Public Sector Economics

Increasingly, government policies are criticized for failing to achieve their objectives. It is not always appropriate simply to call for deregulation. Often deregulation is not politically feasible. Also, the ‘invisible hand’ does not always work better than regulation as, for example, where environmental quality is concerned. In those cases regulation will be with us for some time to come. Of course, the performance of regulatory institutions should continually be evaluated. If performance is not satisfactory more efficient policies have to be designed. Positive as well as normative analysis of regulatory institutions was presented at a conference held at Berlin in July 1981. A selection of papers addressing three major topics is contained in this volume: At leaśt as long as there are public enterprises, the pricing issues discussed in Part II are of interest to policy-makers and economists. Gerald R. Faulhaber summarizes the essentials of the public enterprise pricing problem taking into account the recent literature. He points out that rate regulation has often led to substantial efficiency losses. In some cases welfare losses result from distribution policies.

The past decade has seen a substantial amount of scholarly activity in the US devoted to the economics of pricing in regulated (or public) enterprises subject to increasing returns to scale. More recently, this interest in public enterprise pricing has been actively shared by economists and policymakers in Europe, especially West Germany and Great Britain. While much of this work has been somewhat technical, it is aimed directly at the pricing issues of greatest concern to managers and regulators of public enterprises. In this paper, some of these pricing policy concerns are explored in a non-technical format, drawing upon the ‘new literature’ where appropriate. Our purpose here is not to report new research, but rather to consider those broad pricing issues that recur across different countries, different industries and different times, and what light economics can shed on such issues.

Peak-load pricing has long been advocated for the sale of electricity and other services in which periodic variations in demand are jointly supplied by a common plant of fixed capacity. Time-of-use (TOU) electricity rates have been widely used in Europe for several decades to reflect peak-load cost variations. By contrast, in the USA TOU rates began to receive serious consideration only following the 1973–74 Arab oil embargo.²

In this chapter the theory of optimal pricing is adapted and used for an empirical welfare analysis of the telecommunication tariffs in the Federal Republic of Germany. Though only rough estimates of marginal costs and demand elasticities are currently (1979) available, all empirical evidence seems to suggest that the present structure of tariffs is not optimal in any sense whatever. Prices are set above marginal costs and huge profits arise which then are used to cover deficits from postal services and as subsidies to the governmental budget. But even at the 1979 level of profits it seems possible to lower social losses considerably simply by restructuring telecommunication tariffs.

In the German institutional economic literature firms with the attribute ‘gemeinwirtschaftlich’ have played a major role over the past hundred years. The term ‘gemeinwirtschaftlich’ has no obvious English translation and no unique meaning in German (for a discussion in English see Landauer, 1976). Today there is some agreement among authors that in order to earn this attribute firms have to pursue a public interest besides benefiting their shareholders. In this chapter they are called public interest firms (PIFs). Public enterprises, humanitarian institutions like the Red Cross, non-profit hospitals or homes for the aged are quite unanimously considered as PIFs in the literature. The most discussed borderline case concerns consumer and producer cooperatives. Their status as PIFs is doubtful because they are meant to serve their members’ interest. The group most noisy about their status as PIFs are also a borderline case. They are the enterprises belonging to the German trade unions. Among others, trade unions control the largest German housing firm Neue Heimat (NH), the second largest life insurance company Volksfürsorge (VF), the sizeable Bank für Gemeinwirtschaft (BfG) and the largest consumer cooperative Coop Zentrale AG (Coop).

The theory of second best for multiproduct firms has received much attention in the literature of economics over the past twenty-five years. Both regulators and economists have recognized that departures from marginal cost pricing will be necessary when there are economies of scale if the firm is to break even in the absence of nonlinear pricing schemes and direct subsidies to the firm.

What are the welfare economic consequences of alternative methods of assigning research and development costs among technology producers and users?² We analyze this question, abstracting away from many of the institutional details which exist in a specific business environment and which may be important. Specifically, by means of a general theoretical model, we examine R&D cost assignments to a public utility and its customers which have the most favourable impact on aggregate welfare and consumer surplus.

Public choice is an economic approach to collective decision making. This means that the emergence ofcollective decisions is explained by the axioms of individuals’ self-interest and rational choice. The logic of the market behaviour is thus extended to the behaviour in politics. In this paper it is shown, how specific kinds of political decisions, those on the regulation of markets, can be explained by the tools of public choice.

Unit prices of publicly provided goods often differ for social reasons. Examples range from cheaper railway or local bus tickets for retired people, students or scholars, to lower basic fees for the telephones of lower income people; from different prices for 1st and 2nd class railway tickets to lower hospital or school fees for lower income people.

In the decade of the 1970s, the United States Government vigorously pursued a policy to reduce substantially the pollution of the nation’s air and water. Beginning with the Clean Air Act in 1963, a series of laws were passed which expanded the role of the federal government in setting and enforcing environmental policy goals, set substantially more ambitious goals in terms of the purity of air and water, and increased dramatically the resources available for writing and enforcing pollution regulations. Although all the returns are not in and considerable disagreement about the exact figures remains, a reasonable estimate of the cost of environmental regulation is in the range of thirty to fifty billion dollars annually. In some industries, such as chemicals, electric power generation and mining, the cost of compliance with environmental regulation accounts for as much as ten per cent of investment expenditures, and five per cent of annual sales.²