Public Finance Instructor: John Hartman

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Public FinanceInstructor John Hartman

• Today An introduction to Econ 130
• Introduction to public finance
• The role of government

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First issue Crashers

• Current cap 60 students
• Possibly over 60 students enrolled, due to extra
  enrollment that occurred in early registration
• Crash list
• You must be on the department wait list to be
  considered for this class if you are not
  registered
• I will hand out a crash list for you to fill out
  also
• No add codes distributed until next week
• Enrolled students get priority for seating
• Later option for Econ 130
• This class is scheduled to be offered in the fall

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Before we begin

• Remember that this is a small class ? Ask
  questions if things are not clear
• The syllabus is posted online ? See
  http//econ.ucsb.edu/hartman/
• For most of you, attendance is important if you
  want to get a good grade
• If reading this size font is difficult, I urge
  you to sit near the front

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Before we begin

• I expect you to know the following tools
• Calculus
• Derivatives, integrals, partial derivatives
• Microeconomics
• Econ 1, Econ 100A or 104A, Econ 100B or 104B
• Macroeconomics (although not as important for
  public finance)
• Econ 2, Econ 101 or 105
• If you are lacking on any of these skills, please
  make sure you are comfortable with these skills
  by next week

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Structure of learning

• Read first
• Lectures problem solving in class
• Do more problems on your own
• Prepare for test
• Some time in class to review
• Come to office hours if needed
• Additional office hours will likely be offered
  close to tests

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Textbook for this class

• Rosen/Gayer
• Public Finance, 8th edition
• Published by McGraw-Hill/Irwin

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Reading the textbook

• Main text and appendix is 560 pages
• Too much for a 30-hour class
• Look at syllabus for reading assignments
• Maximum of 50 pages per week
• Less than 300 pages overall

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Office hours and review sessions

• Office NH 2028
• Office hours
• Mondays 1045-1145 am
• Wednesdays 945-1045 am
• Additional office hours before test will be in a
  larger classroom if demand warrants it

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Tests

• Three tests, as of now scheduled for
• Monday, April 27 (in lecture) 65 minutes
• Wednesday, May 20 (in lecture) 65 minutes
• Monday, June 8 (final, 4-630 pm) 140 minutes
• Some problems on tests will be similar to what we
  cover in practice problems
• Some questions will require you to learn material
  and think your way through

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Extra credit

• To encourage dialogue and discussion in class,
  each student that makes at least one intelligent
  question or comment during the quarter in lecture
  will receive one percentage point added to her or
  his final grade
• In order to receive your extra credit, you will
  need to include your name when you state your
  question or comment

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Lecture slides

• I will post a subset of lecture slides on-line
• Usually posted 2 days to a week before lecture
• Tables and figures from your textbook will often
  not be posted
• On-line slides are not meant to be a replacement
  to lecture

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Grading

• If you do not miss a test
• Two best tests count 40 each
• Lowest test counts 20
• Exception If your best test is the final, the
  final will count 60 and the other two tests
  count 20 each
• If you do miss a test, check the syllabus for
  details

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Grading

• I try to write tests so that the average score is
  between 65-75
• In other words, dont worry if everything is not
  correct
• Typical upper division Econ field class curve
• 20-25 A, A, or A-
• 30-35 B, B, or B-
• 35-40 C, C, or C-
• Remaining students D, D, D-, or F
• However, I will reward the class if you score
  well as a group

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More on this class

• Early on, I will lecture the entire time
• Later on many lectures will be about 50-60
  minutes, followed by problem solving
• Most lectures will be devoted to a single topic
• Some topics will require more than one lecture
• A few lectures will cover multiple topics

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Problems

• Problems have been posted on the class website
  for you to practice on
• I will also do some problems at the end of many
  lectures
• As we get closer to each test, I will devote some
  time to solving problems on the class website

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Today

• An introduction to Econ 130
• What will we cover over the next 10 weeks?
• Introduction to public finance
• The role of government
• Organic and mechanistic views of government
• Size of government
• Tiebouts model

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An introduction to Econ 130

• This class covers four units, each with two to
  five lectures
• Unit 1 Introduction and Microeconomic tools
• Unit 2 Public goods, externalities, and
  government
• Unit 3 Health care and income redistribution
• Unit 4 An introduction to taxation

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Unit 1 (begins today)

• Introduction and Microeconomic tools
• Chapter 1 Introduction to public finance and
  government
• Most of Chapter 2 Empirical tools
• Part of Chapter 3 Economic theory tools
• Most of Chapter 8 Cost-benefit tools
• Part of Chapter 22 The Tiebout model

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Unit 2

• Public goods, externalities, and government
• Chapter 4 Public goods
• Chapter 5 Externalities
• Chapter 6 Government and political economy
• Chapter 7 the end of Chapter 8 Government
  spending on education

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Unit 3

• Health care and income redistribution
• Chapter 9 Problems of insurance in the health
  care market
• Chapter 10 Governments role in health care
• Most of Chapter 11 The structure of Social
  Security stresses caused by the baby boom
  generation
• Most of Chapter 12 Conceptual issues of income
  redistribution
• Most of Chapter 13 Programs for the poor

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Unit 4

• Primary and secondary effects of taxes
• Most of Chapter 14 Taxation and partial
  equilibrium
• Part of Chapter 15 Excess burden
• Other taxation topics from Chapters 17 and 18
• Basic structure of the United States personal
  income tax
• Rate structure of the United States personal
  income tax
• Marriage neutrality of taxes

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Before moving on

• If you think that you are weak on your
  Microeconomics skills, you should read the
  Appendix at the end of the book or look at an
  intermediate Microeconomics textbook

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Introduction to public finance

• This class is meant to cover public finance to
  students that have no direct background in the
  topic
• Some knowledge on public goods and externalities
  is useful, but not required
• Three topics will be covered today
• What is studied in a public finance class?
• What kinds of views do people have about public
  finance?
• Tiebouts model
• Government will be addressed more in later
  lectures
• Size of government will be covered in the next
  lecture
• Growth of government will be covered in week 4

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Public finance

• Public finance, as defined by R/G (p. 2)
• The field of economics that analyzes government
  taxation and spending policies
• Public finance, as described by Former Czech
  Prime Minister Vaclav Klaus (From R/G, p. 2)
• Public finance is nothing else than a
  sophisticated discussion of the relationship
  between the individual and the state

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Public finance

• We will study topics in which many argue that
  government intervention is justified
• Public goods and markets with externalities
• Subsidized education
• Health care, Social Security, and income
  redistribution

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Public _____

• There are at least two other terms that mean the
  same thing as public finance
• Public sector economics
• Public economics
• Although I may use the three terms
  interchangeably to mean the same thing, I will
  usually use the term public finance

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What views do people have?

• Different people have different views about
  public finance
• Organic view of government
• Mechanistic view of government

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Organic view of government

• Government treats an entire society as a natural
  organism
• Each individual is part of the organism
• The government is the heart
• Although individual goals differ, some goals are
  naturally needed for the societal organism

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Mechanistic view of government

• Government is needed for individuals to pursue
  their individual goals
• Invisible hand (Adam Smith)
• Efficient markets under certain sets of
  conditions
• Property rights and lack of violence needed to
  have efficient markets
• How much government beyond this is debatable
• Libertarian Small government
• Social democrats Larger government needed

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What this class does

• Some analysis is done on a society-wide scale
• Social costs and benefits
• Cost-benefit analysis on a nationwide scale
• Other topics talk about individual analysis
• Voting theory
• Individual income taxes

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Determining what is good

• What is good to one person may be viewed as bad
  as others
• Lets do an activity to illustrate this
• Everyone starts by standing up
• I will show a statement
• Stay standing if you agree with the statement
• Sit down if you disagree with the statement
• There is no right answer to any question
• Time to stand up

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Statement 1

• I believe that reckless driving should be stopped
  through government actions (such as the use of
  police)
• Remember Stay standing if you agree, sit down
  if you disagree

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Statement 2

• I think that government should build and maintain
  roads and highways

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Statement 3

• I believe that each baby needs to be securely
  buckled into a car seat while riding in a car, to
  be enforced by the government

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Statement 4

• I believe that each person in a moving car needs
  a seat belt on, to be enforced by the government

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Statement 5

• I believe each driver needs liability insurance,
  to be enforced by the government

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Statement 6

• I believe the government has a right to regulate
  when each person can use the roads, and the route
  they take, in order to control traffic patterns

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Statement 7

• I believe that the government has a right to
  prevent pilots of commercial aircraft from using
  a cell phone while actively flying

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Statement 8

• I believe that the government has a right to
  prevent train drivers from sending text messages
  while driving the train

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Statement 9

• I believe that the government has a right to
  prevent car drivers from sending text messages
  while driving the train

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Statement 10

• I believe that the government has a right to
  prevent car drivers from making calls on a cell
  phone while driving

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Statement 11

• I believe that the government should charge a 70
  tax rate on all income I earn in my lifetime

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Does everyone agree?

• No
• Different people have different opinions about
  what the government should do
• Experts often disagree about what government
  should do
• We will often assume that the experts in other
  disciplines have gotten costs and benefits right

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What other reasons should there be govt?

• Many communities form in order to provide a wide
  array of benefits to the community members
• Sometimes these communities are in the form of
  private clubs
• Other communities incorporate into cities
• Charles Tiebout, in 1956 published a paper
  arguing that people shop for the city to meet
  their tastes for city-offered amenities

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The Tiebout model

• People rarely leave the US due to government
  policy
• Mobility in the US due to government policy is
  substantial
• Tiebout makes many assumptions in his model
• Not a perfect description of the real world
• Gives a good idea of how people decide what
  community to live in

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Tiebouts assumptions

• Government activities generate no externalities
• Individuals are completely mobile
• People have perfect information with respect to
  each communitys public services and taxes
• There are enough different communities so that
  each individual can find one with public services
  meeting her demands
• The cost per unit of public services is constant
  so that if the quantity of public services
  doubles, the total cost also doubles
• Public services are financed by a proportional
  property tax
• Communities can enact exclusionary zoning
  lawsstatutes that prohibit certain uses of land

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Advantages with the Tiebout model

• Tailoring outputs to local taxes
• Each person or family lives in a community they
  like
• One size does not fit all
• Tastes and preferences differ from person to
  person
• Fostering intergovernmental competition
• People in government generally want people to
  live in their community

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Advantages with the Tiebout model

• Experimentation and innovation in locally
  provided goods and services
• States and cities can try new programs
• These studies often result in statistical studies
  by economists
• The analyzed results lead to good information for
  governments throughout the nation

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Main disadvantage of the Tiebout model

• Not an exact description of the real world
• Moving costs
• No one city is a perfect match for someones most
  desired preference
• Some parents send their kids to private school,
  despite the availability of public schools

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Other issues with the Tiebout model

• Externalities
• Both negative and positive
• Many public goods are not at the local level
• Scale economies in provision of public goods
• Per-person cost often decreases as the number of
  users increases
• Inefficient tax systems
• Different states and cities often compete to get
  large businesses to locate in their area
• Scale economies in tax collection

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Summary Introduction to public finance

• Many topics studied in public finance
• Topics related to government intervention
• Tax-related topics
• Different viewpoints about government
• Organic view
• Society is an organism
• Mechanistic view
• Government used to reach individual goals
• Tiebout model Find a community that is a good
  fit for the amenities that you want

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The rest of this week

• For Wednesday
• Read the syllabus, Chapter 1, and pages 17-28 and
  508-514
• Wednesdays lecture
• Expected value
• Marginal analysis
• Empirical tools in microeconomics

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Some ground rules at the end of lecture

• I will always try to be done by 315 pm
• In return, I expect your attention until the
  final slide
• If you must leave early
• Please do so no later than 305 pm
• Sit near an exit
• Leave quickly and quietly

Example of final slide
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Some ground rules at the end of lecture

• After many of the lectures
• Problem solving
• Your questions (especially near test time)
• Review of old test questions
• You are welcome to leave after lecture is
  finished if I do problems
• Please do so quickly and quietly

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With the remaining time today

• Issues with crashers
• Any administrative issues
• Other questions

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Have a good day