Public Finance

384 Pages·2008·3.807 MB·English

by  Laurence Seidman

Public Finance
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Public Finance

Laurence S . Seidman
University of Delaware
Boston Burr Ridge, IL Dubuque, IA New York San Francisco St. Louis
Bangkok Bogotá Caracas Kuala Lumpur Lisbon London Madrid Mexico City
Milan Montreal New Delhi Santiago Seoul Singapore Sydney Taipei Toronto
PUBLIC FINANCE
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ISBN 978-0-07-337574-8
MHID 0-07-337574-8
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Library of Congress Cataloging-in-Publication Data
Seidman, Laurence S.
Public finance / Laurence S. Seidman.—1st ed.
p. cm.
Includes index.
ISBN-13: 978-0-07-337574-8 (alk. paper)
ISBN-10: 0-07-337574-8 (alk. paper)
1. Finance, Public. I. Title.
HJ141.S374 2009
352.4—dc22
2008025383

www.mhhe.com
For my wife Ann, my son Jesse, and my daughter Suzanna
About the Author
Laurence S. Seidman
Laurence S. Seidman is Chaplin Tyler Professor of Economics at the University of
Delaware. He received his B.A. in Social Studies from Harvard University and his
Ph.D. in economics from the University of California, Berkeley. He taught at the
University of Pennsylvania and Swarthmore College before coming to the University of
Delaware. He has taught lower- and upper-level undergraduate public finance classes
for over two decades using six different public finance textbooks.
L arry is the author of many books on public finance topics including: T he USA
Tax: A Progressive Consumption Tax (MIT Press, 1997), Funding Social Security:
A Strategic Alternative (Cambridge University Press, 1999), H elping Working Families:
The Earned Income Tax Credit (with co-author Saul Hoffman, Upjohn Institute, 2003),
and P ouring Liberal Wine into Conservative Bottles: Strategy and Policies (University
Press of America, 2006).
L arry has written numerous public finance articles in economics journals including
the American Economic Review (“Taxes in a Life Cycle Growth Model With Bequests
and Inheritances,” June 1983), the J ournal of Political Economy (“Conversion to a
Consumption Tax: The Transition in a Life Cycle Growth Model,” April 1984), the
Journal of Public Economics (“Taxes and Capital Intensity in a Two-Class Disposable
Income Growth Model,” November 1982), the National Tax Journal, International Tax
and Public Finance, and the P ublic Finance Review. He has published many public
finance articles in policy journals including T ax Notes, Health Affairs, and Challenge.
Larry is an invited member of the National Academy of Social Insurance.
vi
A Note to Professors
This textbook can a ctually be covered in one semester. A semester has about 13 weeks
and my book has 13 chapters averaging about 25 pages per chapter. My aim in writing
this book was to present the most important public finance materials in a straightforward
way to help both students and professors.
Why not write a longer textbook and let each professor pick and choose? The problem
with a longer book is that there are always some essential materials in every chapter.
If a textbook has seven tax chapters but there’s only time to cover three, it becomes
difficult for a professor to assign the crucial material. To make sure students get all of the
essentials, a professor must assign sections of all of the chapters. Splicing a long book
chapter by chapter and page by page isn’t easy for either the professor or the students.
I fully realize that many professors will want to teach some material that I’ve omitted.
That’s great. By all means, supplement my book with any of your favorite classroom
material (also, please send it to me so I can consider including it in my next edition).
Some supplementary materials were also developed to help you out, including a test bank
and PowerPoint presentations. My concise book gives you the time to add your favorite
materials.
My book can easily be adapted for use in both lower- and upper-level classes. This
text is written so it can be used by a professor (like me) who teaches one class with
principles of economics students and another class with intermediate economics students.
Assign the entire text to both classes. Assign the indifference-curve appendixes to the
intermediate economics class. Take your choice with your principles of economics class:
If you want to use indifference-curve diagrams, assign some or all of the appendixes;
if you don’t, skip the appendixes.
I ’ve written my text based on firsthand experience teaching and grading a wide variety
of students. I’ve had the opportunity to learn what materials different students can and
cannot handle. My classroom experience has guided my judgment on what level of
difficulty to use, what is too hard and what is too easy, what is challenging yet teachable
and how to teach it, and what to include and what not to include. The way I’ve written
each section reflects the feedback I’ve received from undergraduates in my lower-level
course and in my upper-level course.
I sincerely hope that you’ll decide that this is the best one-semester Public Finance
textbook available for you and your students.
Larry Seidman
University of Delaware
vii
Complete
Current Research Optimal Protection against Crime
Protection against crime is a public good: If the quan- $20 billion in total. Extrapolating, Cook and Ludwig
tity of protection is increased—for example, through estimate that the American public would have been
additional police officers—every law-abiding citizen willing to pay about $80 billion in 1998 to virtually
benefits, and none can be excluded from benefiting. eliminate criminal gun violence.
Figure 3.1 applies to protection against crime: The Their estimates would enable the plotting of a
socially optimal protection against crime is the quan- MB curve in Figure 3.1 where the horizontal axis
tity at which the MB curve intersects the MC curve. would be the percentage reduction in criminal gun
Research But in practice, how can MB be estimated so that it violence and the vertical axis would show MB—the
can be compared to MC? dollar amount the public would be willing to pay to
An empirical application is given by economists reduce criminal gun violence by an additional 1%.
Philip Cook and Jens Ludwig in their book on gun Based on estimates of the program’s cost and effec-
violence.* Protection against gun violence is a pub- tiveness by experts in law enforcement and crimi-
Laurence Seidman’s Public Finance lic good, so optimal protection is the quantity at nology, an MC curve could be plotted in Figure 3.1
which the MB curve intersects the MC curve. Cook showing the dollar cost of reducing criminal gun
and Ludwig estimate MB by employing a method violence an additional 1%. Then the socially opti-
incorporates research from across the widely used by economists to determine the optimal mal reduction in criminal gun violence through this
quantity: a survey of willingness to pay (this method program would be the quantity at which the MB
discipline, extending beyond the classroom is called contingent valuation). They use data from curve intersects the MC curve, and the socially opti-
a nationally representative phone survey of about mal expenditure on this program is the amount that
to provide empirical tie-ins with real world 1,200 adults in fall 1998 conducted by the National would bring about the reduction in gun violence.
Opinion Research Center of the University of Chicago; Of course, how much a household is willing to pay
their dollar estimates are for 1998. The respondents to reduce gun violence might depend on the method
examples. were asked whether they would vote for or against a used to reduce it. The wording of the question sug-
program that would reduce criminal gun violence by gested that the method would involve increasing
30% but raise their taxes by $X ($X was $50, $100, or the supervision and monitoring of the sale and pos-
$200); the respondents were told that the program session of guns. An alternative method for reducing
“would reduce gun thefts and illegal gun dealers gun violence would be to increase the number of
and make it more difficult for criminals and delin- police officers patrolling the streets. Thus, the Cook
quents to obtain guns.” From the survey answers, and Ludwig study provides evidence and estimates
Cook and Ludwig estimate that in 1998, the average concerning the public’s willingness to pay for only
American household would have been willing to pay one particular method of reducing gun violence.
about $200 to reduce criminal gun violence, imply-
ing that the American public of roughly 100 million *Philip Cook and Jens Ludwig, Gun Violence: The Real
households would have been willing to pay about Costs (Oxford University Press, 2000).
Appendixes
Several chapters contain appendixes for
further exploration, allowing a professor to
customize the course to fit time constraints
and the varying competencies of students.
C hapter Two
Core and Special
Interest Chapters E xternalities and the
Environment
A concise course does not mean that
professors cannot teach the interesting Ch t
C hapter Nine
topics. Public Finance contains all of the
necessary core materials and tools that
Consumption Taxes
are integral to any public finance course.
Seidman also includes interesting topics like
environmental pollution, Social Security,
health insurance, and education.
viii
viii
Concise
B rief Contents
A Note to Professors v
1 Introduction to Public Finance 1
Can Be Covered in
2 Externalities and the Environment 27
3 Public Goods and Political Economy 57 One Semester
4 Cost-Benefi t Analysis 79
5 Social Security 97 Why assign a book where the class will skip
6 Health Insurance 131 nearly half of the pages? Seidman’s Public
7 Tax Incidence and Ineffi ciency 1 67 Finance concisely covers all of the essentials
8 Income Taxes 199 of public finance, allowing courses the time
9 Consumption Taxes 227 flexibility to delve more deeply into specific
10 State and Local Public Finance 251 material.
11 Education 275
12 Low-Income Assistance 295
13 Government Borrowing 315
INDEX 345
Taxation2 o%f benefits Other 1% Ademxipn1eis%ntrsaetsive
Interest
14% Increase in
Tru2s5t %Fund Exhibits
Seidman’s Public Finance offers a
Payroll
taxes 84% Benefit complete look at the material by employing
payments
24% $7S4o4.u9r cbeillsion $744U.s9e bsillion 73% easy-to-read graphs, tables, and charts that
23% Federal supply an intuitive, at-a-glance understanding
GPercentage ofDP1122289012%%%%% Fteadxeersal spending olefn tghteh ym paatesrsiaagl ews.i thout dense prose and
17%
16%
1965 1970 1975 1980 1985 1990 1995 2000 2005
Year
ix
ix
Clear
Starting a Health Insurance Company
Examples
N ow imagine that you’ve just graduated from college in this society, and you decide to
start a health insurance company. But can you make money selling health insurance?
There are many factors to consider as you crunch the numbers.
Each chapter of Seidman’s Public Finance I nitially you assume that insurance won’t change anyone’s medical bill—5% will
still have a $61,000 bill and 95% will still have a $1,000 bill—and that no one has
features hypothetical and real-world inside information about her own health prospects, so everyone assumes her chances
are 5% and 95%, respectively. For every 100 people who buy your insurance, 5 people
examples. These clear applications apply are likely to incur a $61,000 bill, and 95 people, a $1,000 bill. Hence, your expected
total bill from hospitals and doctors for your enrollees will be
directly to the material and enable students to
5 ($61,000) 95($1,000) $305,000 $95,000 $400,000
relate the concepts of public finance to their
T o obtain premium revenue of $400,000 from your 100 enrollees, you must
everyday lives, heightening the understanding charge a premium of $4,000 per enrollee. As long as you charge a premium of at
least $4,000 and enrollees are willing to pay your premium, for every 100 persons
of the subjects presented. you will take in at least $400,000 in revenue, thereby covering your expected cost
of $400,000.
Writing Style
Written with students in mind, Public Finance
is an approachable text. The concise sections
and understandable examples are engaging
and informative for students.
Graphs
MSC
J
The graphs in the text provide thorough I MD = $1.00 S (MPC)
illustration of the major concepts in public Price$3.50
H K
finance. Accompanied by explanation in
D (MB)
the text, the graphs clarify and highlight
the examples and core topics in the book. 80 100
10 Gasoline
Historical Estimated
Additional appendixes for more advanced
sgtruadpehnst sa nadls eox fpelaatnuareti oinnds.i fference-curve Workers per beneficiary 6428
0
1955 1975 1995 2015 2035 2055 2075
2006
x