Can Growth Solve The Public Goods Problem?

Kinda.

Commonly offered solutions to the public goods problem involve state intervention or market design but technological and economic growth may automatically relieve some of the most intense pressures of the public goods problem.

Olson’s Model

Mancur Olson was an economist studying political interest groups as an example of public goods provision. When some firms lobby for legislation favorable to their industry, like tariffs on foreign imports, only some firms contribute to lobbying but every firm in the industry benefits from the legislation. We still see lots of special interest groups in politics despite this free riding, however, so how do they manage to provide these public goods? And why do the much larger group of consumers not prevent parasitic legislation from special interests?

Mancur Olson

His work on this topic is extensive but the most important pattern he points out is that the most successful interest groups are small and often dominated by a single large stakeholder. He notes that when at least one stakeholder in the group who’s personal benefit from the public good exceeds the total cost, they are willing to produce the public good even though everyone else will free ride.

For example, imagine that one firm controls 20% of a steel manufacturing market worth 100 million dollars. They might be willing to pay the fixed costs of setting up a lobbying firm to acquire a subsidy, because even though the subsidy will benefit the entire steel market, they will capture 20% of the transfer. This dominant firm nets $2,000,000 dollars from a 10% price support so they’re willing to spend up to this amount providing the public good of lobbying. Olson calls groups with these dominant stakeholders “privileged groups.” Compare this to the group of people paying for the 10 million dollar transfer to the steel companies, i.e the rest of the nation. Here, no person would receive even 1% of the tax dollars were they returned to the much larger group, so no one has a personal interest in lobbying the government to end the subsidy.

This dismal logic applies equally to more optimistic scenarios of public goods provision. Privileged groups with members whose personal benefit interests them in producing a good, despite its joint-consumability and non-excludability, can expect at least some level of public goods provision. Depending on the ‘lumpiness’ of the public good, this one stakeholder can get close to efficient provision. If the public good is simply a 1 or a 0, produced for everyone’s joint consumption or not for at all, then if someone benefits enough from the public good to pay for it themselves, they will produce it at the efficient level. This knife-edge pole of an all-or-nothing lumpy public good is not realistic, but many real world examples approach this property. Anything with large fixed costs or naturally imposed efficient scales like large infrastructure projects, levees, lighthouses, monuments, and security can be close to efficiently provided if single interests find it beneficial to pay the fixed costs themselves.

Growth and Technology

When public goods are not being provided at all within latent groups, economists and policy makers usually turn to market design or governance to amend the situation. These tools are useful, although as we saw above, the same tools that allow governments to solve coordination problems also allow special interests to exploit the coordination problems of latent groups for their own benefit. There may be a different way to increase the provision of public goods.

To see this lets develop another example. Say a neighborhood of 100 residents needs an earthwork levee to protect all of their houses.

Say the first meter of flood protection on each plot of land is worth $2,000, and the benefit from additional height decreases at $500 per meter from there. A four meter levee stops all floods that might come to this river. The levee costs $50,000 per meter to build plus a fixed cost of $50,000. So in aggregate, the marginal benefit to the neighborhood is $200,000 for the first meter, then $150,000, then $100,000, then $50,000 for the fourth meter. It is here at the fourth meter where (total benefits - total costs) is maximized for the neighborhood. A four meter levee adds $250,000 worth of surplus to the community. In this situation, however, it is unlikely such a levee will be built as no one resident gains enough from the project to build it themselves and free riding is possible. If there were one resident who owned 50% of the property in this neighborhood, they would find it profitable to build 3 meters of levee by themselves, simply to get the benefits accrued to their half of the land. Not ideal, but this still produces 80% of the surplus for the whole neighborhood.

How does growth and technology play into this? If the costs of producing public goods stays constant or is lowered by technology, then as the population and investment in the neighborhood increases, the size that a dominant stakeholder needs to be in order to provide the most important units of a public good decreases. Say our original neighborhood was in Britain in 1900, 100 years later incomes have increased by an order of magnitude. Since the share of income spent on housing stays about constant over time, each meter of flood protection now protects 10 times as much value as before. The optimal levee size is still 4 meters since floods don’t get higher than that, and we’ll assume that it costs the same to produce. Now, someone who owns just 15% of the property in the neighborhood is willing to build all 4 meters of the levee themselves, even though the entire neighborhood will benefit.

General Principles

Our neighborhood managed to produce the efficient amount of a public good without state intervention or even voluntary interpersonal organization. How dependent was this result on the specifics of our above example, and what conditions need to be satisfied for this result to replicate?

The most important condition is that the optimal quantity of the public good does not rise, or at least does not rise 1:1, as consumer surplus from the good rises. In our example, the optimal size of the levee in both cases was 4 meters because waters never rose higher. Even if the optimal size did increase, as long as it didn’t increase to 40 meters, the neighborhood would get closer to an optimal provision as their incomes, the value of flood protection, and the investment in the land increased. If the total benefits from a public good are rising relative to the cost, then the amount of that public good that individuals are willing to provide themselves rises.

Increasing incomes upped the provision of the constant cost public good in 3 ways.

1. Diminishing marginal utility of wealth
   

   The richer people get, the more resources they are willing to spend per unit of benefit. In our original neighborhood, no one would have paid $250,000 for only 15% of the benefit from a levee, but as incomes increase this deal looks better and better as the $250,000 becomes less valuable relative to the protection afforded by the levee.
   

2. Increasing total benefit of the public good
   
   The diminishing marginal utility of wealth effect usually goes hand in hand with greater investment into the property or resources that benefit from the public good, increasing the total benefit it provides. In our neighborhood example this happened through increased investment in construction on their land, making flood protection more valuable to each resident. This happens with many other examples of public goods such as public monuments or parks, lighthouses for larger and larger ships, urban development around transportation infrastructure, and investment in policing and fire protection in growing neighborhoods. If total benefit rises relative to costs, then individuals are more likely to provide public goods.
   

3. Technology increasing productivity of resources

   
   Another trend usually paired with income growth is increasing productivity. We didn’t even consider this effect in our neighborhood example but the decrease in the cost of levee construction thanks to huge leaps in productivity would likely have been the largest effect over the 100 years of our British neighborhood, further increasing the private provision of the public good. This force of increasing productivity has obvious applications to all other forms of public goods. Externalities don’t need to be internalized if they are so cheap to produce that even privately captured benefits are enough to incentivize efficient production.

Real World Examples

1. Technology increasing private provision of public information goods

   Matching with the predictions of the 3rd principle above, the dizzying increases in the productivity of writing, images, and videos thanks to the internet has led to a proliferation of privately provided public goods. The wealth of knowledge and entertainment on Wikipedia, YouTube, and Twitch creates massive uncaptured surplus, but these services are now so cheap to create and maintain that the creators don’t mind and are willing to do it for the small part of the value that they capture. A specific example is found in Khan Academy. Sal Khan was already willing to produce math tutorials just for his cousins in India, but the costs of opening up this jointly-consumable good to the world are so low that we all get to enjoy them.
   

2. Increased investment in property leading to better provision of public goods.

   
   If our above example reveals true general principles, we should expect that private provision of public goods is more common when the value of that good increases. Despite frequent crowding out by governments, we do see this trend in private cities/residential developments around the world. Gurgaon, India has grown from a sparse agricultural village to a gleaming private city.

   

   Although it certainly has challenges in its infrastructure provision, their sewage, policing, fire, and transportation infrastructure compares favorably to other Indian cities.
   

3. Diminishing marginal utility of wealth leads to more money being donated to public goods causes than ever before

   
   Charity is bigger than ever both in absolute amounts and as a percentage of GDP.

   

   Increasing wealth makes people more willing to spend on altruism and community goods.

Limitations

As stated earlier, growth in income and productivity aids the provision of public goods most when they come in discrete ‘lumpy’ pieces, have naturally imposed natural scales like dams or bridges, and when the optimal quantity or cost does not increase with income. These conditions apply to many common examples, but certainly not all.

National defense, for example, plausibly gets more costly as global incomes and technological capacity rise because investments by other nations have to be matched or exceeded to maintain one’s position in the relative power rankings. Many important market failures are not actually public goods problems, but commons problems like shared natural resources. Since these cannot be jointly consumed, private provision can’t have the same positive externalities as in the above cases. For some public goods, such as air quality, the scope of ‘the neighborhood’ becomes so large that it is unlikely that any single interest will internalize enough of the costs of air pollution to get close to efficient provision of air quality, note that this applies to governments too.

Conclusion

Economic and technological growth have obvious direct upsides. Less considered is their propensity to increase altruism, cooperation, and production of positive externalities. This updates models of ideal government action away from targeted social policies or market design, and towards Stubborn Attachments style high-growth targeting.