi and Schuknecht (2000: 16) put it, the period 1960–1980 can be described as the ‘golden age’ of public sector intervention.

Since the 1980s, the role of the government in society and the economy has come under attack. Arguments against the capacity of public policies to allocate resources efficiently and the benevolence of policymakers to make decisions in the public interest fuelled preferences for a smaller government role. Epitomised by such political figures as Margaret Thatcher in the UK and Ronald Reagan in the US, neoliberal ideas gained traction in many countries and resulted in the partial dismantling of welfare state institutions and programmes. Privatisation and regulatory reforms also contributed to shrinking the size of the public sector in many areas such as the provision of infrastructure and utilities services.

The influence of neoliberal ideas on the reduction of public spending faded away after the turn of the last century. In many countries, public spending with respect to GDP increased in the early 2000s. It was the coming of the great financial crisis in 2007–2008, however, that triggered a dramatic surge of public spending, which was primarily related to exceptional measures to bail out financial firms and stimulate economies. Exceptional spending efforts, together with relatively modest public sector revenues, resulted in an increase of public debts that called, in the following years (and until the present day), for ‘consolidation’ (or ‘austerity’) programmes to bring the state of public finances back into healthier shape (OECD, 2011a; Riley and Chote, 2014).

The reasons for public spending

What accounts for the secular growth trend and for the fluctuations of public spending over time? Various explanations for the dynamics of public spending have been put forward. They include a role for changed demographics and lifestyles, such as, for example, increased public spending that is required to fulfil the expectations of populations that relocate to live in urban areas, expect to live longer and demand more protection from risks of unemployment, sickness and other unwelcome events (Tarschys, 1975). They also include a role for an increased level of economic development, according to which, progress in technology, division of labour in society and diversification of industrial activity are accompanied by greater efforts of governments to retain control of society (Bird, 1971). An additional role is played by ideas and partisan influence on public policies, especially in the form of a tendency for ‘leftist’ parties to spend more than right-oriented ones (Blais et al., 1993; Cusack, 1997).

While these explanations help to account for historical tendencies and variations, many scholars have argued that public spending rests on more fundamental rationales about the nature of public sector production (Cornes and Sandler, 1996; Samuelson, 1954, 1995). According to this view, the public sector is primarily oriented to obtaining so-called public goods, which are defined as those goods that exhibit properties of non-excludability and non-rivalry. A good is defined as excludable when it is possible to prevent an individual from consuming it. A good is defined as rivalrous if its consumption by an individual diminishes the consumption of another individual. The combination of excludable and rivalrous features of goods results in the four categories that are illustrated in Table 1.1.

Goods that are excludable and rivalrous fall into the category of private goods. Private goods (such as, for example, a pair of shoes) are typically produced by the private, or business, sector: because they are excludable goods, access to private goods can be granted upon payment of a price; because they are rivalrous goods, access to private goods can be allocated on the basis of individuals’ willingness to pay for privileged access. At the opposite side of the table, goods that are non-excludable and non-rivalrous are characterised as public goods. No business would be interested to produce public goods (such as, for example, national defence), because they would not be able to charge individuals for access to the goods and to differentiate prices to cream-skim the market. Rather, the government has been typically regarded as the producer of public goods par excellence. The government, in fact, provides public goods regardless of the possibility to exclude individuals from consumption (which may not be desirable anyway) and to discriminate depending on their willingness to pay (which may not be relevant to granting them access to the goods anyway).

Table 1.1 Types of goods depending on excludability and rivalry of consumption

	Rivalrous consumption	Non-rivalrous consumption
Excludable consumption	Private goods	Toll or club goods
Non-excludable consumption	Common goods	Public goods

According to this model, public spending originates from the production of public goods, whose definition depends on excludability and rivalry features. Public goods include various types of services, however, and the actual production of public goods depends on what is (was) demanded in particular historical and local circumstances. Lighthouses, for example, have been provided by public authorities since long ago, while street lights and official statistics have been supplied in relatively recent times. The volume of spending on public goods, therefore, is dependent on technological change and social expectations.

Table 1.1 also shows that the combination of features of excludability and rivalry results in two additional categories, namely those of common goods and toll or club goods. Common goods consist of goods that are non-excludable but rivalrous (such as, for example, clean air and water). The lack of the possibility to block access to common goods makes them unattractive to private production. Open access to common goods, however, results in the deterioration or erosion of the same common goods (e.g. through the pollution of air and water). The provision of common goods, therefore, calls for some forms of coordination and rationing, which may be obtained through public authorities (although also systems of community self-regulation may result in the preservation of common pool resources; Ostrom et al., 1994).

Finally, toll or club goods consist of goods that are non-rivalrous but excludable (such as, for example, transit on highways and listening to concerts). In principle, the possibility to block access to consumption makes it possible for business to profit from the production of toll or club goods. Non-rivalry also entails that, once production costs have been incurred, an indefinite number of individuals can jointly consume the toll or club goods. Consumption of toll or club goods may result, therefore, in widespread social benefits that may justify a public interest to produce them (e.g. improving connectivity between regions of a country). Because of such social and economic considerations, toll or club goods may be provided by public authorities, although on various occasions they are supplied by private entities or by some form of mixed public–private arrangement (e.g. highways that have been built with public funds but which are operated in a regime of franchise concession). In addition, sometimes the non-rivalry feature of toll or club goods holds up to a certain volume of consumption only (e.g. a highway may become congested), and some forms of discriminatory pricing may apply to contain demand in peak time.

The four categories of public goods, private goods, common goods and toll goods suggest that the size of public spending depends on the selection of which goods a government decides to produce and in which kind of institutional arrangement. In the heyday of government intervention, public spending included the production of public goods, of services for the preservation of common pool resources and of toll or club goods, although they could be supplied, in principle, by business entities. Public provision may extend up to goods – called merit goods – which are supplied by public authorities purely because they are considered worthy of social consideration, such as, for example, concerts (which can be provided by business but which can also be produced by the government because of a general interest to diffuse consumption of cultural artefacts in the society). A similar argument is made for those goods that result in massive positive externalities (that is, benefits to individuals other than those who consume the goods), such, as for example, vaccinations.

There are additional reasons for public spending that especially refer to the stabilisation of the economy and to the redistribution of income. The stabilisation of the economy is a public policy objective that includes such goals as curbing unemployment, containing inflation, limiting the negative effects of business cycles and improving the growth prospects of the economy. In part, these goals are often pursued through monetary policies, which in many countries have been put under the competencies of central monetary authorities (central banks). In part, they are pursued by governments through fiscal means, which include public spending for implementing public policies and programmes (e.g. unemployment benefits) as well as other measures that are intended to stimulate economic activity (e.g. privatisation and liberalisation of sectors of the economy). Nowadays many countries have stipulated mechanisms for economic stabilisation in legislation, especially in the form of ‘automatic stabilisers’ (e.g. entitlements to welfare benefits) that result in forms of public spending that are somehow isolated from the contingent political climate.

Redistribution of income is another public policy objective that is typically pursued through public spending. Even in countries whose economic regime is based on liberal market principles, there is often a concern with unwelcome allocation of opportunities and rewards. Inequality in the distribution of income can be measured through the Gini coefficient (Gini, 1909). Public spending may partially tackle income redistribution issues in ...