Private Sector vs Public Sector

Readers Question: Does job creation come from public or private sector.

Economists have often argued individuals and firms in the private sector are better at creating jobs and economic growth. The arguments for the private sector include:

Profit Incentive. Private firms have a profit incentive to cut costs and develop products demanded by consumers. In the government sector this profit motive is often absent. Therefore government bodies have a greater tendency to be overstaffed and inefficient.

Bureaucracy. For political reasons, it is sometimes more difficult to get rid of surplus workers in the public sector than private sector. Private businessmen don’t have to worry about political popularity and so are more willing to make people redundant if it helps efficiency. The public sector on the other hand are more likely to employ surplus workers in unproductive jobs.

Crowding Out. If the public sector increases, then this is reducing resources for the private sector. For example, if we raise taxes to increase government spending then this means the private sector has lower resources for private sector investment. Therefore, if government spending can be reduced it will free up resources for more efficient private sector growth and job creation. Though there may be temporary problems from public sector spending cuts, in the long term, it will enable lower taxes and higher private sector investment.

Government spending that discourages productivity.

Some government spending can discourage productivity. For example welfare benefits can reduce the incentive to work and encourage economic inactivity. Reducing welfare benefits (e.g. making it more difficult to claim sickness / unemployment benefits may encourage people to get a work and become economically active. (though may be conflicts with goals of equity)

Arguments for Public Sector

Public Goods.

The private sector will not provide public goods because of the free rider problem. Therefore, the government needs to provide nearly all goods with the characteristics of public goods. This includes street cleaning, military, police and judicial system

Merit Goods Positive Externalities

Goods with positive externalities will be underconsumed in a free market. For example, education and training could be provided in the free market, but generally there is under-consumption of the socially optimal level because private firms ignore the positive externalities. Therefore, the government needs to intervene in public services such as health and education. By providing good quality training schemes, the government can help increase labour productivity and provide private firms with educated workers.

The same argument applies to investment in infrastructure. e.g. New train links and roads.

Macro Economic Stability

The private sector needs macro economic stability. If the government cut spending and create unemployment then it can cause a fall in aggregate demand and lower output. An economic downturn discourages private sector investment and leads to a loss of output in the economy.

No Crowding Out in Liquidity Trap.

If the economy is at full employment and growing strongly, higher government borrowing will cause crowding out. However, in a recession, there may be a sharp rise in consumer saving. This leads to a fall in spending and spare capacity. In this situation an increase in government spending financed by government borrowing doesn’t cause crowding out because the government is using private sector savings that would otherwise remain idle.

Conclusion

Both public and private sector have a role to play. For general businesses without externalities, the private sector are likely to be more efficient and better at job creation. Reducing scope of government spending thus could create more private sector opportunities for investment and job creation.

However, the private sector also need a good public sector to provide, education, health care and infrastructure investments. Also, the private sector need a stable macro-economy which the government may be able to provide. It depends on the situation of the economy. In a prolonged recession, the case for government intervention to create jobs is much stronger than when the economy is growing strongly.

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