Page 1 :
vas, , 1, , —, , 14 ROLE OF THE, be) GOVERNMENT, , , , yl Public Goods, , Characteristics of Public Goods, , Role of the Government in Providing Public Goods, 142 Principles of Sound and Functional Finance, , Sound Finance, , - Functional Finance, , a, , 14.1 PUBLIC GOODS, , —_—_—, , idual can consume without, al, and from which no one is, 2ty as a whole and not necessarily, , Ss of public goods include; national, stems, public parks, lighthouses, fire, , , , , , A public good is a product that ar, reducing its availability to z, excluded, It is an itern consumed ¢, , by an individual consumer Examp, , , , , , , , defence, law enforcement, sewer, , brigade, and free vaccinations, , Characteristics of Public Goods, , Public goods are characterised as non-rival and non-excludable goods., , Nom-rival: Non-rivalry means that any product or service does not reduce, availability as people consume it. All public goods must be consumed, , without reducing the availability of the good to others.

Page 2 :
11 (SYBMS, BFM EM poh, , , , , , , , , , , Economics pte", fers to any product ot ett ne!, < .N _excludability refers t¢ De Pe ary “ve a, Non-excludable: Non at being av aila — ee, ble to provide without it! held from Ps ople who do not dir a ta, impossible I tcannot be withhelc ; 2., They are goods that ce ee i, yay for them ee ih Ee, oe - good must be av ailable for ev« ee wes limi with, Therefore, a a rea js non-rival and nnecxclitc . : in us eal Peo, 7 : a, in quantity an from its use without reducing the availability o¢., 0! ie, within a society ae », intended function. os ie, i s we Can 4 a third: :, To these two basic characteristics we can ac c vasa, i y re public good for all mea, ral, ee eh pea sn nuclear defence we: an it, that it cannot be rejected by people; e.g.,ana - ‘en, or a major flood defence project. ae, i i iti omely difficult to prot, ay, The main problem of public goods is that it is extreme ly d i : = a Prote up ., property rights and use them a to make a profit. This is the reason th, c, private sector does not produce them. 1., . t, Role of the Government in Providing Public Good;, _, , It is widely agreed that one of the core functions of government is to supp\y, public goods that markets either fail to provide or cannot provide efficiently, Adam Smith argued that governments have three main roles, all of which, can be aptly described as the provision of public goods. The first two are to, supply a military to defend against external invasion, and to maintain an, impartial legal and judicial system. ‘The third and last duty of the sovereign, or commonwealth,’ Smith says, “is that of erecting or maintaining those public, institutions and those public works, which, although they may be in the highest, bie Seon ne a i eee se however, of such a nature, that the, ian Bete ae oo sa an or small number of individuals, eae aro: op cae > Ly any individual or small number of, : Bk 5, Ch. 1).”, , a Lee debe bi not normally provided by the private sector because, y unable to supply them fora Profit. It is up to the government, , to decide what output of i i, appropriate forsocen of public goods/funding of public goods is, , When a good do. ‘, ensure shal the eta a : a ee eeeis cand, ced an consumed in th 2, € proper amounts, , With public goods prj, whole the o 800ds private sector markets Mnay fail to supply in part or in, , ptimu : :, these gaze. are ee of public goods. The issue that arises whe", , 1s called the free-rider problem. The free ride!

Page 3 :
ey em arises ¥ Loe, Rp 4 pe jne of them IS impossible. The free rider problem says a ratic nal person, diz, atty rt contribute to the provision of a public good because he does not, “th ve ne contribute to benefit. For example, if a person does not pay his, “li i aM e still benefits from the government's provision of national defence, I] pally ie free riding on the tax payments of his fellow citizens. As also in the case, ity Ph oflignthouses: The benefit provided to the ship captain is neither excludable, Fi, not rival. SO each ship captain navigates without paying for the service, that is why private markets usually fail to provide the lighthouses that, ship captains need., | ™e, jnsuch cases, government policy can potentially remedy the market failure, Syste and raise econonuc well-being. To do this it must estimate the net social, | benefits from making public goods available., Prote, | the role of the government in provision of public goods may be summed, on ‘| ypas follows:, the, . 1 Overcoming the Free-Rider: Direct provision of a public good by the, | overnment can help to overcome the free-rider problem which leads, 00d; to market failure., a : 2, The non-rival nature of consumption provides a strong case for the, Upply government rather than the market to provide and pay for public, ient goods., which 3. Many public goods are provided more or less free at the point of use, areto and then paid for out of general taxation or another general form of, ane charge such as a licence fee., -reign, public 4. State provision may help to prevent the under-provi sion and underighes consumption of public goods so that social welfare is improved., at i 5. If the government provides public goods they may be able to do so, dus | more efficiently because of economies of scale., , Before the 1930s fiscal policy was, inf Government spending policy was, af ovhica auld that te governmen!, artisans ilie Classical libera, , , , , , , , , , , , , , , , , , , , , , , , , , , , vernment, , > and exclusion of, , ie of the CO, a ; :, m +5 when the number of beneficiaries 1s large, , , , , , , not part of the vocabulary of economists., discussed under the name sound finance, t budget should be balanced except during, | tradition viewed the government with, , Mi

Page 4 :
C Om uieey, , , , P=, , Economics , 1 (SY EY, , 146, , easier to increase, , ould make it :, rab, , as undes!, , suspicion, so any policy that w e, spending during peacetime was seen, , ists, fiscal policy, ould be be, nd Say’s Law oft, , gene ral o, , y should h, According to the classical econom: slanced ann, , budget shi ; ;, aire a, vn demand, , ossible, , range of operations and the :, firmly stuck to the doctrine of laissez f, believed that when supply creates its ov, , or involuntary unemployment is almost imp’, so the best in the, s considered to be the bes, , all budget deficits whichne, = &, led to inflation, , , , As such, the smallest budget wa, era. Further, the classicists condemned, borrowing by the government, for they ane, not; they caused reduction in the accumulation = ¥ OG coven, the resources in private hands were dep os g nie, borrowings), thus, inhibiting the rate of progress: ., , a balanced budget, in the sense tah, the government must be equal It, thus, The balanced budget principle was thys, {nance in orthodox economics,, , and even if the, capital (be, , , , , , , , , , , ur;, , , , , , The classicists firmly advocated, annual revenue and expenses of, does not provide for borrowings., recognised as a principle of sound f, , , , Principle of Sound Finance, , alanced budget, that is for the cash flow, , Sound finance, calls for a b, expenditures. E, , incoming tax receipts to match that of programme e, better, it is said, a surplus of tax receipts should be shown. Deficits are, viewed as inherent evils, and past sins of public indebtedness should be, paid off., , Such is the advice of central banks, the International Monetary Fund and, also the deficit limits set by the European Union. Moreover, this view als, receives current support from the economics profession., , Under the theory of sound finance, classicists favoured a balanced budget, criterion for the following reasons:, , (i) If the budget is unbalanced, the government has to borrow. The, oe s market borrowings cause reduction in loanable funds, available to private productive employment and investment activities, , (ii) Unbalanced budgets imply a wide extension of state functions beyond, , the capacity of the, overnme i 1, governmental action, : nt, which may invite irresponsiti, , ( i), 8, bit Unbalanced bud ets may generate inflation On account of large ,

Page 5 :
ent, , , , yy t Governm, nh, 2, 1h ty, i oe! b alanced budget is a limited budgel de igned ina rational way, a, ba, etn 7 ne, ’ : Muay, Din (" con? nic stability is secured by the adoption of a balanced budget, Nera] Aas ir a Th | w) policy: Unbalanced budgets, cause economic uncertainty and promote, rp, 8. ye citys, Prodi | instability, best “tig A series of unbalanced budgets imply an increase In the burden of public, wh 'N the wi) job Furthermore, when the public debts mature, the government will, v C a : ;, oi pe Aneg, Ass have to impose additional taxes to obtain resources for their, r . r, €ven Sita, ‘payment. Thus, additional taxation would again tend to have an, ite ¢ TF th, ty repay &, *Pita] (t ey gt adverse effect on the incentive to work and save. It would also cause, De. Si, , the accentuation of income distribution., , 1, oie id, Bve, < Us. |, F Mey i) Government borrowings cause the rate of interest in the money market to, a °eNse th ut (rise, as the demand for loanable funds rises. A rise in the rate of interest, Pe equal ate adversely affects investment activity in the private sector, Pring} : . F, x eco: le 4 | qhus, according to the principles of sound finance, a budget must be, NOmicg My palanced annually and the gap between revenue and expenditure should, m. That is, a government should tax the least and spend the, as possible., , be minimu, jeast, and it should not resort to borrowing as far, , Classical economists firmly advocated a laissez faire policy and were, the cash fl confident of the unhampered optimum operations of the free enterprise, , : 101 :, Penditures W of} economic system., , wn. Defi Ars : : :, CHcits gp, | Limitations: Sound finance is considered poor economics. Whether or not, the budget should be balanced in any one year, depends on the policy, , -dness Should} |, | goals that are to be met and on the economic setting in which the budget, , operates., neta ry Fund and ie, Atthe same time, sound economics is only part of the answer. Actual policy, , or, this view aly, isshaped by the pressure of fiscal politics., , alanced buds! Principle of Functional Finance, , ‘0 borrow. The Inthe 1920s in Europe, and the 1930s in the United States, economists,, loanable fund suchas A. C. Pigou, F. Knight, and J. M. Keynes, started questioning sound, ‘ment activiti€s finance principles as the economies of the world fell into a major depression., , , The depressed state of the economy created a vicious circle in which the, actions bey®™ expectations of continued depression kept investment spending low and, fe irrespons™ became self-fulfilling. Given sucha collapse of economic expectations, they, , favoured, at least temporarily, giving up the sound finance principles and, , using government spending to stimulate the economy., , nd, , + of large?