Finish the finance economic short essay with quailty work.
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Ch9.1.pptxUser Charges
User charges are prices charged by governments for specific services or privileges and used to pay for all or part of the cost of providing those services.
User charge financing is different than financing with general taxes because there is a direct relationship between the fee and the service received.
Types and Use of Charges
User charges include
Direct charges for the use of a public facility or consumption of a good or service
License taxes
Fees paid for the privilege of undertaking some activity
Special assessments
A type of property tax levied for a specific service and based on some physical characteristic of the property.
Types and Use of Charges
As of 2011
All charges and user fees account for 20.5% of general revenue for state and local governments.
User charges alone represent 16% of general revenue.
The two largest categories of user fees in state and local budgets are for education and hospitals, more than 57%; 26.7% for education alone.
Types and Use of Charges
Since 1960 user fees have been rising both on a nominal basis and a real basis.
User fees have been rising faster than other revenues and the general price level since 1980.
Types and Use of Charges
User charges as a percentage of revenue are largest for states with relatively lower per capita revenue and smallest for states with relatively high revenue.
Theory of User Charges
In theory, user charges should operate as benefit taxes.
Economic efficiency requires that the marginal benefit of an action should equal the marginal cost.
For services that primarily benefit the direct consumer, the price charged should be equal to the marginal cost.
Theory of User Charges
One function of user charges is to make consumers face the true costs of their consumption decisions, therefore, creating an incentive for consumers to make an efficient choice.
Theory of User Charges
Suppose a public service has both direct benefits to the consumer and external benefits for society.
Total marginal benefits are the sum of the marginal benefits to the user and the marginal benefits to society.
Given a marginal cost of MC, the optimal amount of services to produce is where MC is equal to the total marginal benefit.
Theory of User Charges
Figure 9.2
Theory of User Charges
The private marginal benefits and the general marginal benefits to all at the optimal quantity determine how production costs should be divided among users (a user charge) and all of society (general taxes).
User charges should account for MBU*/MC.
With that user fee consumers would demand Q* units of the product.
Theory of User Charges
If users perceive the marginal cost to be zero, they will want Q2 units, which is not efficient because MC > MB.
There will be a deadweight loss.
Theory of User Charges
Four general principles:
The greater the share of marginal benefits that accrues to the direct users, the more attractive user-charge financing becomes.
User-charge financing requires that direct users can be easily identified and excluded from consuming the service unless the charge is paid.
The efficiency case for user-charge financing is stronger if demand is more price elastic.
Marginal benefits, not total benefits, matter for determination of user charges.
Theory of User Charges
Costs should be allocated proportional to benefits. But, which costs?
Capital costs represent a long-run choice about the amount of a service or facility to provide.
Operating costs represent a short-run choice about the use of a facility.
Theory of User Charges
The costs for constructing or acquiring a public facility should be paid by those in society who will benefit from the existence of the facility, which may be different from those who benefit from using the facility directly.
Some may benefit indirectly; roads.
Some may benefit because they provide complementary products.
Psychic benefits may exist.
Theory of User Charges
After a public facility has been provided, the problem becomes the variable operating costs.
In this case the marginal cost is the short-run cost of accommodating one additional consumer or providing an additional unit given the capital that has been selected.
Operating costs should be allocated based on the marginal benefits from use.
Typically this goes only to users, though there may also be externalities there as well.
Theory of User Costs
Assuming that users will pay all the operating costs, the question is what is the proper user fee?
If the marginal cost is positive and constant, the user fee should be set equal to the short-run marginal cost.
If the marginal cost is zero up to some level of consumption, then the correct user charge is zero until that level is reached.
Theory of User Charges
Figure 9.3
Theory of User Charges
However, if the quantity consumed reaches too high a level, there will be congestion.
When there is congestion, an additional user will impose extra congestion costs.
The purpose of user charges in this case is to allocate a scarce resource among competing demands.
If no user charge is imposed, too much of the service will be demanded.
Theory of User Charges
Correcting for congestion costs may require charging different fees at different times.
The user fee will be zero when the facility is not congested, but equal to the positive short-run marginal cost when it is congested.
If there is still excess demand at the SRMC, necessitating an even higher fee, that is a sign that additional facilities are needed.
The user fee can be used to expand the facility.
Theory of User Charges
Thus, user charges potentially have three components.
An access charge to cover all or part of capital costs.
A use fee to cover all or part of the operating costs to the government associated with use.
A congestion charge to cover costs imposed by an additional user on other users.
Theory of User Charges
Another consideration is the case of a natural monopoly.
A natural monopoly exists if the production of a good or service exhibits increasing returns to scale; the long-run average cost continually decreases as output increases.
This is usually the case when there are large capital costs relative to operating costs.
Example: the water company
Theory of User Charges
Figure 9.4
Theory of User Charges
The usual approach for the government is to either grant a private firm a monopoly and regulate its price or to produce the product directly.
The dilemma for the government is that the efficient price is equal to the marginal cost, which is below the average cost; the firm will lose money.
The government can either make up for the loss with tax revenue or set price equal to the average cost.
Theory of User Charges
One other option is to use two-part pricing.
Two-part pricing is a form of price discrimination that reduces deadweight loss.
One form would be to set a high price for some initial, inframarginal, amount of the product and a lower cost for all amounts over that limit.
Another form would be to charge a high price on only the first unit, an access fee to cover capital costs, and then the marginal cost on all other units.
Theory of User Charges
Why apply user charges?
User charges are most appropriate when most of the benefits of a public service go to identifiable direct users whose demand shows some price elasticity.
User charges are a way to have nonresidents to pay for benefits they enjoy.
Having users directly finance (at least in part) the services and facilities from which they benefit may portray a type of fairness in policy.
Theory of User Charges
Potential problems with user charges.
User fees create a disadvantage for consumers with lower incomes.
The administration costs and compliance costs of collecting the charges are, in some cases, large enough to offset an expected efficiency gains from the user fee, as opposed to tax, financing.
A user fee is attractive only if a means of collecting it at a reasonable cost is available.
