Tuesday, December 12, 2017

Public Finance In A Nutshell

Here's a reply I just posted on Medium...

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“This sounds like you’ve read a lot of mises.org…”

Evidently you haven’t read mises.org or James Buchanan. Which means that you haven’t studied austrian economics or public finance.

The Nobel economist Paul Samuelson was not an austrian economist. He was a very orthodox economist who studied public finance and other subjects. Here’s what he wrote in a paper that was published in 1954…

But, and this is the point sensed by Wicksell but perhaps not fully appreciated by Lindahl, now it is in the selfish interest of each person to give false signals, to pretend to have less interest in a given collective consumption activity than he really has, etc. — Paul A. Samuelson, The Pure Theory of Public Expenditure

The premise here is that the optimal supply of public goods depends on people’s true signals. The supply of defense won’t be optimal if you pretend that it is less important to you than it truly is. However, the only reason that you’d have an incentive to be dishonest is if you had the option to spend your money on private goods rather than on public goods. If this option was eliminated, then your incentive to be dishonest would also be eliminated…

Under most real-world taxing institutions, the tax price per unit at which collective goods are made available to the individual will depend, at least to some degree, on his own behavior. This element is not, however, important under the major tax institutions such as the personal income tax, the general sales tax, or the real property tax. With such structures, the individual may, by changing his private behavior, modify the tax base (and thus the tax price per unit of collective goods he utilizes), but he need not have any incentive to conceal his “true” preferences for public goods. — James M. Buchanan, The Economics of Earmarked Taxes

Imagine if Netflix gave you the opportunity to divide your subscription dollars however you wanted among all your favorite content. Would you have any incentive to be dishonest? Nope. This is simply because you wouldn’t have the option to spend your subscription dollars on things like food or clothes. Therefore, how you divided your limited dollars would accurately reflect your true preferences.

Paul Samuelson and James Buchanan were both Nobel economists. Samuelson was a liberal economist while Buchanan was a libertarian economist. Despite their ideological differences, they both agreed that the optimal supply of public goods depends on people’s true preferences for them.

Just like it would suboptimal for the private sector to supply meat if everybody was a vegetarian… it would be suboptimal for the public sector to supply war if everybody was a pacifist.

There you go, public finance in a nutshell. Any questions?

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