By Ayan Banerjee
The efficiency of the public provision of goods or services underpins a variety of social policy decisions. This article will evaluate whether public provision is inevitably inefficient and critically evaluate examples of reforms introduced to improve performance in separate areas of social policy.
Economic efficiency is achieved when all goods or services, as well as factors of production, are distributed and allocated in a way that makes the ‘best use of limited resources’ given agents’ preferences (Barr, 2004). This is the point at which output is maximised, an optimal product mix is produced given consumer tastes and technology and that consumers allocate income in a way that maximised utility.
Many economists argue that public provision leads to the inefficient over-supply of goods or services. This can be shown by the simple model of bureaucracy. The model is underpinned by suggesting that bureaucrats act out of self-interest and not in the interest of the public.
The below graph illustrates a market in which the government is the sole (monopoly) supplier of a good or service. A private monopolist would supply at Qm and Pm. The socially optimal bundle would be a Qs and Ps, where demand intercepts the long-run marginal cost curve. Bureaucrats will seek to maximise their budget as this is what determines their income and thus their utility. Niskanen’s analysis suggests that bureaucrats often take advantage of the information asymmetries such that they can generate a budget greater than what is socially optimal. This allows them to increase output above Qs to Qb. This creates a deadweight loss and reduces welfare due to over-supply, thus leading to an inefficient outcome.
With regards to the decentralised provision of services, the invisible hand theorem asserts that the quantity and price of outputs that clears markets will be an efficient bundle under the assumptions of a perfectly competitive market. Here, private firms have a strong profit maximising motive which drives them to be more productive and efficient in the use of their factors of production. Secondly, many economists predict the private supply of services to be more efficient than government provision as they argue there are practical difficulties associated with transferring and assigning ownership rights concerning public provision as opposed to with investor shareholders in private firms. This reduces the incentive for public managers to produce in a way that maximises citizens’ wealth (Miranda, R. et al., 1995).
Some economists argue that centralised provision can be more efficient. As explained earlier, a perfectly competitive, complete market with perfect information with no market failures is efficient. However, these assumptions are often not satisfied. Perfect competition is violated where there are few firms and/or individuals in a market which is common such as with regards to oligopolies. Additionally, market failures can often occur especially relating to pure public goods that are non-rival in consumption, non-excludable and non-rejectable making efficient production in a market unlikely (Barr, 2004). Furthermore, perfect information is often violated. Overall, the assumptions required for an efficient allocation from decentralised provision are often violated, thus warranting the consideration for public provision as a serious alternative. Additionally, neoclassical theory underpinned by decentralised provision is argued to be incomplete as ignores the potential for government intervention to improve an economy’s dynamic efficiency and technological capability (Bailey, 1951). Overall, there are certain goods and environments that suggest a centralised provision provides advantages over decentralised provision.
Germany provides healthcare through quasi-markets-based social health insurance. This can be compared to the public provision of healthcare in the UK to assess whether the differences reflect a disparity in efficiency. Germany’s healthcare is provided by non-governmental competing, not-for-profit, health insurance funds (Thomson, et al., 2013, p. 57). This aimed to introduce competition on the supply side by providing more cost-effective, responsive healthcare with greater consumer choice. This contrasts with the NHS in the UK which is nearly entirely publicly funded. Both the UK and Germany have the same life expectancy at birth indicating there is not a significant difference in health status. The UK’s health expenditure per capita is significantly lower (21.1%) (The World Bank, 2018), whilst its health expenditure as a percentage of GDP is also lower (1.43%) than Germany’s (The World Bank, 2018). Whilst more data is required (beyond the scope of this essay) to judge differences in quality of healthcare more accurately, the UK’s public provision of healthcare is clearly more cost-effective than Germany’s. Overall, policies aiming to improve efficiency in healthcare through the introduction of quasi-markets do not have significant supporting empirical evidence. Although it can be argued to provide greater choice and responsiveness as seen by Germany’s healthcare system’s response to the pandemic, in this area of social policy, public provision can be more efficient in certain cases.
In conclusion, the predicted efficiency of a centralised public provision of goods or services depends upon which model you subscribe to. It is difficult to judge which model is most representative due to the problematic nature of empirically testing efficiency in this scenario. As seen in reforms in health, the relative efficiencies of decentralised and public provision depend on a range of factors. Therefore, I partially disagree with the statement that public provision is inevitably inefficient. Public provision is likely to not be fully efficient, however, it can in some cases for it to be more efficient than free markets.