Role of Government, Public Policy and Public Spending

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Role of Government, Public Policy and Public
Spending

• Vito Tanzi

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Main Thesis

• The essential or fundamental role of the state is
  not to correct for market failures, but to make
  the market work as efficiently as possible. When
  the state focuses on correcting the market, it
  often prevents the market from developing.

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I. Historical Background Industrial Countries

• Laissez-Faire Period
• Adam Smith and Basic Role of State
• As a reaction to Mercantilism
• Focus on allocation and institutions
• Level of public spending before First World War

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• 2. Changing Role of State Structural Factors
• New work relationships
• and the invention of unemployment
• and the invention of retirement
• and the advent of business cycles
• Urbanization
• Limitation to tax revenue (and the
• First World War)

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• 3. Changing Role of the State Intellectual
  Factors
• Socialist ideology
• Soviet Russia Challenge from
• Wagner and redistributive role of state
• Keynes and the end of laissez-faire
• Fascism in Germany and Italy
• Impact of the Great Depression and the
• New Deal
• Democratization and role of masses
• Keynes and stabilization role
• The Keynesian Revolution

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• 4. Changing Role of State Role of Economic
  Profession
• Public goods
• Natural monopolies
• Externalities
• Merit goods
• Built-in flexibility
• Stability and size of public sector
• Cost-benefit analysis
• PPBS

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• 5. Musgraves Trilogy
• Allocation Branch (essential)
• Redistribution Branch (optional)
• Stabilization Branch (optional)

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• 6. Growth of Public Spending in last 50 years
• Level of Spending
• Welfare States
• Public Spending and its impact
• Fiscal churning
• Socio-economic indicators

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• 7. Role of State through its main instruments
• Public spending
• Tax expenditures
• Regulations
• Differences in use among countries

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II. Historical Background Developing Countries

• Lower time span since Second World War
• Impact of decolonization
• on nationalization of enterprises
• on role of state

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• 3. Structural Factors
• Low taxing capacity
• Informal economy
• Low human capital
• Weak private sector

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• 4. Early intellectual influences
• Public sector as driving force
• Harrod and Domar view and implications
• for taxation and public spending
• Focus on resource mobilization
• Allocation role of state
• As entrepreneur
• Through tax incentives
• Through import substitution
• Great use of regulations as substitute
• for spending

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• 5. Later influences
• Growing attention to equity
• Growing role of human capital
• And spending on education
• And spending on health
• Growing dependence on
• foreign assistance
• Consequence for role of public sector

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III. Role of State and Public Spending in the
Future in Industrial Countries
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After World War Two

• Market failure as a justification for
• larger government role
• Larger government role prevented the
• development of many markets
• This perpetuated the justification for
• continuation of government role

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In more recent years

• Private markets have been created or have
• developed in many areas
• Technological developments have challenged
• the notion of natural monopolies
• Globalization has opened many opportunities

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Furthermore

• Demographic changes can put pressure
• on future spending without reform
• Fiscal termites can reduce capacity
• to raise high tax levels
• Therefore
• Need to rely more on markets
• Need to make spending programs more targeted
• Future spending limits of 30-35 of GDP?

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IV. Role of State and Public Spending in the
Future Developing Countries
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• At present, enormous range in share of
  public spending to GDP
• More than 40 of GDP in Brazil only 10 in
  several other countries
• Great differences in capacity and willingness to
  tax
• Still great reliance on regulations as
  a substitute for spending
• Public spending still too focused on urban areas
• Still identification of benefits from
  spending with budgetary costs of spending
• Role of state still too broad

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In the Future

• Need to reduce range of public spending (and
  tax burden) perhaps to the 15-25 of GDP
• More efficient use of regulations
• Reduction of focus of spending to urban areas and
  middle classes
• Make sure that budget for education and health
  is not hijacked by those who deliver the services
• Focus on improving the working of the market