Lecture on public finance ( abridged version)


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Lecture on public finance ( abridged version)

  1. 1. Lecture on Public Finance Econ 301B DEVS AND BDFIN THIRD YEAR started from August 14,2012Lecture IIntroduction of students and the teacherOverview of the Course What is Public Finance ? Expenditure,Revenue, Deficit which is met from Foreign aid , Borrowing ( Internaland External loan )and printing of notes. Financial System and the roleof Nepal Rastra Bank (central Bank), Monetary PolicyLecture 2Participation of students is needed and ensured. In order reinforcestudent participation, two students are asked to summarise thelecture.Example given from the students field visit : how they plan ( Programand activities) , how they budget ( budget ceiling, item wiseexpenditure ) and how they monitor(each evening presentation of thefindings and correction of activities if required ) and account keepingand paper work and evaluation ( Final presentation and assessment bythe teachers).Objective To give exposure in the field –real worldMission To give them opportunity to explore the life in the fieldVision To give them chance to interact with the government officialsand the people at the grassroot level about their work , lifestyle andsocial and economic condition.Plan consists of 1
  2. 2. a) Activities b) Budget c) Monitoring andevaluationActivities are What When How and Where, Detail action Plan is neededwhich is measurable and monitorable. Activities are translated into financial terms. How to spend and wherethe resources are collected from.Monitoring and Evaluation is to keep track of progress and enable usto correct the course of implementation, if necessary.Plan is the reflection of people’s want.Budget is the modyfing factor of the want , it means availability ofmoney and resources determine whether the plan and activities arerealistic or not. Monitoring and evaluation are the stock taking of thecapability of implementation and opportunity for the correction of thecourse of action.Relate this student experience in the field visit to the subject matter ofthe Public Finance.Lecture 3How do you allocate Rs 500,000 if you get it from your father ormother or brother or sisterSubmit Expenditure Plan . Why did you select the expenditure headand how did you allocate expenditure amount. Give justification.Public Goods vis a vis Private GoodsPrivate Goods : Exclusivity, Price, divisibility, Property Rights, profitmotive 2
  3. 3. Public Goods : Non exclusivity, Marginal cost zero, no price, benefitsjointly and equally shared. One persons partaking of benefits does notreduce the benerits available to others Air pollution control, Radio FmMountains etc.Since goods are available to all , consumers are not willing to pay. Thecost of the social goods is borne by the government.Its significance and implication in the economyPublic goods vis a vis Private goodsPublic goods 1 Benefits to which social goods give rise are not limited to one particular consumer who purchases the goods. It is jointly and equally consumed by the beneficiaries. 2. One person’s partaking of benefits does not reduce the benefits available to others > Air pollution control. One person consumes the goods, it is not possible to prevent others from consuming it.( Excludability) 3 Indivisibility Public goods can not be divided into pieces. 4There is no property rights 5 Since goods are available to all , consumers are not willing to pay. The cost of the social goods is borne by the government.Private Goods 3
  4. 4. Property rights Exclusivity ( Exclude those who cannot pay the price) Price Rivalry. Profit motiveThe Lecture is based on H L BHATIA “ Public Finance” page 2Musgrave and Musgrave Page 7Lecture 4 Discuss the Great Depression 1929-33. Role of the Government in theeconomy- Laissez Faire Vis a Vis Modern Keynesian view. Great Depression 1929-1933 Two significance of the Great Depression – Human suffering and the change in the government behavior in the field of public finance. Started in USA, Stock Market Crash on October 29, 1929 Americans lost 30 percent of the share price in a single day. Price of Stock plummeted by a huge margin International trade plunged by half to two third as did personal income, tax revenue, prices and profits Construction was virtually halted in many countries 4
  5. 5. Crop prices fell by roughly 60 percent. Primary sectors such as farming , mining, logging suffered the most/ As personal income declined, consumers cut back their expenditure Unemployment was high and there were few other jobs Protectionist policy of the USA and retaliatory tariffs in other countries exacerbated which led to the collapse of the global trade. The non-interventionist policy of the previous years was changed to active government intervention. There was increase in government expenditure( deficit financing), subsidy to the farmers, welfare expenditure.and Acts to regulate the economy It is said that “ The great depression caused government intervention ,government regulated economy , and the establishment of the welfare state. “ It gave human face to the government policy.Source of information “The Great Depression” in WickipediaFirst Five Year Plan of the USSR in 1928, which was the first attemptin the economic history of the World to coordinate the economic andbudget policies at the macro level with a view to expedite the rate ofeconomic growth.Lecture 5Theory of Public Expenditure ,Classical Economists ( Adam Smith 1776 “ The Wealth of Nations”)were of the view that least interference from the government isdesirable in the economic development of a nation. 5
  6. 6. The Laissez Faire economists had a dominant role in those days .Butthis view was jolted and was forced to revise after the Great Depressionof 1929-1933. The active role of the government was acknowledgedand recognized , so the Keynes views prevailed. When the WelfareEconomics was propounded, the state’s role as an investor, regulator,and welfare was paramount.The starting point for the expenditure theory is the failure of themarket mechanism of the laissez faire economy. H . L .BHATIA pages218-225First Theory Range of public expenditure in the context of public goodsand private goods. Production of road, bridges, hospital, schools,telecommunication, hydropower etc.Ratio of government expenditure to GDP. It is a question of size of thebudget which is determined through the principle of maximum SocialAdvantage.Second Theory. It asks the question what public expenditure wants toachieve for the members of the society. What are the objectives ? –A Critical minimum needs like law and order,justice, peaceB GrowthC Distributional justice( Equity, poverty alleviation, regionaldevelopment, gender equity)D Welfare. . Criticism : It is difficult to identify the needs of thesociety. This question is addressed through vote. 6
  7. 7. Canons of Expenditure H . L .BHATIA pages 233-235Judicious use of public funds with associated legal propriety needs tobe ensured. 1Canon of Economy .The Government uses resources directly or places at the disposal of the society. There should be no wastage, Do not spend more than what is necessary 2 Canons of Sanction No public funds should be used without proper authorization .Further that funds must be used only for the purpose for which they have been sanctioned 3 Canon of benefit Public fund should be spent only if it is beneficial to the society. It is the principle of maximum social advantage. Allocation is made in different heads of expenditure. 4 Canon of Surplus. Avoid deficit budgetingLecture 6Increasing Public Expenditure Why?Wagner’s Law of Increasing State Activities H . L .BHATIA pages 219Mushgrave and Mushgrave “ Public Finance”Adolph Wagner born in 1835 died in 1917 examined historical facts,primarily of Germany. According to him, there are inherenttendencies for the activities of different layers of a government toincrease both intensively and extensively. There is a functional 7
  8. 8. relationship between growth of the economy and the governmentactivities with the result that the government sector grows faster thanthe economy.A number of reasons can be enumerated for this inherent long-termtendency recorded in history.1.An expansion in the traditional functions of the state. Defence isincreasingly more expensive.2. State activities were increasing in coverage. Pensions, subsidy, directprovision of merit goods .3 Expand the provision of public goods. Government investment inthese activities.( road ,bridges, investment etc)Wagner’s Law was based upon historical facts. It emphasized on thelong term trend rather than short term changes in the publicexpenditure. He assumed that the economy functions smoothlywithout social disturbances.Additional factors which contribute to the tendency of increasing publicexpenditure relate to the growing role of the state. i. Growing population so make provisions for school , health facilities, drinking water ii. Increasing urbanization – traffic , roads etc. iii. The size and nature of public services necessitates an ever increasing specialization. iv. Protect the economy from the failures of the market economy 8
  9. 9. v. Public debt vi. Capital accumulation vii. Vested interests to develop which demand an increase in public expenditure for own benefit viii. Government bureaucracy has a tendency to expand.Wiseman- Peacock Hypothesis H . L .BHATIA pages 223Second thesis dealing with the growth of public expenditure was putforth by Jack Wiseman and Allan T. Peacock.,in the book “The Growthof Public Expenditure in the United Kingdom, 1890-1955”The main thesis is that public expenditure does not increase in asmooth and continuous manner, but in jerks or step like fashion. Attimes, some social or other disturbance takes place, creating a need forincreased public expenditure which the existing public revenue cannotmeet.Displacement Effect : The movement from the older level ofexpenditure and taxation to a new and higher level is the displacementeffect/Inspection effect: The inadequacy of the revenue as compared with therequired public expenditure creates an inspection effect. Need toreview the revenue position and the need to find a solution of theimportant problems that have come up and agree to the requiredadjustment to finance the expenditure. They attain a new level of taxtolerance. They are now ready to tolerate a greater burden of taxationand as a result the general level of expenditure and revenue goes up. 9
  10. 10. Thus each major disturbance leads to the government assuming alarger proportion of the total national economic activity.Concentration Effect. Above mentioned fact is also calledconcentration effect.Both of them are emphasizing the recurrence of abnormal situationswhich cause sizeable jumps in public expenditure and revenue.Madhab Ghimire 10