ECS 1601

Study Unit 3
The Public Sector

Now
more
Take
outyou
your know
text book.
Keep
itabout
next to the
you!
If the slide has a red
interdependence
in the
speech bubble that says
economy
the
READ
section and
so-and-so.
Then hit pause,
read the
monetary
sector.
Up
section and watch the slide
next,
the
public sector!
thereafter!

Remember, the
best way to learn
is to take notes
and ASK if you
dont understand.

Content
In this study unit you will learn more about:
The role of the government
Government intervention
Government failure
Nationalisation and privatisation
Fiscal policy and budget
Government spending
Financing of government spending
Taxation
Taxation in South Africa
Who really pays taxes

Read section
16.1 in
textbook
pg. 340

Watch 1601
DVD, for
more on the
role of
government

3.1 The role of government

We need the government in the economy for four main

reasons:
1. The private sector and market forces can produce
good and service much more effective than the
government.
2. The government has to help the private sector to do
business, by upholding the law, property rights, etc.
3. Markets can fail, and the government should try to
correct market failures.
4. When markets are not fair, the government should
enforce equity in society, such as helping the poor.

Read section
16.4 in
textbook pg.
349-350

3.2 Government
intervention

The government can intervene in five ways:

1. Delivery of public goods and services
Public owned and financed.
Government pays private firm to
deliver public good or service
The government teams-up with
a private firm, called a PPP
(Public Private Partnership)

2. Participate in the market. The government

buys goods and services and employs
people.

3.2 Continued
The government can intervene in five ways:
3. Government spending, the government can
influence the economy when deciding what
they want to buy. Government can make
transfer payments; that is when they make a
payment without receiving anything in return
4. Taxation is a powerful instrument. For example,
if the government want a more equal
distribution of income, they can tax the rich
more and the poor less.
5. Regulations and laws that affect the economy

Read section
16.5 in
textbook pg.
350-352

3.3 Government Failure

POLITICIANS CAN FAIL:

Watch 1601
DVD, for
more on
government
failure.

Goal is to be re-elected, sometimes they do the popular

thing and not the right thing
They want votes in the short term! Sometimes
Peoplethey
who
forget the long term
goals.
are elected to
Politicians

office
BUREAUCRATS
CAN FAIL:
Public
Government is not, like the private sector,
in constant
People
who
Officials
are appointed
competition. And no competition = inefficiency!
Bureaucrats
by the

bythey
thehave
Example: private sector businesses knows, if
bad service, clients will leave. But if yourgovernment
are not
satisfied with the bureaucrats at Home Affairs (when
issuing a passport or ID), you cannot go anywhere else!
OTHER FAILURES:
Rent-seeking: influencing government behavior to your
own advantage and societys disadvantage

Read section
16.6 in
textbook pg.
352-354

3.4 Nationalisation and

privatisation

Nationalisation means the government

takes ownership of private companies.
State owned companies such as Eskom is NOT
nationalisation!
Important: Nationalisation is the TRANSFER
of private ownership to public ownership.

Economists agree that nationalisation

leads to economic failure, as it results in
inefficiencies, political interferences, etc.

3.4 Continued
Privatisation means private companies
takes ownership of public enterprises.
Why?
1. If government expenditure decrease, then
income tax can be decreased
2. Private ownership is more efficient
3. Inefficient state owned enterprises costs
the government a lot! Privatisation
relieves government from some
expenditures. (improve budget deficits)

3.4 Privatisation arguments

For

Against

The government is good in politics and bad in

business (inefficient, no innovation,
unresponsive, etc.)

Private firms are effective due to competition,

there will not necessarily be any competition
after privatisation. This will result in a
monopoly situation.

Privatisation attracts Direct Foreign

Investments

Government take stock of external costs

(pollution, environmental decay, etc). Private
firms do not.

Not only will the government have less

expenditures, but the private company that
takes the business over will pay taxes

Private firms are not concerned with the

society at large (reducing poverty, increasing
standard of living, taking care of the
environment)

Private companies can change and adopt easily

to economic circumstances
Government will have more to spend on
education, service delivery, etc.

Instrument for Black Economic Empowerment

Read section
16.7 in
textbook
pg. 354

3.5 Fiscal policy and

the budget

Watch 1601
DVD, for
more on
fiscal policy
and the
budget

Fiscal policy is about what the

government spend, what they borrow
and how they tax the public.
Budget. Like your personal budget, the
government also has a budget.
The budget is a political decision on how
much to spend, on what to spend it and
how to finance the spending.
Minister of Finance,
Pravin Gordon
delivers the budget
speech in parliament
on 28 February 2013

3.5 Continued
EXPANSIONARY FISCAL POLICY MEANS:
If the economy is weak (recession), it is like a slow moving
car.
The government should step on the petrol (meaning, they
should spend more). And the economy will gain speed!
Spending more means: increase government expenditure or
decrease income taxes.
If income tax decreases, people will have more money in
their pockets and consumption will increase!

CONTRACTIONARY FISCAL POLICY:

If the economy is doing good (high growth rates).
Government should spend less or increase income taxes
because the car (economy) is going fast enough on its own!
And you dont want it to go TOO FAST!

3.5 Continued
Budget deficit =
TAXES

Government

Expenditure

(Expansionary fiscal policy will worsen the deficit

or reduce the surplus because government
expenditure increases)
Budget surplus=

TAXES

Government Expenditure

(Contractionary fiscal policy will better the deficit

or cause a surplus because government
expenditure decreases)

Read section
16.8 in
textbook
pg. 355-356

3.6 Government spending

Since 1970s governments world

wide have been spending more,
this is due:

Study the
Changing consumer preferences
meaning of
Political and other shocks
each of these
reasons
Redistribution of income
and
Misconceptions andcarefully
entitlement
discuss it with
Population growth and
yoururbanisation
e-tutor

Read section
16.9 in
textbook
pg. 356-357

3.7 Financing government

spending

Read section
16.10 in
textbook
pg. 357-359

3.8 Taxation

Adam Smiths criteria for a good tax:

1. Neutrality: a tax should disturb prices and
allocation of resources as little as possible
2. Equity: a tax should be spread fairly across
society. Horizontal equity: people in the same
position pays the same. Vertical equity:
people in different positions pay differently
3. Administrative simplicity: it should not be
difficult or costly to collect the tax
Complicated tax systems leaves opportunities
for tax avoidance (legal ways to avoid taxes, tax
evasion is illegal ways to avoid paying taxes)

3.8 Different types

of tax

Watch 1601
DVD, for
more on
different
taxes

Progressive: rich pay larger percentage

of income on taxes than poor
Proportional: rich and poor pay same
percentage of income on taxes
Regressive: rich pay smaller percentage
of income on taxes than poor
NOTE: it is about the percentage
someone pays, not the amount.

Read section
16.11 in
textbook
pg. 359-362

3.9 Taxation in SA

Personal income tax

The most direct type of tax in SA. And the
largest source of income for government. SA
use tax brackets to calculate how much a
person should be taxed. If you get R1 more,
the tax rate on that R1 is the marginal tax
rate. The overall tax rate is the average tax
rate of the effective tax ratio
Lets say David get R190 000 per year. The
brackets will work as follows:

Read section
16.11 in
textbook
pg. 359-362

3.9 Taxation inOn Davids

SA

David
first R112
receives
That
500
he
On the amount
David
more
than
equals:
pays
18%
between
David
receives
That
R112
500
R112501
and
tax
receives
more
than
equals:
R180
he
He000
pays
only 000
R10 Margin
pays 25% tax
R180
That
equals
30% taxTaxes
on
Income Bracket
paid
000 more
R10 000
al Rate
than R180
R 0 R 112 500000
18%
R 20 250.00
David gets
R190 000
per year.

R 112 501 R 180

000
Davids
R 180 total
001 taxes
R 250
000 is the sum
R 250 001 =
R 350
000 R40 124.75
R 350 001 R 450
000

25%
30%
35%
38%

Do you see?
R
874.gets
75
As16
David
richer, he pays
Ra
3 higher
000.00%
tax. That is a
PROGRESSIVE
tax system

3.9 Other types of taxes

Company tax
Example of a proportional tax rate.

Value-added tax (VAT)

Example of a regressive tax rate.
Why? Because, poor people spend a larger part of
their income on items with VAT (they do not save or
invest money), thus, they pay a higher percentage
of their income on VAT than rich people.

Rise in overall tax burden

Tax burden on public has increased. Crowding out
means, an increase in governmental spending
causes a decrease in consumption.

Read section
16.12 in
textbook
pg. 362-364

3.10 Who really pays taxes

Price of cigarettes (P)

E2

14.4

R14

10.4

D
0

Cigarettes
are
more
After
the
R4
tax,
the
Lets
draw
the
Suppose
cigarettes
expensive
now
the
consumer
willfor
pay
R16
demand
curve.
costs
R12,
and will
a
consumer
and the
producer
And
the
supply
R4
is is
getsin
R12
While
thetax
supplier
curve
The supply
curve
will
selling
lessWho
packs
than
levied.
will
shiftthe
back
by R4
before
Show
where
pay
R4?
Lets
Show
where
the
new
The
supplier
is
only
equilibrium
is
see
equilibrium
is of
receiving
R10.40
Show
the
Draw
thenew
market
each
pack
Show
the
equilibrium
price
equilibrium
price
and
and
remember
to
Both
carry
a tax
burden
quantity
and
quantity
name
the axes and

show the origin at

0

120150
Quantity cigarettes (Q)
(packs in thousands)

Are you able to?

Define fiscal policy?
Name the instruments of fiscal policy?
Explain briefly why government is involved in economic
activity?
Explain how government intervenes in the economy?
Explain government failure?
Explain nationalisation and privatisation?
Explain how government spending can be financed?
Explain the criteria for a good tax?
Do you know the difference between direct and indirect taxes?
Do you know the difference between progressive, proportional and
regressive taxes
Explain what is meant by the term tax incidence?
Explain the difference between the legal and effective incidence of
an excise tax?
Can you show with the aid of a diagram the impact of a excise tax?

Your hard
work will
be
rewarded in
the exams

That is the end of study unit

3.
A quiz on this work will be
available soon, make sure
you do it and discuss it
with your e-tutor!