22 – Thinking like an economist 5: Public goods and public benefits in NRM

“Public goods, “public benefits and “private benefits” are concepts clouded in confusion. “Public good” has specific technical meanings in economics that don’t exactly coincide with what people tend to think of when they speak of governments doing things “for the public good”. And when economists use terms like “benefits” and “costs”, they encompass more issues than are sometimes considered by non-economists.

Public goods

Public goods are potential causes of “market failure”, which economists usually see as being necessary for government action to be justified, at least if the aim is to maximise the overall benefits rather than to redistribute them. Without appropriate government action, some public goods will be under-supplied, over-exploited and/or over-priced.

There are two different types of public goods: non-price-excludable goods and non-rival goods. They are explained in the two paragraphs below, but the key point is that they don’t necessarily relate to “the public” as any identifiable group. They are simply goods that have particular characteristics that mean it is often worthwhile for government to manage their use in some way.

A non-price excludable good is one that consumers cannot be prevented from consuming, leading to problems of free-riders, under-provision or over-exploitation. Consumers have open access to the good and the provider or owner of the good is unable to charge a fee for access (or there is no owner). In the case of a good that must be produced by human efforts (e.g. information from research), the result is under-provision or non-provision of the good in a private market. In the case of a good which exists even without human activity (e.g. a natural resource such as a fishery), the result of non-price excludability is over-exploitation of the good. Possible government responses include public provision of the good, or regulation of the exploitation of a natural resource, such as quotas on fishing.

For a non-rival good, consumption by one person does not reduce the availability of that good to others. An example is knowledge of the successful conservation of a threatened species. The fact that one person benefits from (“consumes”) the knowledge does not reduce the benefits available to others. There is no cost of providing the non-rival good to an additional consumer. Economic theory says that if providing a good to an extra consumer costs nothing, then the price charged to consumers should be zero, and that is the problem. If we enforce a zero price, profit-oriented private firms will not be interested in supplying the good. Possible government responses include: providing the good as a free public service, or allowing the private sector to charge a non-zero price and tolerating the resulting losses of welfare.

Public benefits

The context I’m interested in here is public funding to private landholders to undertake environmental works. In that context, “private benefits” refers to benefits that are generated for the private landholder, and “public benefits” refers to benefits generated for others. For example, if a farmer were to be funded to plant a highly profitable tree crop in place of grain crops, they may generate both private benefits (greater commercial returns) and public environmental benefits.

There is a large body of theory on public goods in the economics literature, but the indexes of economics textbooks on my shelf do not include any entries for public benefits or private benefits. And yet the terms do have currency. The argument one hears is that governments should focus on funding works that generate public benefits, not private benefits. Some Australian Government funding progams (e.g. the Natural Heritage Trust, or NHT) have included the criterion that works that generate private benefits should not be funded. I will refer to this position as the “public benefits argument”.

It is important to be clear about what we mean by “private benefits”. Economists would look at the overall net benefits to the landholder of undertaking the environmental works. The criterion used in NHT seems to have focused on whether there are positive net returns per hectare without considering the opportunity cost of land used for the works. But that is a crucial omission. If, for example, the farmer switches land from highly profitable cropping to less profitable tree production, that comes at a cost.

Using my more comprehensive definition of “private benefits”, the public benefits argument is usually a reasonable guide. If the overall private benefits of adopting a new practice are sufficiently positive, the practice will be taken up without government funding, so the funding should be saved for other uses. Using the NHT definition of “private benefits”, the public benefit argument can be terribly counter-productive. The greatest public environmental benefits per dollar of public funding will often come from supporting environmentally beneficial land uses that are nearly, but not quite, commercially competitive with existing land uses. They would be land uses that generate commercial returns, but not large enough to be more attractive than what the farmer is currently doing. For these land uses, the level of public funding to make them sufficiently attractive will be low, whereas public funding required to support land uses with no commercial return will be very high. By tending to move funds to the latter category, the NHT criterion actually reduces the likely environmental outcomes of the program.

Note that the public benefits argument presented above is not derived from the theory of public goods. It is a relatively simple application of logic on how to maximise environmental bang for the public buck. The sound version of the public benefits argument identifies situations where consideration of market failure due to public goods is irrelevant, because the adoption of environmental works can be driven by private benefits alone. If private benefits are not sufficient for that, then the subtler question of whether there are public-good issues comes into play.

Despite the way they are sometimes discussed, “public” and “private” are not categories of winners or losers that have any status in economic theory. From the point of view of economics, benefits to one part of the “public” (e.g. taxpayers, people who value the environment, consumers) are not more or less special or relevant than benefits to another part of the “public” (e.g. big business, shareholders, small business owners, polluters). The public is simply an aggregation of many private individuals. The public benefits argument is not founded on who in society ought to benefit from public funding. Indeed economics has nothing much to say about that (PD#21).

David Pannell, The University of Western Australia


Thanks to Michael Burton.