DFI 341: PUBLIC FINANCE

LECTURE TWO-A
 Nature of Public Finance
• Collective finances for all persons
• Resourced from all citizenry
• Expended for the good of all citizenry
• All includes the present and more so the
future (the yet to be born)
• It is inclusive of (i) our selves,
• (ii) our environment (ecosystem) physical
and non-physical (Metaphysical)
 Public Finance and Private Finance: similarities
• Property of Economic Resource:
both refer to economic resources (land, labour,
management, Entrepreneurship, Capital,
Technology)
• Property of Monetary Value:
Both are measured in monetary terms
• Property of Scarcity:
Both are faced with the usual problem / constraint of
scarce economic resources
 Public Finance and Private Finance:
similarities
• Property of Objective of mobilization:
Both resources are mobilized to satisfy human wants
and needs
• Property of Resourcing Process:
Both resources require careful planning , organization,
accumulation, and control, evaluation,
(Management)
 Differences Between Private and Public Finance
Corporate Finance
Sourcing:
Terms: For a price (Return,
Interest) Private Savings,
Borrowing, donations
Investment Expectations:
Personal Returns/Benefits-
max personal wealth
Scope of Study:
Concerns sources of finance,
choice of investment, min
risk, Max personal returns
Income – Expenditure Adjnt:
Expenditure to income
Public Finance
Sourcing:
Terms: For free – no “quid
pro quo” principle applied. Give
without questioning
Investment Expectations:
• Social Returns/Benefits-Max
social good
Scope of Study:
Revenue –Expenditure
process of government, Max
Social (Returns) good
Income – Expenditure djnt:
Income to Expenditure
 Differences Between Private and Public Finance
Cont.
Nature of Need: Nature of Need:
Compulsory requirement in
Voluntary in accumulation and expenditure (security, adm of
Expenditure. Driven by self justice, law and order etc)
hence collection is
interest to grow wealth Compulsory
Scope of Sourcing:
Scope of Sourcing:
Limited scope-own savings,
Unlimited – compulsory
borrowing at acceptable extortion, Internal/external
Collateral borrowing, Market borrowing,
Budgeting Process: deficit financing
From resources (available Budgeting Process:
From project (Expected social
resource) to project (what can Needs) to resources (where to
be achieved) finance from)
 Differences Between Private and Public Finance Cont .

Motivation of Expenditure Motivation of Expenditure

To attain personal max Profit, To attain max social welfare
Soonest possible (immediate (good), in the more long-lasting
returns) the good, the better Futuristic

Secretive: Secretive:
Affairs managed secretively No secrets, planning, execution
and evolution done publicly

Nature of Wants/Goods: Nature of Wants/Goods:

Deals in goods that are Public goods that are not
marketable according to marketable, (non-excludable,
consumers demand non-proprietary, non-rivalry)
 Need for Public Sector
• Prevalence of government may reflect the presence of
political and social ideologies which depart from the
premises of consumer choice and decentralized decision
making.
• Market Failure - More important, there is the fact that the
market mechanism alone cannot perform all economic
functions.
• Need for Policy to Guide Market System - Public policy is
needed to guide, correct, and supplement the market
mechanism in certain respects. Including the following
reasons:
1. The claim that the market mechanism leads to efficient
resource use; produces what consumers want most and
in the cheapest way is based on the condition of
competitive factor and product markets.
• There must be no obstacles to free entry and
• Consumers and producers must have full market
knowledge. Otherwise:
• Government regulation or other measures may be needed
to secure these conditions.
2. They may also be needed where competition is
inefficient due to decreasing cost.

3. Need for Enforceable legal environment: Business

contractual arrangements and exchanges needed for
market operation cannot exist without the protection
and enforcement of law and order.

• Question: whose law, whose order?

4. Problems of "externalities”
• the production or consumption characteristics of
certain goods are such that
• they cannot be provided for through the market.
Problems of "externalities" arise
• which lead to "market failure" and require correction
by the public sector, either by
• way of budgetary provisions, subsidy, or tax penalty.
5. Redistribution of Income and Wealth: Social values also
called Social Justice, Requires adjustments in the
distribution of income and wealth which results from
the market system and from the transmission of property
rights through inheritance.
6. Economic Stabilization: The market system, in
developed financial economies, does not necessarily
bring high employment, price level stability, and socially
desired rate of economic growth. Hence need for Public
policy to secure these objectives.
• 7. Use of Budget to plan and run the economy.
Public Sector Functions
I. Economic Resource Distribution
Function
II. Economic Resource Allocation function
III. Economic Stabilization Functions
(Fiscal Policy and Monetary Policy)
IV. Budgetary Coordination & Control
Function
Characteristics of Developing Economies
a) Low levels of living
i Low income
ii Inadequate Housing
iii Poor health
iv limited or no Education
v High Infant Mortality
vi General Sense of hopelessness
b) Low Per Capita National Income
Refers to gross national product per head
Characteristics of Developing Economies Cont.
• Per Capita National Income
= (Gross National Product/Total Population)
c) High Rate of Population Growth rates

d) High Rates of Dependence Ratio

e) Agrarian Economies –
High dependence on small scale subsistence faming
f) Dependence on Primary Product Exports
Characteristics of Developing Economies Cont.
g) Low level of Productivity

h) Foreign Nations Dependence and Dominance

i) High and Rising levels of Unemployment and

Underemployment
Role of Government in Economic Development of a
Country
• The free play of economic forces, has often meant
large unemployment and instability of the economic
system.
• In the advanced countries, State intervention has
been invoked to ensure economic stability and full
employment of resources.
• State action is all the more inevitable in under-
developed economies which are struggling hard to get
rid of poverty and to attain higher living standards.
(i) Comprehensive Planning:

• In an UDCs, there is a circular constellation of forces t

acting and reacting upon one another in a way as to
keep a poor country in a stationary state of under-
development equilibrium.
• The vicious circle of under-developed equilibrium
can be broken only by:
• a comprehensive government planning of the
process of economic development.
• Existence of operations of institu­tional framework.
(ii) Institution of Controls:

A high rate of investment and growth of output

cannot be attained, in an under-developed
country, simply as a result of the functioning
of the market forces.
The operation of these forces is hindered by the
existence of economic rigidities and structural
disequilibria.
Economic development is not a spontaneous or
automatic affair.
• Thus, if an underdeveloped country to break vicious
circle, Government must interfere with the market
forces controls have have to be instituted, e.g.,
• price controls,
• exchange control,
• control of capital issues,
• industrial licensing.
 (iii) Social Overheads and Economic Overheads:
• In the initial phase, the process of development, in an
under-developed country, is held up primarily by the lack of
basic social overheads and economic overheads such as:
• Schools – basic literacy for all
• Technical institutions - technical skills
• Universities - higher standards of education
• Research institutes – Invention and innovations
• Health institutions: - Public Health - Hospitals
• Communication infrastructure: Railways, Roads, Ports,
Harbours And Bridges, etc.
• To provide them requires very large investments.
• Such investments will create:
• External economies, then
• provide incentives to development of private
enterprise in the field of industry, and agriculture.
• The Governments, therefore, go all out in building
up the infrastructure of the economy for initiating
the process of economic growth.
• these returns will accrue to the whole society rather
than to those entrepreneurs who incur the necessary
large expenditure on the creation of such costly
social over-heads.
 (iv) Institutional and Organisational Reforms:
• Outmoded social institutions and defective organizations
prohibit economic progress.
• The Government, should set institutional and organisational
reforms.
• imposi­tion of ceiling on land holdings,
• Land tenancy reforms,
• Educational reforms,
• Co-operative busness activities (farming, matatu, ect)
• Nationalisation of insurance and
• banks reform of managing agency system,
• governance reforms and
• other reforms
 (v) Setting up Financial Institutions:
• To cope with the growing requirements for finance, special
institutions are set up for providing agricultur­al, industrial
and export finance. For instance,
• Industrial Finance Corporation,
• Industrial Development Bank and
• Agricultural Finance Corporations and
• Development Corporation have been set up in to provide
the necessary financial- resources.
• Mobile Loans
• Equity Bank
• Family Bank
(vi) Public Undertakings:
• In order to fill up important gaps in the industrial structure
of the country and to start industries of strategic importance,
• Government actively enters business and launches big
enterprises, e.g., Dams, Neuclear Plants, Thermoelectric
plants, machine-making plants, heavy electrical work
and heavy engineer­ing works.

• (vii) Economic Planning:

• Economic planning to provide mosted needed resources,
skills and infrastructure.
• It can be done through central planning according to a
scheme of priorities well suited to the country’s conditions
and need.