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Public Choice 120: 468–471, 2004

Arye L. Hillman, Public finance and public policy: Responsibilities

and limitations of government. Cambridge and New York: Cambridge
University Press, 2003. xiii + 766 pages. USD 120.00 (cloth); 48.00 (paper).

This is a public finance textbook, complete with end-of-chapter questions,

that probably would be most useful as an overview of public finance for
graduate students. It is clearly written and logically organized, and includes
mathematical and graphical expositions along with a clear verbal explanation
of the concepts it covers. As such, it is a good reference volume for basic
models of public finance and public choice. The book’s analysis rests on a
solid public choice foundation, offering analyses of spatial voting models,
rent-seeking, constitutional choice, and other public choice concepts. While
the title suggests that the book covers public finance and public policy, the
book is an exposition in theory, and the discussion of policy issues remains
at the theoretical level. The book offers theoretical models of policy choice
and considers optimal policy design, but discussion of specific policies is
only at the most superficial level and there are almost no facts and figures
that describe actual government policy.
The public choice sections of the book are good, and very thorough
for a public finance book, so the book should appeal to readers of Public
Choice. Hillman consistently emphasizes to readers that public policies are
the product of a collective decision-making process. The book gives a good
presentation of many voting models and presents spatial voting models in a
standard manner. His presentation of the Coase theorem seems overly com-
plicated, and he talks about the Coase theorem failing (pp. 246–250), but
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this seems to ignore Coase’s point that in most cases, transactions costs are
important, and in this context it is hard to see that the Coase theorem ever
fails – sometimes high transactions costs mean that people cannot bargain
to eliminate an inefficiency, but this hardly seems like a failure of the Coase
theorem.
This is a big book, and Hillman’s coverage of public choice topics does
not come at the expense of standard public finance concepts. He gives a
good exposition of tax shifting, excess burden, and Pigouvian taxes. His
discussion of optimal taxation begins with a presentation of the Ramsey
rule and he discusses the optimal taxation literature based on Mirrlees, fol-
lowed up by an analysis of the politics of taxation, including an analysis of
revenue-maximizing governments. Hillman’s thorough coverage of tax the-
ory includes discussion of taxes on capital and labor income, value-added
taxes, tariffs, lotteries, and other sources of revenue, and tax evasion and the
underground economy. Hillman offers a complete discussion of government
size, starting with an analysis of fiscal federalism, and consistently brings
public choice considerations into the analysis.
In his discussion of government growth, he presents a rare table showing
the increase in the size of government for a number of countries from 1960 to
1990 (p. 605). It is unclear why these years were chosen – except that there
was a substantial growth of government in those three decades – and the table
seems a bit dated for a book with a 2003 copyright. More recent data would
show a slowing in the rate of growth of government expenditures in many
countries. Government growth is discussed purely in terms of expenditures,
neglecting the growth in regulation and other aspects of the police power of
the state. Constitutional measures that might constrain government growth
are discussed, in keeping with the public choice orientation of the text.
Hillman discusses in detail the policy areas of health, education, and re-
tirement financing, as always discussing the theoretical aspects of these issues
and describing little about real-world policies. His discussion of health begins
by considering standard arguments about why government involvement in
health care may be beneficial. He discusses moral hazard and adverse se-
lection problems related to private insurance, and ends with an inconclusive
discussion of the trade-offs between private and public provision of health
care. In education, too, the tradeoffs between public and private provision are
discussed, and financing alternatives like vouchers are considered, again with
more questions than answers. Government financed retirement is looked at
as an intergenerational social contract, and the problems with pay-as-you-go
financing are noted. Hillman sees government involvement as a method of
risk management, and notes the political incentives involved in democratic
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determination of retirement programs. These policy chapters draw little in

the way of policy conclusions, but the issues are clearly laid out.
For the most part, the book’s analysis is thorough and solid, but early in
the book I found myself taking issue with the way Hillman analyzes property
rights and economic efficiency. On pages 11 and 12, Hillman is concerned
with how people should be compensated for losses due to pecuniary external-
ities. He discusses the effects of the introduction of steamships on sailors who
had skills in furling and unfurling sails, and of the effects of the personal com-
puter on people who had specialized typing skills, and trying to make every
change a Pareto improvement, notes “. . . the complexities of identifying and
certifying who should be compensated and by how much” (p. 11). Hillman
does not mention that these are pecuniary externalities, and does not distin-
guish between technological and pecuniary externalities. The literature has a
history of arguing that while technological externalities generate inefficien-
cies, so need to be internalized for Pareto efficiency, pecuniary externalities
imply no such inefficiency and should be ignored. Hillman recognizes that
there are problems with trying to compensate the victims of pecuniary ex-
ternalities, but still argues that when possible, those who suffer pecuniary
externalities should be compensated. “When the identities of the gainers and
the losers and the values of the gains and losses are clear, we might how-
ever insist that the gainers compensate the losers” (p. 12). The only problem
Hillman sees is this information problem. The possibilities of rent-seeking
and additional costs imposed on innovators are never mentioned. Should
companies making digital cameras really have to compensate the struggling
Polaroid company? Should Wal-Mart have to compensate its higher-cost
competitors that go out of business when Wal-Mart comes to town? Part of
the problem is that Hillman never acknowledges the fundamental difference
between technological and pecuniary externalities, clouding his analysis of
these issues.
My discomfort with Hillman’s analysis lies in his “social justice” approach
to these issues, as opposed to taking a property rights approach. He wonders
whether people who lose their jobs should be compensated for their loss. If
people are viewed as having a property right to their jobs, then Hillman’s
struggles with these issues are understandable, but if a job is viewed as an
exchange of labor for income, then if either party no longer wants to make
the exchange, neither has lost anything that was theirs. In this property rights
view, the employee does not have a right to a future stream of payments from
an employer, and the employment continues only as long as it is mutually
beneficial. Hillman’s social justice approach muddles the issues, and if he
took a property rights approach to them, the answers would be clear.
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After considering issues of social justice, Hillman does discuss the roles of
property rights and rule of law to “. . . specify rights of ownership of posses-
sions and property . . . [and for people] . . . to be free of coerced subservience
to others. . . ” (p. 24). If Hillman applied this property rights approach to the
issues described in the preceding two paragraphs, the answers seem much
simpler. An employee does not have the right to a future stream of income
from an employer, because that would imply the employer’s “coerced sub-
servience” to the employee. Similarly, typists and typewriter manufacturers
have no right to the assets owned by computer companies, and sailors have
no right to the assets of steamship manufacturers. Hillman’s property rights
approach to issues provides clear answers in instances where his social justice
approach does not, but he does not comment on the apparent conflict between
these two approaches to the issues.
Later in the book, when Hillman discusses income transfers, his views
on property rights are again at odds with mine. He argues that a reduction in
transfer payments does not satisfy the Pareto criterion because taxpayers gain,
but transfer recipients are made worse off (p. 354). That is true if recipients
have a property right to a flow of income from taxpayers, but if transfer
recipients do not have the right to receive income forcibly taken from oth-
ers through taxation, the Pareto criterion appears to be satisfied. Here again,
Hillman’s social justice view of the world conflicts with his property rights
view, but he never recognizes that if he took the property rights approach he
has advocated in one part of the book, the ambiguities regarding social justice
he identifies in other parts of the book would disappear.
Despite this one recurring issue, which might not bother other readers
as much as it did me, this book does a wonderful job of clearly laying out
the basic structure of public finance with a strong public choice foundation.
It could be used as an advanced undergraduate textbook, but its main
drawback as an undergraduate text is that it has so little information on actual
government expenditure and revenue programs. The book would work well
as a reference volume for basic public finance and public choice models,
or as an element of a graduate course in public sector economics. Readers
of Public Choice will appreciate the way that public choice concepts are
explained, and the way that they are integrated into the analysis of standard
public finance concepts.

R ANDALL G. H OLCOMBE, Economics, Florida State University,

Tallahassee, Florida 32306 U.S.A.