INTRODUCTION TO PUBLIC FINANCE Nature of public finance Public finance is the study of how the government collects and spends revenue and real resources. It’s the field of economics concerned with how the government raises money, how that money is spent, and the effects of these activities on the economy and on the society. Public finance studies how the governments at all levels- national, state and local provide the public with desired services and how they secure the financial resources to pay for these services. Why public finance? The importance of public finance could be view from the following angle. 1. Taxation: The consumption of cigarette, alcohol and other commodities that fall within that general category need to be discouraged. The governments often levy taxes to discourage the consumption of these harmful commodities. 2. Protection of Infant Industries: If the infant and newly started firm or industries in developing nations are allowed to struggle with foreign firms especially from those technologically advanced countries, they may not survive due to many reason and factors. These industries need protection and government often levies duties in order to protect them. 3. Provision Public Goods: Governments provide public good, the governmentfinanced items and services such as roads, military forces, lighthouses, and streetlights. Private Citizens even the wealthy ones would not voluntarily pay for these services, and therefore businesses have no incentive to produce them. 4. Side Effects of a Market Economy: Public finance also enables governments to correct or offset undesirable side effects of a market economy. These side effects are called spillovers or externalities. Example: households and industries may generate pollution and release it into the environment without considering the adverse effect pollution has on others. Pollution is a spillover because it affects people who are not responsible for it. To correct a spillover,
governments can encourage or restrict certain activities. For example, governments can sponsor recycling programs to encourage less pollution, pass laws that restrict pollution, or impose charges or taxes on activities that cause pollution. 5. Redistribute of Income and equity: Governments redistribute income by collecting taxes from their wealthier citizens to provide resources for their needy ones, and in this way the government reduces the inequality of income and wealth within the economy. When government impose progressive taxes on the richer members of the society and provides various facilities such as subsided food, housing, free medical aid and education to the less privilege members of the society, that is what is called equity. 6. Subsidies and grants: In modern times, subsidies and grants are inevitable for producing essential goods and services meant for the masses. It has a prominent place in the governmental expenditure of developing countries. 7. Optimum utilization of resources: The natural resources in developing countries are underutilized. The proper utilization of natural resources is imperative not only for the present generation, but also for the unborn generations. The state can direct the flow of production, consumption and distribution in the economy by framing a suitable budget policy. 8. Economic planning: Government usually have rolling plans for more than a year, a times the implementation of say five year plan tends to require a huge fund. Thus, government needs to combine resources, taxation and public borrowing effectively. 9. Providing employment opportunities: The government has to spend huge amount of public expenditure to provide the purchasing power to the general masses and reduce the problem of unemployment in the economy. 10. Market Failures: These are the market inadequacies or private sector of the economy fails to address and fail to satisfy all the needs of the society. Often market fails in providing the society’s desired set of goods and services and the distribution of income and poverty. It also fails in achieving stability in employment and prices.
Division of public finance Public finance is divided into four dominions namely; 1. 2. 3. 4.
Government revenue Government expenditure National budget Public debt
Private sector and public sector The private sector is the one in which all production and consumption is in private hands. It is composed of millions of separate households and firms, each making choices that affects both the individual and society welfare. The public sector on the other hand refers to all production and consumption in the public hands. It provides public goods and services to the society. The public sector differs from private sector in the following aspects 1. Government exists as a mechanism for making collective choices 2. Government choices are generally made by a small group of representative or government employees 3. Government choices are made for the collective interests of the society Composition of public sector Public sector includes all production and consumption of goods and services such as public schools, libraries, national parks, public playgrounds, bridges and roads by the government and all government operated institutions. Public sector includes 1. Central government authorities 2. Local authorities 3. Parastatal organizations Economic functions of the government There are three major economic functions of the government, and they include; 1. Allocation function
2. Distribution function 3. Stabilization function 1. Allocation Function This function concerns the role of the government in ensuring the efficient allocation of public resources. It should be noted that the government has to provide for public goods, and public goods such as national defense, street lights, public parks, law enforcement and so on are different from private goods (remember the attributes of non-rivalry and non-excludability); and since such goods cannot be provided through market mechanism but are essential for consumers the government has therefore to provide for them, and since the government has to provide for the state should ensure efficient allocation of resources between private goods and public goods. 2. Distribution Function Distribution function of the government concerns the role of the government in ensuring social welfare and equity. This is achieved through tax and expenditure policy of which the government affects distribution of personal income in a manner which is just and fair. As such it taxes the rich and spends for the schemes which benefit more the poor. 3. Stabilization Function Stabilization function of the government concerns the role of the government in designing and implementing macroeconomics policies. Economy of a country is affected by economic fluctuations such as conditions of boom and depression, inflation and deflations, unemployment level and so on. Such changes benefit some and harm others. In such a situation appropriate policy measures are required by the government to affect the levels of aggregate demand. Such measures are called stabilization measures. These measures aim at avoiding such situations. General functions of the government The government performs the following functions which necessitates it to have fund 1. Administrative functions
This is the day to day running of the government through the established structures in the civil services 2. Protection functions In which the governments needs funds to maintain peace and security 3. Social functions In this function the government needs funds to provide social services such as education, water services and health facilities 4. Development functions In this function the government needs funds to finance various development projects such as roads, railways, research, irrigation and electricity. Objectives of the government Objectives of any government are to achieve the following; 1. To create full employment In this function the government makes sure that all resources including human and non-human resources are fully employed 2. Control inflation Inflation has adverse effects on the economy; therefore it’s the responsibility of the government to put it under control 3. To achieve economic growth Any government must ensure that the economy grows at the desired rat 4. To raise living standard Any government must ensure that the standard of living of its citizens are improved 5. To have a balanced of payment A government ensures that its balance of payment is neither in deficit nor in surpluses because both have negative effects to the economy
6. To achieve social and political stability Any government must ensure that law and order are maintained in a country
