Public Finance, 2nd Edition

agents with perfect information would discover the pareto-superior alloca-

tions for all these problems.

The only limitation on these private exchanges would be the transactions

costs of making them, which Debreu's analysis assumed away. In some cases,

the transactions costs might exceed the potential gains from an exchange, but

to argue that transactions costs are a justiWcation for government interven-

tion under perfect information is not entirely convincing. People are unlikely

to have perfect information about each other if signiWcant transactions costs

hinder their exchanges and negotiations. The assumptions of perfect infor-

mation and insigniWcant transactions costs tend to go hand in hand. Further-

more, if transactions costs prevent private exchanges from occurring they

may also prevent government agencies from improving on the private alloca-

tions. Why should the government have an advantage in reducing transac-

tions costs over coalitions of private citizens armed with perfect information?

The only obvious role for the government under perfect information

would be distributional, to redistribute income if necessary in accordance

with society's norms regarding end-results equity. There would be no need for

any normative economic analysis relating to allocational problems, not in

public sector economics or in any other Weld of economics. Therefore, private

information may well be the ultimate justiWcation for government interven-

tion in correcting all allocational ineYciencies.

THE GOVERNMENT SECTOR IN THE UNITED STATES

Limiting the allocational functions of government to externalities, decreasing

cost production, and private information within public sector economics may

seem highly restrictive, yet nearly all the exhaustive or resource-using expend-

itures on goods and services in the United States can be justiWed in terms of

these conditions. We have already noted the justiWcation of the judicial system,

various bureaus of standards or safety, and public insurance programs on the

basis of private information. Examples of U.S. government programs justiWed

in terms of externalities include defense, the space program, and related

activities, which together comprise the overwhelming majority of exhaustive

expenditures in the national budget; education, which accounts for nearly 40%

of all state and local exhaustive expenditures; and many lesser items such as

local public safety and government-supported research and development

programs. Public services exhibiting signiWcant increasing returns-to-scale

production include many types of public transportation (which frequently

generate externalities as well), the public utilities (electricity, water, and sew-

erage), many recreational facilities (public parks and beaches), and radio,

television, and other forms of communication such as the Internet, which

may well be among the purest examples of decreasing cost services.

Table 1.1 lists the expenditures of the U.S. federal (FY2001), state

(FY1999), and local (FY1999) governments. The data underscore the view

20 THE GOVERNMENT SECTOR IN THE UNITED STATES

TABLE 1.1 Expenditures by Federal, State, and Local Governments in the

United States

Expenditures

($, billions)

Percentage of

Subcategory

Expenditures

($, billions)

Percentage

of Total

Expenditures (%)

A. Federal government (FY2001)

a

Government expenditures on

goods and services

411 22

Defense and defense-related 336

b

82

Non-defense 75 18

Domestic transfers to persons

(direct expenditures)

923 50

Social insurance and pensions

Social Security beneWts

(OASDI)

430 47

Medicare 238 26

Civilian and military

retirement

879

Unemployment Insurance 26 3

Agricultural support payments 22 2

Veterans beneWts

c

45 5

Public assistance

Food Stamps 20 2

Housing assistance 25 3

Supplemental Security

Income (SSI)

26 3

Earned Income Tax Credit

(EITC)

26 3

Net interest payments 206 11

Grants-in-aid 316 17

Payments to individuals 204 65

TANF 21 7

Medicaid 128 41

Other 112 35

Total expenditures 1856 100

B. State governments (FY1999)

d

Direct expenditures 585 66

Public welfare 182 31

Education 114 19

Highways 18 3

Health and hospitals 54 9

Other 217 37

Grants-in-aid 305 34

Total general expenditures 890 100.0

(Continues)

1. INTRODUCTION TO NORMATIVE PUBLIC SECTOR THEORY 21