Civil Engineering Reference
In-Depth Information
shifting the supply curve to the left, since it indicates that theoretically the costs of
producing each unit are higher. (You may remember from
Chapter 5
that changes in
price and non-price determinants - such as a tax - are represented in different ways
in graphical analysis. Review
Key Points 5.3
for further clarification.)
The diagram highlights the fact that the costs of production are being paid
by two groups. At the lower price P, the firm is only paying for the necessary
private inputs. The difference between the lower price P and the higher price P
1
is
the amount paid by the community - the external costs. For these external costs
to be internalised, the government would need to introduce a tax equal to P
1
- P.
This should result in fewer resources being allocated to this activity - with less
demand and supply Q
1
- as the tax would lead to higher prices and force potential
purchasers to take into consideration the costs imposed on others.
It is easy to see that in an unfettered market, external costs are not paid for and
resources are over-allocated to environmentally damaging production. A tax should
help to alleviate the problem, but the practical issues of precisely how much tax and
who will be burdened with the expense are difficult questions to resolve.
Tax Burden
As we have explained, pure public goods would not be properly provided by a
market structure because of the free-rider problem. For similar reasons, quasi public
goods would also be under-allocated. The incentive to contribute to the cost of
production of public goods is greatly reduced by the knowledge each individual will
potentially benefit regardless of whether they pay. Consequently, most governments
step in to provide goods and services such as law and order, overseas representation,
infrastructure and environmental management. The concomitant demand for roads,
tunnels, bridges, prisons, police and fire stations, overseas embassies, play areas,
clean recreational space, flood control systems, etc. explains how governments
become such important clients of the construction industry.
In fact, in the UK it is
reckoned that public sector spending, in value terms, accounts for nearly 40 per cent
of the business done by construction firms (Cabinet Office 2011: 5).
The drawback to this level of commitment is the cost, especially as the majority
of goods that governments produce are provided to the ultimate consumers without
direct money charge. Obviously, this does not mean that the cost to society of those
goods is zero. It only means that the price 'charged' is zero. The full opportunity
cost to society is the value of the resources used in the production of goods provided
by the government. For example, though nobody pays directly for each unit of
consumption of defence or environmental protection, everybody pays indirectly
through the taxes that finance government expenditure.
In the UK, the government collects something around £600 billion in taxes
each year. Spending on law and order, defence, the environment, international
co-operation and transport alone accounts for approximately 25 per cent of this
expenditure. In effect, the average citizen in the UK must work from 1 January to
March or April just to pay all their direct taxes.
This
tax burden
is clearly a significant proportion of any citizen's income, and
it raises some of the thorniest questions that any government has to face. In the UK,
