1 executive development programme for senior government officers the economic basis of public policy...
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Executive Development Programme for Senior Government Officers
The Economic Basis of Public Policy
Microeconomic perspective
Dr Roger Lawrey 2
EDPSGO 2005
Dr Roger Lawrey 3
EDPSGO 2005
Part One: An Introduction to Economics and to the Brunei Economy
Part Two: The Economic Basis of Public Policy
Part Three: The Economic Rationale for Privatisation in Brunei
Dr Roger Lawrey 4
What is Economics?
“Political Economy or Economics is a study of mankind in the ordinary business of life; it examines that part of individual and social action which is most closely connected with the attainment and with the use of the material requisites of wellbeing"
Alfred Marshall
Dr Roger Lawrey 5
The most fundamental concept
Because resources (time, money, oil etc) are limited, using them in one way precludes using them in any other way.
“Opportunity cost” is the forgone benefit from not using a resource in its best alternative use.
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What is economic welfare?
Somewhat philosophical, but generally to do with the “well-being” achieved from economic activity.
Economic welfare could include: Real Gross Domestic Product (GDP),
household production, leisure time, economic equality (absence of poverty), environmental quality.
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What is GDP?
The market value of all final goods and services produced in an economy in one year.
Real GDP: GDP adjusted for inflation so that it reflects changes in production, not just prices
Real GDP per capita: GDP divided by population.
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Trend real GDP
Over the long-run real GDP increases because: Growing population
But this will put downward pressure on per capita GDP
Growing stock of capital equipment Growing stock of human capital Advancing technology
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Brunei per capita GDP at current prices
1983 - B$39,6291984 - B$38,1671985 - B$35,5441986 - B$22,8051992 - B$24,5701998 - B$21,1112003 - B$23,615
Problem 1. Volatility of oil
prices
Problem 2. Calculations
Problem 3. Over-reliance on oil
and gas
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Brunei Citizen and PR only
2001 Population Labour Participation
Age Group force rate
15-24 47017 18662 39.69%25-34 36419 29097 79.90%35-44 31289 23917 76.44%45-54 20779 14170 68.19%55-64 9892 2667 26.96%TOTAL 145396 88513
Note this is unofficial data. The participation rate is the percentage of the population that is employed or actively seeking work
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Brunei Citizen and PR only
2011 Population Labour Participation
Age Group Force rate
15-24 60285 23928 39.69%25-34 47017 37564 79.90%35-44 36419 27838 76.44%45-54 31289 21337 68.19%55-64 20779 5602 26.96%TOTAL 195789 116270
Note: these are my calculations, not official. Everyone is 10 years older in 2011 than in 2001. The 15-24 age group shown here was 5-14 at the 2001 census. We will need nearly 28,000 more jobs in 2011 than in 2001.
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The Brunei Public Sector
For year 2003 (Department of Economic Planning and Development, Prime Minister’s Office (2003) Brunei Darussalam Statistical Yearbook) Provisional data.
2003 GDP $8,236.9 million2002 GDP $7,651.7 millionGovernment expenditure 2002
$4,736.14 million: 62% of GDP
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The Brunei Public Sector
Public Expenditure 2002 (Four largest departments) Education 10.4% Defence 8.6% Health 4.4% Public works 3.1%
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The Brunei Public Sector
Revenue (2002)$4,267.83 million of whichDuties, taxes and licenses 54.6%Revenue from government property
38.3%Commercial activities 6.7%Other 0.4%
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The Brunei Public Sector
Revenue breakdown (Department of Economic Planning and Development, Prime Minister’s Office (2004) Brunei Economic Bulletin Volume 3, Issue 1)
Data for Q1, 2004 Total revenue $1,398 million Oil and Gas contribution $1,240.5 million of which:
taxes $758.4 million royalties $160 million dividends $322.1 million
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EDPSGO 2005
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What is social welfare?
Social welfare is the concept of the general level of well-being of an individual, family or society. It includes economic welfare, plus health, peace, justice etc. If economic welfare increases and there
are no other negative effects, social welfare will also increase.
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In practical terms
Thinking economically means thinking about how we can increase economic welfare
Because resources are, usually, limited, actions will have both benefits and costs, even if these are opportunity costs
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In practical terms
Think in terms of maximizing net benefits
Think at the margin. Incremental benefits and incremental
costs of a change JPMC Short-run and long-run decisions
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The case for policy intervention
National Development Plans Promoting and controlling development
that is not happening in a free marketMarket failure
When markets don’t maximize economic welfareMonopoly, other forms of market power,
externalities, public goods.
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The basis for policy recommendations
If a problem is perceived to exist (markets have failed, maximum net benefit is not being achieved) then government should intervene.
Economics is then concerned with finding the “best”, most efficient solution.
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Some policy instruments
Regulations backed by penaltiesControl of prices, volume of production,
imports/exports, rates of return on investment, entry of firms to an industry, licensing, output of pollutants
Public enterprises/direct provision
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……. Policy instruments
Criteria for evaluation of policy instruments (Field 1995)
Efficiency (and cost effectiveness)Fairness (equity)Incentives to innovateEnforceabilityMorality
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Three examples
ExternalitiesPublic goodsNatural monopoliesExternalities are effects from economic activity
that are external to all the direct parties of the activity.
A negative externality imposes an external cost• Pollution
A positive externality results in an external benefit• Education
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Externalities
Pollution is a cost of economic activity borne by those not involved in the activity
The result: Too much output of the polluting good
at too low a price The solution?
Regulation, taxes, property rights/permits
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Public goods
ExcludabilityExcludability
Rivalry Rivalry (exhaustiveness)(exhaustiveness)
High Low
High
Low
Private good
Common Pool good
Toll good
Public good
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Toll goods
These goods can be provided by the market because they are excludable. It may be unfair to provide them out of general government revenue (everyone’s tax payments) when only some people use them. User pays principle.
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Common pool goods
The danger is that, unregulated, these good will be depleted. There will be over use.
The solution is to make them private goods by issuing licenses, quotas etc as a form of property right. This gives owners the incentive to conserve.
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Public goods
Pure public goods will not be provided by the market because they are non-excludable (provide for one and you
provide for all) non-exhaustible (one person’s consumption
does not reduce amount available for others)
Examples……….Community service obligations
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Natural monopolies…….
Defined as having continually declining costs over the whole range of output covered by the market demand curve.
Quantity
Per unitcost ofproduction
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……. Natural monopoly
Examples of natural monopolies are firms with large fixed costs such as water, telephony and electric utilities.
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……. Natural monopoly
What is the rationale for government ownership or control of natural monopolies?To avoid wasteful duplication of facilitiesOne supplier has lower costs than two or
more suppliers Because without government
involvement the industry would monopoly price
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……. Natural monopoly
Is this monopoly pricing desirable from society’s point of view?
No, supernormal profits may be made too little output
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……. Natural monopoly
So, with natural monopolies, traditionally governments have either left them privately owned but heavily regulated (US, Canada)
or had them owned and operated by government - “public ownership” (UK, Europe, Australia, Brunei)
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EDPSGO 2005
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Negative aspects of government ownership
Crowds out private sector Legislated monopoly State-owned enterprises get preferential
treatment from government Output subsidized so private firms cannot
compete Incomplete accounting of costs and
revenues Poor performance (low productivity)
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Privatization
What is the rationale for privatization? Improve efficiency by exposure to
competition Improve government fiscal position Allow use of private sector capital Less natural monopoly than imagined. For
example, electricity generation Access to natural monopoly facilities
without duplication.
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Efficiency
Technical efficiency refers to getting the most output per unit of input. Production efficiency refers to producing at lowest per unit cost
Does private ownership on its own result in efficiency?
What about competitioncompetition?What impact does greater efficiency have
on costs per unit?
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Government fiscal position
Fiscal considerations may be just short-term.
Price should reflect future earnings low earnings = low price high earnings = high price but future
earnings are forgone Can private firm transform low earnings
into high earnings?
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Private sector capital
Private firms can tap huge global financial markets, which may be needed for investment
Government agencies may be restricted to applying for government funds
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Natural monopoly or not?
The extent of natural monopoly may have been exaggerated.
Some aspects of industries may be natural monopolies and others not, e.g. in electricity, only the transmission and distribution networks are now considered natural monopolies
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Duplication?
An appropriate access regime allows competitors access to essential facilities without duplication, e.g. telephone lines.
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Negative aspects of privatization
Private monopoly may be worse than government monopoly (regulation)
Country may lose control of the pace and direction of development
Prices may increaseJobs may be lostMaintenance may be insufficient to
meet profit targets (see Energex)
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The Brunei case
Is competition possible?Is regulation
feasible? economical?
Is increased efficiency possible with government ownership?
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Contracting out or internal organisation?
Costs of internal organization Offices, secretaries, administrators, human resource managers pensions bureaucracy, inefficiency?
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Internal organisation
Benefits: workers have no direct claim to profit (2
divisions of same firm)less self-interested behaviour?
Feeling of belonging to organisation may induce cooperative behaviour
Internal auditing Management can resolve disputes
between divisions
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Contracting out
Costs costs of searching for suitable suppliers
and choosing between them lack of performance due to incomplete
specification of contracts breaking a contract and subsequent
actions monitoring costs loss of knowledge by not learning by doing potential for corruption
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Contracting out
Benefits: cost of internal organisation saved promotion of private enterprise development of other related skills
entrepreneurial, managerial
secondary effects may be greater than those when a function is done internally
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The value of an enterprise to society
Society = the enterprise, consumers, the government
The enterprise variable is net profitThe consumer variables are price and
output (quantity and quality)The government variables are required
subsidies or net tax revenueJobs?