Chapter 4

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Chapter 4 The Public Sector

• The U.S. Economy Private and Public Sectors

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Can The Market Fail?

• What does that mean?

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Production?

• When producing a product or service whether the
  government or the market. Best mix of output
  required.
• What are the factors that make up production?
• Optimal mix of output (inputs to outputs)
• What directs resources from one product or
  industry to another ????
• Prices

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When the market fails it is a double edge sword

• Market Fails if not optimal mix.
• Optimal Mix of Output Most desirable
  combination of output attainable with existing
  resources, technology and social values.
• Market Failure
• An imperfection in the market mechanism that
  prevents optimal outcomes.

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Output decision- wrong point on PPC

• When market fails- government tends to step in
• Example Banks fail (govt bails out)
• Pollution (govt regulates
  externalities)
• No city parks (govt incentivizes
• builders to include in
  development)
• Microsoft has monopoly (govt steps in

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The Public SectorGovernments role.

• Questions to ponder
• What is Public Sector?
• When do markets fail?
• Should government step in? (Too Big to Fail?)

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In real words?Overproducing a good with external
costsUnderproducing a good that has external
benefits.

• Not enough public parksU
• Not enough care for environmentU
• Not enough welfareO
• Too much separation between top 10 income
  earners and median income earnersO
• Not adequate security within our borders.U
• Too many immigrants.?

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Market FailureIs this evident in todays market?

• market moves resources from one industry to
  another. (price directs resources) (demand
  responds) (price moves the resources then to
  another demand choice) (at this point
  (competition begins to prevail to level the
  prices)
• Changes in market prices directs resources
• Question. Is this movement of resources what
  society really desires? Forcing small cars and
  aluminum trucksIf society does not want this
  market reallocation should government intercede?

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• Market failure (forces of S D not leading us
  to BEST point on ppc Who decides what is defined
  as BEST?
• Enter. Government intervention!
• Will they perform magic? OR Will it be in worse
  shape?

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How do you know if optimal mix is met?

• Optimal mix of ANY GOOD or SERVICE
• MB MC
• (Marginal benefit Marginal Cost)
• If cost gt than benefit the failure occurs.
• If benefit gt than cost, then market is
  functioning according to other factors (price,
  demand, etc.)
• Does this apply to our war against terror?

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Government Can Enter the Market to correct when
market fails

• Question.
• Does government improve the mix or make it
• More complicated
• Less efficient
• More costly (now to taxpayers)

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• Governments Enter the Market to assure
• 1. Public Goods
• 2. Externalities (positive or elimination of
  negative)
• 3. Market power
• 4. Equity

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Property Rights must be fully defined in a
competitive market to yield correct signals of
market failure or success..or externalities are
created.

• (that means stuff will be manufactured
  depleting the environmental commodities (air,
  water, minerals, etc) because of the profit
  motive While
• stuff will not be produced (parks, flower
  gardens, etc) because of costs imposed with no
  direct benefit for those doing the production..
  Hence, inefficiency of a market system.

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Translation

• If government and/or the consumer was not acting
  as a watchdog. Would corporations be diligent
  about utilizing the proper mix of resourcesIf
  they are, can they compete?
• Does that always mean regulation increased?
• Could it mean that consumer sovereignty switches
  to another desire BUT what about things like
  energy would we really know if the provider was
  efficient?

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What is the tragedy of the commons?

• Lake Michigan who owns it?
• No, resources owned in common
• Do we maintain our houses.. Own property?
• If we improve our property (paint, build-on) do
  we most often recoup when we sell?
• No incentive for us to not pollute Lake Michigan.
• Hence, natural resources are overused and
  degraded(fish die, balance of nature upset)

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Continued Concept of Common Assets

• Resources, rivers, lakes, oceans, air all fall
  into them absorbing pollution.
• If manufacturers can dump wastes or discharge
  smoke without cost they will do so.
• Manufacturers will choose the least-cost
  combination of inputs and bear only unavoidable
  costs.
• Many individuals avoid trash service if they can
  burn or dump their garbage.

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• No incentive for manufacturer to absorb internal
  costs for being good citizen
• Remember the tomato canning factory example
• Fallacy of composition applies here persons and
  firms reason their amount of environmental
  destruction is not significant in the total

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Creating a Market for External Rights

• Government creates a market for externality
  rights.
• Pollution control agency determines amount of
  pollutants permitted without upsetting balance of
  nature (in case of water quality is maintained).
• If say Lake Monroe can tolerate 500 tons of
  pollutants then this is the amount permitted.
• This is fixed amount.

S
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• Demand for these rights is downsloping as for any
  other input
• Higher prices fewer rights purchased.. The
  manufacturer can either stop pollution, reduce
  pollution, or purchase from another manufacturer.
  
• Higher demand (more firms bidding, higher the
  price)
• EPA set standards and market bids on rights

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Do You Remember?

• Collin County was reprimanded by EPA for
  polluting too heavily.
• You saw businesses crop up for State
  Inspections.. Franchised to catch polluters
  (cars, emission controls, etc)

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Two concepts to remember

• Public goods can be equally consumed by all no
  restrictions
• Skateboarding in the park Terrorists can also
  go to the park Illegal immigrants can go to
  school Merit Goods.
• Private goods consumption by one person excludes
  consumption by another..
• ( my doughnut my car etc)

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Four Broad Categories of Public Goods

• Health and Hospitals
• Indigent have to be treated
• County medical centers
• Sometimes charged on ability to pay
• Highways
• State and federal government share the cost
• Education
• State, Local and Federal government provide
• National Defense
• National government provides 5 branches of armed
  services
• Fed pays the entire cost!

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• Public Goods provided jointly to all would also
  include such things as
• national defense
• monetary system
• judicial system

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• Opportunity cost if government provides health
  care, private sector cannot compete. Government
  crowds out the private .
• Remember, the largest opportunity cost of an
  item supplied by government is the best
  alternative use that could have been made of the
  resources required to provide that good.

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• If government becomes too restrictive Black
  Markets crop up.
• examples cigarettes, drugs, bootleggers, diet
  supplements, prescription drugs, etc.
• Government can and does play an important role in
  markets
• Rule-maker
• Umpire
• What does that mean?

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• U.S. Concept of Freedom for All
• Joint consumption.
• We all consume federal defense. (If hit by a
  terrorist attack in FL the entire U.S. is
  protected. (even non-citizens even those who
  attack us.) Why? They are free riders.
• People who pay most taxes actually contribute
  more for these services that we all enjoy. Many
  of us ride free.

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2nd Area where Government Enters the Market -
EXTERNALITIES

• What are externalities? costs or benefits of a
  market activity borne by a third party.
• Spilloversan action when one individual or group
  harms the property of others without their
  consent.
• Throwing trash in someones back yard
• Burning ties in the alley
• Playing your stereo loudly at 300 a.m.
• Businesses dumping wastes, sludge into rivers
• People trashing the beach or highway.
• Electric Companies burning phosphorous fuels

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Spillover Examples that perpetrate on others

• Calling police when loud party of teenagers next
  door (actions of teens imposing unwanted cost on
  neighbor)
• Living in downstairs apartment.. Having upstairs
  neighbors doing Tai Bo when they get off work at
  400 a.m.
• Calling the city when a neighbor doesnt keep his
  yard mowed on regular basis.

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Externalities can be positive or negative

• Homeowners keep lawns immaculate (benefits the
  neighborhood)
• Scientific study for polio vaccine (others
  benefit beyond scientists recognition)
• Measles Vaccinations.
• Education. How would this be a benefit?

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How can spillovers be corrected?

• Most obvious way is Legislation.
• To prohibit
• To heavily tax the specific product and
  manufacturer. Tax would be derived to allow for
  off-setting the clean-up cost. (Super Fund is
  example)
• Subsidize both consumers or producers
• Tax incentives if reduction of pollution and
  compliance adhered to, taxes reduced.

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There are actually quasi corporations AND quasi
public goods?

• Quasi-Public Goods.,,
• Any g s that is provided by private sector,but
  is not provided in quantities demanded.
  Government can assist in this allocation of
  resources.
• (Parks, Zoos, Educational Institutions)

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3rd Area where Governments enter the market to
assure accessibility to market power

• Regulating Economic Activities
• Ensuring competition- Sherman 1890, Clayton
  1914Antitrust regulation- (FTC)(Microsoft)
• Drug Industries (FDA)Congress is investigating at
  this time -(drugs in Canada)
• Regulating working conditions. (EEOC, OSHA)
• Public utilities (legal monopolies (some states)
• Controlling social costs (diseconomies of scale.
• Cost of ruining seashore by off-shore drilling.)
• Securities Industry (SEC) (accounting fraud, etc)

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4th Area addressed by government is Equity or
perhaps better stated as Inequity.(ensuring
market economy)

• 1)Inadequate income (redistribute to have-nots)
• 2) Merit goods (everyone entitled to some minimum
  of food,clothing, shelter) In-kind transfers in
  food stamps, housing vouchers, health clinics)
• 3)Social Security and unemployment compensation
  protect peoples economic security by providing
  money when they retire or are unable to work.

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• SOURCES OF GOVERNMENT INCOME
• TAXES
• Why must government tax?
• What is a fair tax?
• Who should pay?

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• The primary function of taxes is to transfer
  command over resources (purchasing power) from
  the private sector to the public sector.

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Income Taxes

• The Sixteenth Amendment to the U.S. Constitution
  (1915) granted the federal government authority
  to collect income taxes.
• It is now the largest single source of government
  revenue.

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What Determines a Fair Tax?

• Very few people think a fair tax? of taxes as
  payment for certain services rendered.
• When we purchase a new coat, we have chosen an
  item in the market systempay for it use it.
• We dont think of that when we call the fire
  department or the police departmenteven if we
  are delinquent on our taxes, they still show up.
• What if the fire department or police left a
  bill? Ambulance services do. Should they?
• How should taxes be assessed?---benefits
  received----ability to pay!

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• Benefits Received
• Tax the user- gas tax for drivers- fishing
  license-ramp fees for boats- toll roads-bus and
  train tickets-
• Pay the government for benefits received- cant
  pay for welfare received!

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Ability to Pay

• Should wealthy pay more regardless of benefits
  received?
• Should income and family size be assessed?
• Determining fairest principle for a just tax is
  matter of values rather than economics and is
  determined by our political process.
• Executive Budget for 2015 wants anyone 665,00 up
  to pay more.

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Other Factors in Evaluating Taxes

• Total Revenue yielded
• Effect on Production (destroy incentive?)
• Bracket Creep (AMT)
• Moral consequences (sin taxes)
• Reflection of values shown in taxes imposed
• Convenience (withholding, quarterly, penalties)
• Shifting the burden (seller to consumer)
• Ability to pay (relation of tax base to tax rate)
• Tax rate percentage that is taxed
• Tax base subject on which the tax is levied.

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• Types of Taxes
• Progressive tax rate increases as the tax base
  increases
• Proportional tax rate remains the same
  regardless of the base
• Regressive tax rate decreases as the base
  increases. (often cited as unfair because it
  places heaviest burden on the least able to pay
  ---sales tax--- social security tax.)

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Federal Government Tax System

• Federal government gets most of its revenue from
  individual and corporate income taxes.
• Next largest amount from Social Security tax
• Very small portion of revenue from estate and
  gift taxes.
• Larger share from excise taxes (gasoline,
  jewelry, alcohol, cigarettes, motor vehicles,
  admission to entertainment events,tires)
• Small portion from tariffs.

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Where Does All the Money Go? In 2013, the major
entitlement programs - Social Security, Medicare,
Medicaid, and other health care consumed 49
percent of all federal spending. These programs,
and interest on the debt, are on track to consume
an even greater share of spending in future
years, while the portion of federal spending
dedicated to other national priorities will
decline. SHARE OF FEDERAL SPENDING IN 2013
                                                  
                                                  
                                                  
                                   
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Consumption Tax

• Greenspan said 3/3/05 taxing consumption instead
  of income would help promote economic growth,
  But warned that a switch raises a challenging
  set of transitional issues.
• What is a consumption tax?
• Where is it levied?
• Who would this hurt the most?

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Types of Taxes We Pay

• PERSONAL INCOME TAX
• Progressive with marginal tax rates
• Marginal tax rates those assessed on
  additional income ranging from 10 to 35
• Individuals may deduct
• Interest on Home mortgages and Property Taxes
• Interest on State and local bonds

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Sales Tax

• At first glance sales tax would appear to be
  proportional. Why is it not?
• Sales Tax is regressive?
• Larger portion of a low-income persons income is
  exposed to the tax than is a person with higher
  income.
• Rich pay no tax on the part of their income that
  is saved when they can shelter it poor are
  unable to save.
• It is a of income that allows it to become
  regressive

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Note in Tax Law effective 2005

• Now in Texas. We can deduct from our gross
  income the amount of sales tax that we paid in
  the tax year reporting. Was renewed for 2014,
  2015 still not sure.
• Can keep all receipts and add up or use the IRS
  tax table.

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Payroll Taxes

• MEDICARE AND SOCIAL SECURITY
• Regressive
• Medicare Tax. 1.45 on all wage income
• Average payroll tax falls (percentage wise) as
  income rises.

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• HISTORY OF SOCIAL SECURITY
• Began in 1937 as OASDHI
• Program of compulsory savings financed from
  compulsory payroll taxes levied on employees and
  employers.
• Social Security is a regressive tax

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History of OASDHI Contributions

• 1937-50 -3,000 1990 - 51,300 2001 -
  80,400
• 1951-54 - 3,600 1991 - 53,400 2002 -
  84,900
• 1955-58 - 4,200 1992 - 55,500 2003 -
  87,000
• 1959-65 - 4,800 1993 - 57,600 2004 -
  87,900
• 2005 - 90,000 2006 -
  94,200 2007 - 97,500
• 1972 - 9,000
• 1974 - 13,2000 1994 - 60,600 1 1995 -
  61,200
• 1976 - 15,300 1996 - 62,700
• - 25,900 1997 - 65,400
• 1985 - 39,600 1998 - 68,400
• 1999 - 72,600
• 2000 - 76,200
• Since 1981- amounts determined under automatic
  adjustment provisions of the SS Act

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Social Security Wage Base 2015118,500

• The wage base is increased every January as long
  as the fund is deficient which is probably
  forever now because
• People live longer, retire earlier, more drawing
  on fund (disabled, single parents, etc.)
• Ratio of retirees/workers was significantly
  reduced by year 2010.
• Eighteen year olds in 2002 will pay over a
  million and a half dollars into SS. Benefits
  received????
• SS payroll tax today is 7.65 (FICA 6.2 SS
  l.45 Medicare) 6.2 of your wages are withheld.
  Your employer matches that amount for the
  required contribution to the SS Fund up to the
  wage base amount for that year.

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Social Security Continued

• The employer also matches the Medicare
  contribution of 1.45 of your monthly earnings
  and there is no ceiling on this amount. Hence,
  this is a continual tax deduction from your
  earnings.
• if self-employed 15.3 (12.4 SS 2.9 Medicare)
  Wage base applies to SS but no limits on
  Medicare.
• As a self-employed person, you get to take a
  special deduction from your income when it comes
  time to pay your federal income tax.(l/2 of SS
  paid goes under deduction for adjusted gross
  income)

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Economics of Transfer Payments

• Redistribution through public sector will reduce
  the size of the economic pie
• Weakens the link between productive activity and
  reward (taxes increased reduce individual reward
  for hard work-less productive.
• As public policy redistributes large share of
  income,more resources flow into increasing it

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Economics of Transfer

• Higher taxes to finance redistribution will
  induce taxpayers to focus less on income
  producing activities and more on income shelters
  higher incomes have greater opportunity here
• When leakages flow in taxes rather than in
  savings (money is unproductive)
• Money that is productive generates more capital
• More capital generates more jobs.
• More jobs generates more income.

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Merit Goods

• The government is called upon to distribute merit
  goods when the market does not provide enough.
• A merit good is a good or service society deems
  everyone is entitled to some minimal quantity .
  Public goods have two particular characteristics.
  They are
• Non-excludable - once the goods are provided, it
  is not possible to exclude people from using them
  even if they haven't paid. This allows
  'free-riders' to consume the good without paying.
  
• Non-rival - this means that consumption of the
  goods by one person does not diminish the amount
  available for the next

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• Taxes paid today go to pay benefits for people
  drawing today.
• Do you think there is a special fund where the
  SS dollars go???

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Continued SS Funding

• Today 3 workers for every person drawing.
  (extra money in fund invested in U.S. Treasury
  bonds)
• Number of retirees is increasing and number of
  workers/retiree is decreasing. In 30 years 2
  workers for every person drawing.
• By 2016 - U.S. paying out more in retirement
  benefits than collecting
• By 2038- the fund is projected to be empty
  (spring,2004, released data that said 2052)
• Re-design of system is imperative.

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More Grim Statistics Concerning SS

• 70 of SS goes to retirees - avg monthly benefit
  of 898.20
• 15 to disabled workers and families
• May, 2003- avg benefit for disabled workers was
  837.70
• 15 goes to widows, widowers, and families avg
  check of 850.80
• By 2030-twice as many older Americans 35 million
  to 70 million. Now there are 3.4 workers for
  every beneficiary by 2030 there will be just 2.1
  workers for each beneficiary.

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Nobody gets any if their aint none!Incredible
Bread Machine, script, 1970

• EXPLAIN

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Back to Tax Structure!

• So realizing how many poor people there are in
  the U.S
• Which of the three types of taxes would you
  prefer the federal government to use?
• Which tax for state government to use?
• Which tax for local government to use?
• How would you fund schools if you had a vote?
• How about taxing wealthy more?
• Who are wealthy?
• What is considered poor?

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POVERTY LEVEL2014 POVERTY GUIDELINES FOR THE 48
CONTIGUOUS STATESAND THE DISTRICT OF COLUMBIA
Persons in family/household Poverty guideline
For families/households with more than 8 persons, add 4,060 for each additional person. For families/households with more than 8 persons, add 4,060 for each additional person.
1 11,670
2 15,730
3 19,790
4 23,850
5 27,910
6 31,970
7 36,030
8 40,090
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MORE INTERESTING FACTS

• MEDIAN INCOMES in U.S.
• 1974 14,747 According to a separate
• 1978 20,428 report from the Census
• 1982 27,619 Bureau (last week of Sept
• 1986 34,716 2002), American
• 1990 41,451 households had taken a
• 1993 45,161 beating during last years
• 1997 53,350 recession unemployment
• 2000 62,228

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Median Continued

• ,

2002 43,381
2003 43,318
2005 46,326
2007 50,233
2008 44,389
2013 52,250
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Income Distribution in Fifths
The first fourth are figures at the upper Limit
of each 5th Figure The top 5 Is not
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Personal income is unequally distributed in U.S.
Top20 of households receive almost 50
incomeTo redistribute equally all bars on the
20
1997 1 3.6. 2 8.8 3 15.0 4 23.2 549.4
2001 1 3.5 2 8.7 3 14.6 4 23.0 5 50.2
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Income Inequality
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Why is the U.S. Economy owing billions of
dollars?If you subsidize something you get more
of it.Dr. Milton Friedman, Free to Choose

• Virtually all of the recent growth in federal
  expenditure has come from increased income
  transfers, not purchases of goods and services.

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So, it all gets back to Joe Q Citizen Taxes paid
to government.

• Question is
• What kind of an economy do we Joe Qs want?
• The primary function of taxes is to transfer
  command over resources (purchasing power) from
  the private sector to the public sector.
• Why from private to public? Why not the other
  way around?

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• Other Resources to Check
• http//www.brook.edu/
• http//www.ncpa.org
• http//www.ntu.org/
• http//www.cagw.org/site/PageServer

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State and Local Tax Sources
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• POWER CORRUPTS AND ABSOLUTE POWER CORRUPTS
  ABSOLUTELY!
• Lord Acton
• POWER TO TAX IS POWER TO DESTROY
• Chief Justice John Marshall. McCullough vs
  Maryland

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Who is best equipped to distribute resources?

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