Public Economics Principles and Practice
Part 4 Public Choice
Peter Abelson Applied Economics and University of Sydney
Public Choice
Textbook discussions of market failures and their remedies tend to convey a rather rosy view of government. With a tax here, an expenditure there, the state readily corrects all market imperfections, meanwhile seeing to it that incomes are distributed in an ethically desirable way. Such a view is at variance with apparent widespread dissatisfaction with government performance . ..... Humorist P.J.ORourke probably summarised the sentiments of many when he quipped, Giving money and power to government is like giving whisky and car keys to teenage boys. (Rosen, 2002, p.106)
Issues in Public Choice
Direct democracy: how can individuals jointly, usually by a voting process, make good collective choices? Indirect representative democracy: what happens when citizens require representatives and political institutions to make collective decisions on their behalf?
Public choice is the field of study that tries to answer these questions.
Adopts economic method: outcomes are viewed as a function of the objectives of the actors, the constraints and the institutional settings.
Chapter 9 Public Choice and Individual Values
Unanimous Social Choice Other Collective Choice Methods Arrows General Impossibility Theorem Conclusions
Unanimous Social Choice
Unanimity, coercion costs and tax prices For pure public goods, each voter gets same quantity. Unanimity (Lindahl solution) requires that voters with different preferences pay different prices. Examples Figure 9.1 and Table 9.1 Difficulties: free riding (strategic declarations) and transaction costs Problems increase with large numbers
Efficient provision of a public good
Unanimous agreement
Other Collective Choice (Voting) Methods
Optimal majority rule: the majority vote required to minimise the sum of coercion costs and decision costs.
See Figure 9.2 Optimal majority varies with decisions required
An optimal majority
Simple majority voting
Most common, practical, and fair (one vote / person). But various problems arise
Voting paradox consistency / intransitivity A > B, B > C, C > A (> means preferred to)
Simple majority voting
Table 9.2 provides an example
Health is preferred to education (2:1) Athletes are preferred to health (2:1) But education is preferred to athletes (2:1)
Leads to agenda setting Cycling over gains
Intransitive (inconsistent) voting
Nature of preferences and the median voter
Intransitivity can be avoided with single issues and single peaked preferences (Figure 9.4) Median voter is key determinant of outcome Issues are complicated by multiple choices (Table 9.2) or by double peaked preferences (Table 9.3. Figure 9.3)
Median voter dominates with single peaked preferences over one issue
Inconsistency with double-peaked preferences
Double peak illustrated
Intensity of voting and vote trading
Vote trading common; example Table 9.4
May / may not produce desirable outcome
Vote trading
Other voting methods
Rank order or point voting. See Table 9.5
These methods usually violate some desirable feature, e.g. independence from irrelevant alternatives.
Rank order voting
Arrows General Impossibility Theorem
Social Choice and Individual Values, Arrow (1951) Attempts to find a decision rule that derives an ordering over social states based on ordinal preferences of individuals over these states that satisfies various ethical criteria. Decisiveness. The rule should be able to rank all alternatives Unrestricted domain. The rule can cope with all possible individual preferences over all issues.
Arrows General Impossibility Theorem (cont.)
Transitivity. The rule can rank alternatives consistently. Independence of irrelevant alternatives. Responsiveness. Ranking responds to individual preferences. Non-dictatorship. Ranking must not reflect preference of single person when others have different preferences.
Arrows General Impossibility Theorem (cont.)
Arrow concluded there is no such decision rule/process. Simplified explanation:
choices over three alternatives with only ordinal preferences has problem with IIA; Choices over two alternatives in sequence has problem with intransitivity if any preferences allowed; A choice must be made between the 3 options (axiom of decisiveness) but this would have to be imposed and this is contrary to non-dictatorship axiom.
Conclusions: implications for public policy
All methods for collective decisions have problems Do Arrows criteria matter? Can they be relaxed? Some restrictions on transitivity, domain, decisiveness, and IIA may be tolerated. Example intransitivity may equal indifference or reasonable chance (the winner of a knock-out sporting tournament may depend on the draw)
Conclusions: implications for public policy (cont.)
Conclusion: the imperfections of collective decisions are significant but not overwhelming. Two possible approaches
Constitutional (rule making) approaches. Can agree a general approach unanimously. Breaking issues down into smaller groups. Design of local government or clubs or local public goods
Chapter 10 Public Choice in Practice
Politicians and Public Policies Public Servants and the Supply of Public Services The Role of Special Interest Groups General Causes of Government Failure Predictions of Public Choice Analysis Policy Implications
Politicians and Public Policies
Principal agent issues What are objectives of representatives? Self-interest and altruism. What are the constraints? Constraints vary with political system. Hard to generalise, but 2-party system is common.
Role of median voter in 2-party system
Median voter would have key role with compulsory voting and single main issue. See Figure 10.1 (not marked up quite accurately).
But voting is not always compulsory and often there are several issues.
Power of median voter
Empirical testing
Hard to test median hypothesis because hard to distinguish between median and mean income. Also votes of swinging voters in marginal seats are important. Conclusions: Policies probably do tend towards median voter and swinging voter preferences.
More than two parties
Often there are more than two parties Within coalitions, median representative may have decisive role. But it is not always a median representative who has most power; sometimes a balance of power voter who determines policy. Unstable outcomes are common. Also, in any political structure, representatives may have freedom of action.
General conclusions
Voters (citizens) often have limited influence over policies. Median and swinging marginal voters have disproportionate powers. Political discretion may be important factor in policies.
Public Servants and the Supply of Public Policies
Model for servants who should they serve? Model of actual supply of services.
Behavioural assumptions: self interest and public interest motives. Behavioural context:
Monopoly supply Asymmetric information Bilateral monopoly.
Predicted outcomes see Figure 10.2
A model of public output
Role of Special Interest Groups
What are interest groups? How do they exert influence? Money, organisation, focus, ability to deliver votes.
General Causes of Government Failures
Lack of property rights budget is an exercise in rent seeking Absence of a market no prices and no information about value of goods Demand for expenditure is decoupled from costs Supply side
Weak measures of output or outcomes Single sources of output No termination mechanism; soft budget constraints.
Predictions of Public Choice Analysis
Elections, macroeconomic policy and the business cycle.
Higher level of government expenditure than with direct democracy. Allocation of public expenditure and regulations are distorted to win elections. Methods of production in-house methods favoured. Corruption from disbursement of monopoly rents.
Policy Implications
Premise: government should be responsive to citizen demands
Reconfigure election systems. eg. proportional representation Direct democratic measures
Constitutional controls Direct voting for proposals
Indirect methods
Decentralise government Public funding of elections Increase transparency of reporting Tie expenditures to finance (tax hypothecation) Subsidise consumers of services rather than producers Establish more independent statutory agencies.
Policy Implications: Conclusions
Several systemic causes of government failures (misallocations of resources) due to lack of property rights, markets, decoupling of demand and supply, and lack of supply competition.
Exacerbated by political process, bureaucratic supply and special interests. These create several predictable and testable outcomes. There are many policy possibilities for improvements, but government failures are likely to remain an important consideration in policy evaluation.
