gmrts oon any a¥Dm,AV KARNATAKA STATE OPEN UNIVERSITY aingronars, ayxat - 420 COL Mukthagangothri, Mysore - 570 006 Economics Final Year M.A. Welfare Economics x QS gine QW Rech - tad Paradox _ B's origin Edgeworth Contract curve Clothing for 'B’ ‘Aisorigin Food for'A Block-1Karnataka State Open University (KSOU) was established on 1" June 1996 with the assent of H-E. Governor of Karnataka as a full fledged University in the Academic year 1996 vide Government notification No./ED/UOV/dated 12” February 1996 (Karnataka State Open University Act — 11992). The Act was promulgated with the object to incorporate an Open University at the State Level for the introduction and promotion of Open University and Distance Education Systems in the education pattern of the State and the Country for the Co-ordination and determination of standardof such systems. ° With the virtue of KSOU Act of 1992, Karnataka State Open University is empowered to establish, maintain or recognize Institutions, Colleges, Regional Centres and Study Centres at such places in Karnataka and also open outside Karnataka at such places as it deemsfit. All Academic Programmes offered by Karnataka State Open University are recognized by the Distance Education Council (DEC), Ministry of Human Resource Development (MHRO), New Delhi. Karnataka State Open University is a regular member of the Association of Indian Universities (AIU), New Delhi, since 1999. Karnataka State Open University is a permanent member of Association of Commonwealth Universities (ACU), London, United Kingdom since 1999, its member code number: 2KASOPENUINI Karnataka State Open University is a permanent member of Asian Association of Open Universities (AOU), Beijing, CHINA, since 1999, Karnataka State Open University has association with Commonwealth of Learning (COL), Vancouver, CANADA, since 2003. COL is an intergovernmental organization created by commonwealth Heads of Government to encourage the development and sharing of open learning distance education knowledge, resources and technologies. Higher Education To Everyone EverywhereFinal M.A Economics Course 5 Welfare Economics Block 1 Page No. Unit -1 Nature and Scope of Economics -I 01 -12 Unit -2 Nature and Scope of Economics -II 13 -25Course Design Committee Prof. M.G. Krishnan Prof. S.N. Vikramraj Urs Vice-Chancellor & Chairperson Dean (Academic) - Convenor” Kafnataka State Open University Karnataka State Open University Mysore ~ 570 006 Mysore — 570 006 C. Govindegowda Chairperson Department of Studies & Research inEconomics Subject Co-ordinator Karnataka State Open University Mysore - 570 006 Dr. Bharathi.M.R Reader Department of Studies & Research inEconomics Co-ordinator Karnataka State Open University Course 5 Mysore - 570 006 Course Writer Dr. Bharathi.M.R Block - 1 Reader Units 1-2 Department of Studies & Research in Economics Karnataka State Open University Mysore - 570006 ‘The Registrar Kaataka State Qpen University Publisher Mukthagangotri Mysore - 570006 Developed by Academic Section, KSOU, Mysore Karnataka State Open University, 2013 All rights reserved. No part of this work may be reproduced in any form, by mimeograph or any other ‘means, without permission in writing from the Kamataka State Open University. Further information on the Karnataka State Open University Programmes may be obtained from the University’s Office at Mukthagangotri Mysore Printed and Published on behalf of Karnataka State Open University, Mysore by The Registrar (Administration).COURSE V BLOCK WELFARE ECONOMICS, BLOCK INTRODUCTION ‘Students are introduced to welfare economics. In this: ‘Block there are two units which provide information regarding the nature and scope of welfare Economics and the evolution of Welfare State. In the first unit some definitions and subject matter of Welfare Economics are discussed. Itis also analysed that Welfare propositions re not positive, they involve value judgments. In the second unit, the evolution and functions of welfare states are studied. The Industrial Revolution, Russian Revolution and Great Depression have had impacton the economic policies of the Various states. “Welfare State is not an organization like capitalist or Socialist economies. The welfare activities can be carried in all types of economies.UNIT-1 NATURE AND SCOPE OF WELFARE ECONOMICS -I Structure 1.0 Objectives 1.1 Introduction 1.2 Some definitions of welfare Economics 13 Naure of welfare Economics 1.4 Subject matter 1.5 Positive Economics and welfare Economics 1.6 Defining Individual, general and social welfare 1.7 General Welfare and social welfare 1.8 Individual welfare and social welfare 1.9 Valur *udgement in welfare Economics 1.10 LetusSum Up 1.11 Some questions 1.12 Books.1.0 OBJECTIVES: After studying this unit you should be able to explain. * Maximum Social Welfare. * — Beonomics is not positive, it makes prescription, * — Thereason for the use of value judgements in making prescriptions. 1.1 INTRODUCTION ‘Microeconomic theory deals, with positive aspects. It explains optimum allocation of resources alindividual levels. Itexplains how individual consumers maximize their utility function and firms thelr profitfunctions. An analysis ofthe various aspects of economic theory itmay appear that if all individuals, firms, optimize their resource allocation the total output of goods and services available to the society will be maximum. But it may not be so. Because private and public interests cati ané'dd conflict. Optimum resource allocation from an individual point of view may not conform to the tests of optimum allocation of resources from the point of view of social well being. The positive micro economic theory does not answer many problems relating to criteria of maximum social welfare arid does not throw light on the designing of appropriate policy measures that can maximize the economic well-being ofthe society as a whole. The branch of economic analysis which is concemed with the problem of maximizing social welfare is called welfare economics. 1.2 SOME DEFINITIONS OF WELFARE ECONOMICS Welfare Economics examines the conditions that maximize economic welfare ofthe society as a whole. Oscar Lange Says “Welfare economics is concerned with the conditions which determine the total economic welfare of a community”. Reder defines welfare economics as that ‘branch of economic science’ which “attempts to establish and apply the criteria of propriety to economic policies”. Mishan explains the theoretical welfare economics as that “branch of study which endeavours to formulate propositions by which we may rank on the scale of better and worse, alternative economic situations open to the society. "So in welfare economics itis possible to evaluate alternative economic situations and determine the desired situation. It explains and evaluates the various economic situations from the view point of economic well- being of the society as a whole.13 NATURE OF WELFARE ECONOMICS ‘Welfare economics is a kind of weasel — word with at least two commonly accepted meanings. @ Itis the formal treatment of principles of economic policy which involves standards of judgement. Economic theory is applied and economic policy is generated in the analysis of social welfare. ‘This makes welfare economics a generic term for the normative aspect of economics. @ ‘Welfare economics is an analysis of theoretical welfare economics. Then it deals with the formulation of welfare propositions or jugements based on factual and ethical assumptions to determine social optimum or optimum of social welfare. Itis chiefly concerned with welfare theory. Welfare economics is that branch of economics which sets up standards of judgement which helps to judge whether a situation is economically desirable or not. It enables one to rank various alternative economic situations opened to a society. Every society attempts to choose that policy which helps to attain maximum social welfare. Itis necessary to formulate a yard stick to ascertain whether social welfare has increased or decreased or social welfare is more or less. The yard stick provides standards of welfare judgement. ‘They are the tools to examine the attainment of optimum social welfare. These welfare criteria become the basis for judging the propriety of economic polices or economic states from the point of view of maximization of welfare. The welfare criteria help to formulate propositions which serve as a basis for policy recommendations, Welfare propositions are the outcome of logical exercises. The propositions are based on a set of definitions and on factual and ethical assumptions. In this exercise it is Possible to deduce the conditions under which social welfare increases. Welfare propositions make use of factual and ethical: assumptions and hence welfare propositions are normative in character. Welfare propositions become practical when these propositions are based on widely acceptable ethical assumptions. Itis possible to consider diverse ethical postulates theoretically. Then we get a host of welfare propositions. Then itis possible to have different views about the desirability of an economic state or system. Modem welfare economics is based upon one fundamental ethical assumption. Eg, ‘Samuelson points out the consideration of individual preferences. This consideration helps to judge whether a situation is good or bad. Welfare economics is a device to make a choice of economic policy from the view point of maximizing welfare. Welfare economics emphasizes optimum social welfare. Optimum social welfareconsideration may overlook many other consideratians which.are assumed to be unaffected or at any rate notunfavourably affected by the changes in economic welfare: It may notindicate welfare maximisation with reference to maximizing unit and‘to time horizon. The maximizing unit may be national unit, a group of countries, whole world. It has no time horizon. Itis not clear whether the objective refers to weighing of different generations. Itis pointed out that the appropriate inclusion of objectives expressed local and {temporal terms will naturally involve complex value judgement and multiple welfare criteria. Welfare maximization may thwart the conflicts between objectives viz full employment, price stability, social justice, conservation of natural resources and so on which need to be compromised. So the unpacking of the hold of ail objectives of welfare maximization into several objectives would require multiple value judgements and multiple welfare criteria. Itis only the pluralistic formulation of welfare maximization as toinclude a set of objectives that would enable the welfare economist to suggest and recommend suitable economic policies. There have been attempts ina number of recent writings to break away from the monistic treatment of the objectives and criteria of economic policies and to start from a manageable set_ of several objectives which constitute the welfare function for the. policy maker. Eg. Tinbergen describes his set of objectives or aims as elements of welfare or the elements of entering into policy maker's function. The plunilistic formulation of objectives as compared with welfarist monism. will help more effectively the elucidation of the policy choices and in the achievement of specific goals more effectively. 14 SUBJECT MATTER ‘The subject matter of welfare economics can be explained with the help of outlining the development of welfare economics and the purposes for which it stands for. Welfare economics as a separate entity became prominent in the later part of 19* century. Before this period, the classical writers like Adam ‘Smith, Malthus, Ricardo, Mill combined analysis and advocacy. Their theories have a number of welfare implications. They adopted prescriptive approach to resolve economic problems; ‘Welfare economics attained a separate entity when A.C. Pigou wrote "Economics of welfare” Hyint points out that the classical economists have pointed out a great deal on wealth, trade, tax and others which can be brought under the scope of welfare economics. Pigou has elaborated the ideas of Marshall. So the ideas of Pigou and Marshall are treated as the ideas of New classical school. The work of Wilfred Pareto represents the emergence of welfare economics as separate school of economic thought. Economists like Leer, Hicks, Kaldor, Hoteglling, Reader Bergson, Sarmuelson-and others developed welfare economics taking the clue from Pareto. Kaldor, Hicks, Scitovsky, Little and others explain compensation criteria. Bergson and Arrow have attempted to construct social welfare function:‘They argue that a unique social welfare function cannot be constructed, without imposition of dictatorship. (Of late, writers like Anthony Down, J.M.Buchanan, Bardon Tullock have established linkage between ‘welfare economics and politics. Welfare economics therefore has tended to be a social science of ethics and politics. Welfare economics has analysed three issues Eg Adamsmith explained wealth and welfare. He quantified them in the analysis. He measured economic welfare interms of physical output and utility. Utility is a subjective measurement. The siubjective measurement has thrown light on the complexities involved in the measurement and has helped to identify the increase or decrease in welfare of the individual or group: Second, the welfare economists have explained ,welfare criteria, Paretian criteria and compensation principle to evaluate alternative situations. These enable to analyse maximization of welfare or to attain social optimum by applying the maximization techniques of price theory. Eg. Bergson- ‘Samuelson social welfare function helps to rrive at unique optimum which combines economicefficiency with distributive justice. Third welfare proposition helps to provide policy guidance. Eg SK Nath has said that there is nothing to say welfare economics is apriori Economic theory can be applied to study economic problems and given the value judgement the application of theory helps to process decision making, So welfare economics is policy economics. 15 POSITIVE ECONOMICS AND WELFARE ECONOMICS ‘Modem economic theory can be divided into Positive economics and Welfare economics. Positive ‘economics explains ‘whatis ‘of a situation. Normative economics explains “What ought to be” of a situation. Positive economics explainsthe working of an economic system. Welfare economics prescribes policy for the economic system to operate ina particular manner. Economic theory is prescriptive and hence normative in nature: Welfare Economics is normative. Eg. Price theory is adopted to the task of stating the norms or standards of an ideal economy in welfare economics. An ideal economy ensures the maximum of economic welfare-subjective satisfaction-obtainable from economic resources. So welfare ‘economics is Normative in nature. Inany form of economy, capitalist or Socialist, these are basic economic ptoblems which have to be ariswered. The basic economic problems ate (a) What to produce? (b)How much to produce? (c) _ How are the goods to be produced-or technology-to be used ? (d) How ate.the ptéducts to be distributed ? (e) Are the resources utilized efficiently? These problems are éhiswered with the objective of maximizing social welfare. The decisions regarding these problems are taken keeping in view the critéria of welfare judgement. The society decides what is desirable economically for the group or the society. Thus the tools of economics help to resolve the economic problems from the view point of“There is major difference between welfare economics and positive economics. Positive economics are deduced froma setof assumptions. Itis not possible to test the assumptions directly. The propositions are being tested by the observation of the real world. Eg. The law of demand explains the inverse relationship between the level of price and the quantity demanded. This law can be falsified, referred or verified by observation of market phenomenon. Propositions in welfare economics like positive propositions in economics are logical deductions from a set of definitions and assumptions. Afier defining welfare conditions and making assumptions we can deduce conditions under which welfare increases or decreases. If the welfare does not increase despite the fulfillment of conditions t follows that the assumptions are wrong. Thus thereis no difference between positive theory and normative theory. But the difficulty arises when welfare is increased. Because welfare is not an observable quantity. It cannot be observed like market price. It is difficult to test welfare propositions. In positive economies conclusions are generally tested. In welfare economics the assumptions made have to be tested. So welfare criterion is difficult to be deduced. Itis necessary to collect data and tomake relevant ethical assumptions, In this regard Dr.Graff says that in positive economics the proof of the pudding is indeed in eating. In welfare economics the welfare cake is very hard o eat. Onecan only have the sample of ingredients before baking. 1.6 DEFINING INDIVIDUAL, GENERAL AND SOCIAL WELFARE. In welfare economics we use individual welfare, social welfare, general welfare etc. They need tobe defined. Let us try to define welfare. Welfare to be defined invloues value judgement. It cannot be explained with empirical language. Itis a value word. How is welfare perceived? Answer to this does not involve value judgement. The study of the process of welfare perception is the domain of philosophy. Welfare perception or identification is applicable to any form of political, social and economic organization and which does not rule out any social intervention. Welfare of an individual is what that individual perceives itt be. Itwas Pigou who popularized the word welfare in Economics. Smith used wealth, happiness, satisfactions instead of welfare. IMD Little has employed happiness and welfare as synonyms.1.7 GENERAL WELFARE AND ECONOMIC WELFARE Welfare of a community, or a group or a community depends on economic and non economic factors. A comprehensive investigation of all the factors affecting welfare is intractable both from the stand point of analysis and of diverse nature of factors that affect welfare. Prof. Pigou has restricted the scope of Welfare Economics to Economic Welfare. Economic welfare is a part of general welfare. This can be brought directly or indirectly under the measuring rod of money. Soiitis the satisfaction derived from the use of exchangeable goods and services. ‘Welfare as explained by Pigou is a part of general welfare or social welfare. This is misleading. It is harmonius whole. There are no economic states of mind says Robbins. There are economic factors involved in the achievement of the states of mind. The measuring rod of money does not provide the accurate measurement of economic welfare. Welfare economics deals with economic welfare, other aspects of welfare non economic welfare are generally assumed to be unaffected or at any rate not unfavorably affected by changes in economic welfare. 18 INDIVIDUAL WELFARE AND SOCIAL WELFARE. ‘The subject matter of welfare Economics is mainly social welfare. In welfare economics the contribution that economics can make to advancing social welfare is studied. Social welfare is the sum total of individual welfare. Then what is individual welfare? Itis difficult to define individual welfare in objective terms. Terms like calorie intake, integration of the personality, lingevioty, are arbitrary indicators, welfare is astate of mind. It is said that individual gets welfare when he consumes a good or enjoys a joy ride..Itis remarked that Beer and Bibie give satisfaction to the same individual but they are enjoyed at two different planes. One is sensual and another spiritual. Welfare resides in the state of mind. It consists of one's utility and satisfaction. Prof. Piogu has given subjectice interpretaion of individual welfare. He state welfare as states of consciousness. Modern economists have tried to link individual choice and welfare. This linking has made the measurement of welfare objective. Itis possible to identify individual welfare. Eg. Ifindividual welfare is more in A than in B, it means an individual chooses A to B the positive correspondence between welfare perception and preference heips to identify objectively the changes in welfare between any twosituations.Social welfare cannot be defined easily. Social welfare, either subjectively or objectively cannot be interpreted. Society in not an organic whole. It does not have a sigle mind. Itis not reflected in social choice for unanimous social choice has proved to be unattainable. Social choice is derived from individual choices. Social welfare is the sum total of individual welfare. It involves interpersonal comparison of utility and aggregation. Social welfare makes use of value judgements. Dr. Graff has furnished three concepts of social welfare. () __ Paternalist concent of social welfare ignores individual preference. It decides whatis ‘welfare for the society. Paternalist authority may or may nottake economic content of welfare in terms Of national income and its distribution. An economist cannot say anything about welfare until the concept of welfare of the patemalistis made known Gi) Social welfare is based on Pareto’s welfare critera. Itrules outinterpersonal comparision of utility and accepts a simple ethical postulate that itis a good thing to do good to others. Social welfare formulated on Paretian assumptions will result in heterogeneous collection of individual welfares. Paretian Lype of social welfare states that if any reorganization or change makes at least one person better off and none worse off, then group welfare increases. (iii) The third concept of social welfare admits the inter-personal comparisons with some explicit value judgement. Thisis suggested by Bergson. Bergson social Welfare function is the individualist type. This may be expressed as W(u',u’.......u")u are the utility functions. They are the choice indicators of n numbers of society. The ethical postulate assumed denotes the method of adding individual members of the society. Bergson type of social welfare function has a high degree of generality. It has diverse set of value judgement. With this Paretian class of welfare functions can be formulated. Itis possible toevolve Patemalist type of rocialist function. Paternalist type of social welfare reflects the views of paternalist authority and the variables on which the social welfare function depends will not denote individual utility, functions. In Paretian type of social-welfare function non-admissibility of inter-personal comparison holds good. But the change in welfare of the society can be expressed with a broad ethical judgement (that is good thing to dois to do good to others). 1.9 VALUE JUDGEMENT IN WELFARE ECONOMICS Welfare economics is basically founded on value judgements, welfare propositions are in the form of ethical postulates. IMD Little has pointed out that welfare economics and ethics cannot be separated. Welfare terminology is a value terminology. One takes up moral interest in welfare and happiness. i 8‘Value judgement is essential in welfare economics for a number of reasons. ‘The term welfare is ‘a Valuation term and not an observation term. Welfare cannot be expressed in empiricist language. Thus welfare term is a value word which must be assigned some definite meaning. “The objective of the study of welfare economics isto find out what is the best thing to doin ‘various situations. It prescribes policies. It has to consider what is desirable, good or of some social objective. This requires implicit and explicit value judgements.. ‘Welfare Economics is concerned with the social welfare and not with individual welfare. A criterion of an increase or change in the welfare of individuals is the basis from which we.can deduce ‘changes in social welfare. Social welfare comprises of individual welfare, But the transition from individual to special welfare involves the problems of interpersonal comparisons and of aggregation. These problems can be settled by assuming some value judgement. NATURE OF VALUE JUDGEMENT Itis difficult to define value judgement. There are many definitions . From the stand point of scientific objectivity i, political and ethical neutrality-which helps to distinguish between positive statements aid normative statements, itis possible to define value judgement Eg. K.R. Popper has given “demarcation criterion”. Accordingly statements may be scientific and non scientific, Scientific statements are inter-subjectively testable. Non scientific statements cannot be verified. Ethical and political judgements, value premises, prescriptions and persuasive judgements constitute nonscientific or the whole class of value judgements. Value judgements are positive statements. They are discussable. They are subject to rational ‘examination. Value judgements contain some positive and normative elements and they should be separated, ‘out for arriving at conclusions. E.g. “Price Stability should be maintained” isa value judgement. Once this objective is accepted itis possible to discuss its desiral ¥y causes and consequences of price stability and policy measures towards the attainment may be suggested. S.K.Nath has given a broad definition of value-judgemient. Any statement which implies recommendation is a value judgement. Any statement which implies recommendation of any kind is a value judgement, Itincludes all ethical judgements and descriptive statements, statements which are recommendatary persuasive or influential. We can take a few examples. Adarnsmth remarks that defence is better than opulence. This is suggestive and recommendatory statement. These is another statement. An increase in National income would increase social welfare. Itdescribes i fact and suggests what ought to be done to increase welfare. Direct tax may be preferred to bring about equality in distribution of wealth, All these statements are suggestive and are value judgements.IMD Little says any persuasive statement is a value judgement. Many economic statements may appeardescriptive. But they have value implications. The phrases like increase in welfare, increase in real income have to be made terminologically clear interms of what ought to be done. Persuasive definitions must influence what is judged important or desirable in either political or ethical respects. ‘Value judgements are those judgements which help to make clear what is desirable or not desirable. They denote either ethical or political desirability value judgements have no scientific validity and arenot falsifiable, ‘The basic purpose of welfare economics is to formulate welfare criteria so that the desirability of economic policies or economic state can be evaluated. The development of welfare criteria involves value judgement, We can see this by examining various criteria offered. (@ _ Pigou has explained dual criteria (you are going to study this in the third Block) for judging improvements in social welfare. He considers the sizeof the national dividend and the distribution ofincome. (i) Paretocriterion also makes value judgement ( you are going to know about this in third block (ii) _ Hicks-Kaldor compensation criterian which evaluates those economic changes which benefit some and harm others. According tol M D Little Hicks-Kaldor criterion involves value judgement. (iv) Economists like Abram Bergson and his followers like Samuelson, Little and others have maintained that welfare conclusions are based on value judgement. (You are going study them in third and fourth block). ‘There are two views about value judgments in economics. (1) Prof Robbins emphasized purely neutral analysis. He has tried to separate Ethics from Economics by making Economics purely a positive science. (2) The second group of economists comprise of Samuelson, IM D Little, Bergson who hold the view that welfare prescriptions cannot be made without value judgement. 1.10 LETUSSUM UP ‘Welfare Economics is that branch of economics which is concerned with the problem of maximizing social welfare. Itexamines the condition that maximizes economic welfare of the society as a whole. It is the formal treatment of principles of economic policy which involves standards of judgement, Welfare propositions are based on value judgements. 101.11 SOMEBOOKS 1. Kundu - Welfare Economics 21MDLittle - A Critique of Welfare Economics 3. dev Graaff : ‘Theoretical Welfare Economics 1.12, QUESTIONS 1. Discuss the subject matter of welfare economics. 2. Examine the view that welfare propositions are based on value judgement. ulNotesUNIT-2 NATURE AND SCOPE OF WELFARE ECONOMICS-II Structure . 2.0 Objectives 2.1 Introduction 2.2 Concept and evolution of welfare state. 2.3. Different functions of welfare state. 2.4 Allocation function 2.5 Distribution function 2.6 Stablisation function 2.7 Less Developed Econoriy-state functions 2.8 Social Security schemes 2.9 Social overheads 2.10 Public Sector Enterprises 2.11 LocalGovernment and public participation 2.12 Disadvantage of Public Sector Enterprises 2.13 LetusSumUp 2.14 Some questions 2.15 Some Books20 OBJECTIVES A sstudy of this unit enables you to explain * The meaning of welfare state. * Functions of a welfare state. * Need for state intervention in various economic activities 2.1. INTRODUCTION In this unit an analysis of the role of the Government.in unifying economic growth and social welfare is undertaken. If economic growth is accompanied by social welfare, growing material wealth becomes meaningful in terms of human values. Let us presuppose that there is the existence of a democratic welfare state. {t is ready and willing to adopt deliberately such policies as would achieve what Sir Roy Harold calls “the welfare optimum”. In this achievement the society does not sacrifice liberty, equity, amenity, variety, gaiety and other social values. No country in the world would tolerate the classical “abstinence of the rich” based on great income disparities, artificial expansion of output and employment based on ‘precarious warlike stimuli, rapid but unstable formation of capital based on forced consumer austérity or laissez-faire producer activity. ‘The present day govemmments are convinced that welfare content of an expanding GNP must be accompanied by “the greatest happiness ‘the greatest nurnber”. This calls forsectoral aiding, institutional remoulding and cultural reconditioning. The developing countries at present are adopting Keynesian macro economic controls (fiscal-monetary) with state, owngeshipof selective tnterprises! They are synchronizing post Keynesian emphasis on the growth of effective demand with the new classicdl stress oon the growth of productive capacity and equitable distribution of wealth and incomes. The Gavernment of the present world are not ignoring the democratic will of the people in general. 2.2 CONCEPT AND EVOLUTION OF WELFARE STATE There are two concepts of welfare state. A welfare state in the west which provides a wide rrange of social services like education, health unemployment benefits. Old age pensionand soon, Welfare state attempts to provide economic security toits citizens. Apart from these types of normal services the welfare state provides benefit known as national assistance tothe poor. Weltare state takes special careto provide Health assistance, compulsory education which is free upto a'stage. Such welfare states are seen in U.S. Britain, Australia, Newzealand, Canada etc. Inless developed countries like India state provides basic social services. It also takes up services like rural development, labour welfare and reducing economic inequalities. “Welfare” isthe result of industrialization of 19* and 20 centuries. It was found earlier also. In Europe in the middle ages church used to take up the welfare of poor. In England in 16* century poor Laws were enacted to look after the poor. It continued tll the end of 18% century. In 19* century the doctrine of Laissez-faire advocated non intervention of the Government in economic activities. Although there was increased output, it resulted in uneven distribution of wealth because of the policy of “neutral” state, There were economic fluctuations. This led to the starting of a movement towards greater social justice. It met with litte success. ‘Towards the end of 19* century under the leadership of Bismarck of Germany a social security scheme was introduced which was taken up by all the countries of the west. There were social security schemes such as sickness insurance, old age pensions and unemployment insurance. ‘There were two important events in the 20 century which have revolutionized human thinking — one Russian Revolution of 1917 and other was the Great Depression of 1929-33. The first was the revolution of the labour class and the peasant against the existing order. This made the democratic world to take up measures to establish social justice and abolish the extreme inequalities of income. LDCS have taken up measures forrapid economic development taking inspiration from the example of Russia. ‘The great depression of 1929-33 brought out clearly that the capitalist economy may not be able touse technical development so as to achieve fullest production and raise General standard of living. The depression showed the importance of distribution. It was felt that greater social justice and more ‘economic democracy were required to make the economy fully employed and improve the standard of living. The welfare state owes its existence to teachings of Marshall, Pigou, Keynes, Beveridge, Bergson and Karl Marx. ‘Welfare state developed under the influence of socialist principles of equality and justice. Itis compatible ina capitalist economy. Eg U.S.A. has provided a considerable social services. But there is considerable uneven distribution of wealth. In Russia although a socialist country many important social services have not been provided. is‘A welfare state is not a separate economic organization just as a capitalist economy or socialist economy. It reférs to the types of services provided by the state to its citizens. All countries have elements of the welfare state in their arrangements, the differences are only of degree. 23 DIFFERENTSFUNCTIONS OF WELFARE STATE There are a number of economic activities of a state at present. The activities of a state or a Government share the course of development. They affect aggregate resource use and financing patterns in an economy. They affect monetary and exchange rate policy influence the balance of payment, accumulation of foreign debt, rate of inflation, interest and exchange. They affect the behaviour of producers and consumers. They influence the distribution of wealth and income inthe country. Economic activities of the Government extend to almost all aspects of life of an individual as also of the whole society. 2.4 ALLOCATION FUNCTION Allocation function is a very important function of a welfare state. Every society faces the basic ‘economic problem. Resources available to a society are limited. Resources may be natural resources or factors of production like land, labour, capital and organization. The state of technology may also be limited. All these point out the need for allocation of resources in an economy. Inan economic system it is necessary to determine the pattem of production. Which economic ‘good should be produced must be decided. In what quantities they should be produced is another matter tobe decided. Allocation function has another dimension at present. Itis concemed with institutional ‘means through which the allocation decision are processed. Modern society has two institutions through ‘which allocation branch of economics is made, private sector and the Government institution namely public sector. (Allocation function of the Government is explained in M.A. previous in course IV unit 1) ‘There are various allocational instruments which are used to influence resource allocation in an economy. The instruments are applied directly and completely by Government. They are used to finance and produce Economic goods. They also produce component parts of the goods and can directly control all resources ted in the production of the component. Eg. Defence. These goods are financed by taxation. ‘The public sector finmnces and produces an economic good but purchases some or all components or productive resources including labour in the market. It does not charge directly for the good but instead finance it via taxation. Public sector may also control or own the monetary system.‘The Government may provide an economic good by charging a price. It may influence the allocation of resources in a society through its policy of subsidies, regulation, production, joint venture, ratio, consumption of goods and resources, controlling quality, license, insurance, patent rights, General antitrustregulation, fiscal measures and property rights. It may be argued that all resource allocation decisions could be made within the market ‘mechanism except for providing law and order, and other fundamental government function. Why then does public sector exist for resource allocation in a society? ‘Smith made out acase for public sector on four justifiable categories of Government allocationai activity 1. Maintaining extemal security (National Defence) 2. Maintaining intemal peace (law and order) 3. Establishing and maintaining Highly beneficial public institutions and public 4. Meeting the expenses necessary to support soverign ‘The functions relating to national defence and public works have increased with civilization. Warfare has changed with the invention of fire arms. As the cost of factors is increasing the public work function has assumed importance because roads, bridges , canals, harbours, education, health have to be taken up by the Government , because private individuals, cannot effectively perform on the one hand and they will not on the other hand in this regard. J.M.Keynes reiterated the views of Adam Smith and Mill on the importance of public works allocation by the Government. Itis pointed out that the market failure is an important aspect which has ‘made the intervention of the public sector necessary in optimum allocation of resources. The objective of public sector undertaking to intervene in the allocation of resource is to produce social-optimun output, Allocational; complications arise under. 1. Decreasing cost of production and under imperfect market condition. ‘Zero marginal cost. Joint consumption Extemalities a yop 5. Special supply phenomena which can cause failure in market efforts o allocate resources. (Eg. Inadequate market knowledge) 7‘The public sector intervenes in allocation of resources to attain maximum social welfare. The intervention is done to overcome economic inefficiency. Allocation function is discussed in a normative approach. Emphasis is laid on deriving condition of Pareto efficiency. 25 DISTRIBUTIVE FUNCTION The allocation function is the classical function of the budget policy. It was held that fiscal problem was pure and simple. There was no economic and social consideration. But a policy of the Government does have economic and social consideration. ‘They may be directed to attain ends not connected with allocation function that is satisfaction of social wants. One such objective is to secure adjustment in the distribution of income and wealth that might be considered “fair” or “just” by the society. This is the distributive function of the budget policy. ‘The distribution function aims at shifting resources from the disposal-of one individual to that of another. A given distribution of income may or may not be fair from the point of view of society and the market forces cannot be trusted to achieve the result desired by the society. So Government through its, budgetary policy can bring about the desired change. ‘The main reason for income inequality in a market economy is the payment of factor prices (wages, rent, interest) according to the productivity of factors of production. The market system results inakind of meritocracy in which merit (income) is accorded to those who are endowed with or who acquire the ability to be productive according to the specification of the system. ‘The market does not ‘make provision to pay those who donot have the specification necessary (except charity and philanthropy) . The system does not support such factors. Besides Monopoly also resultsin inequality in the distribution of income in a market system. Market economy calls for private property. All these result in the ‘creation of unequal distribution of income and wealth. Law of inheritance widens the degree of inequality. In welfare economics a consideration is made about economic efficiency in a given income distribution. An economic reorganization may improve economic welfare. Eg. if the position of one individual improves without making any other worse off then social welfare improves. Social philosophy and value judgements are considered here. At present emphasis on reduction of poverty, providing. ‘minimum level of income, fixing a ceiling on high income etc is made. Realisation of these involve tax transfers schemes, negative income tax, progressive income tax etc. 182.6 STABILISATION FUNCTION Itis the newest function of a welfare state. Stabilization function is different from allocation function. Allocation function is mainly concerned with allocation and distribution of resources between private and public wants and distribution of resources between alternative private wants. Stabilisation function is also known as compensatory finance. It attempts to maintain ahigh level of employment and reasonable price stability. The Government has to intervene because full employment and price stability are not automatically achieved in a market economy. The level of employment depends on aggregate ‘demand and output. A Government takes up stabilization budget action in the form of expansionary and ccontractionary fiscal policy. Itis needed to maintain stable aggregate demand. Eg. During depression there is a need to raise aggregate demand through an expansionary revenue-expenditure policy. In a period of inflation demand may exceed available output and restrictive policy is needed to curtail total expenditure. Stabilisation function has assigned great importance since the publication of Keynes, General theory of Employment, Interest and money. The book analysed the causes of instability in employment and prices. Keynes suggested that Governments do possess the instruments to correct and prevent fluctiations in employment and prices. ‘There is a new dimension added to compensatory finance of the Government in a growing ‘economy. In such an economy total demand is not going to be at constant level. Itis closely associated with growing productive capacity and increases in population. Budget policy must be designed to result ina growth rate which moves along with equilibrium path. Itshould also result in maintaing price stability and growth rate. Capital formation is a major determination of growth. So Saving rate is important. Stability and growth are of fundamental importance for LDC where saving ratio is also important. Tax ratio is amajor instrument of affecting savings ratio. For securing economic stabilization fiscal measures are not the only measures of the government. Government resorts to monetary and debt policies, wage and price control to stabilise the economy. 2.7 _ LESSDEVELOPED ECONOMY- FUNCTIONS OF THE STATE Itis possible to examine the relevance of the functions of state in a developing economy. Allocation functions the traditional function and is normative in nature. In the normative study the process of actual determination of Government expenditure and its method of financing are neglected. So for a developing ‘economy the normative approach is less useful. Allocation function discussed in the context of Pareto ‘optimum is based on the assumption of perfect competition. Perfect competition does not always existin adeveloping economy. The traditional theory neglects the effective use of inputs in the production as in traditional theory. Itdoes not consider organization of production. It overlooks the question of time in the discussion of allocation of resources. The inter temporal discussion of allocation of resources assumes importance in developing countries because a choice hasto be made among various investment projects involving long gestation periods. Pareto optimality has a bias towards maintaining status-quo. If the prevailing income distribution is unequal, a change is desirable. In poor countries a large section of population lives below poverty line. Itis necessary to use the Government budgetary policy to lift the people above the poverty line. Allocation function is generally taken as a pure and simple fiscal function. Distribution function is alien to economic analysis Distribution function is referred to as the theory of factor pricing and division of national income among returns to land, labour, capital and organisation. Its imortance lies in the efficient allocation. There is a need to pay the price to factors of production that is equal to theit marginal productivity. Butthe theory of efficient factors use by itselfiss not a theory of distributive justice. No attempt is made to equate the reward for factor services. Distributive function assumes importance in an economy where there is a big group of people who does not get the bare minimum necessity of life. Eg. Social justice calls for removal of poverty. Greater equity may have positive influence on economic development. It adds to demand and widens the market for wage goods. Greater inequalities in the poor economies leads the rich to take up conspicuous consumption and may not affect savings level in the country as the rich have a tendency to spend and not tosave. If there is an attempt to reduce inequality through high progressive taxes, such attempts would lead to the growth of parallel economy, would act as disincentive tothe honest technocrat and businessman. Analysis of tax burden and benefits of Government expenditure is essential in any positive analysis ofthe distribution function. According tothe traditional approach, incidence of taxes is taken as aggregative, static aud long run one. This approach does not hold goodis less developed counties. In these countries one has to consider dynamic theory of price formulation. There should be a focus on income distribution effects on fiscal system on particular sectors and regions. In traditional theory stabilization function emphasizes dermand management in Keynes framework ‘where goals of policy are employment and inflation control. The scope of stabilization function is large in less developed countries. It includes growth also.2.8 SOCIAL SECURITY SCHEMES ‘A welfare state has to provide social security in an economy. In its widest sense social security means the security of the whole society. It encompasses all activities of mankind in all spheres of human life. When the term is commonly used itcannot measure economic security only under Government auspices. In developing countries economic security does not extend to all members of the society but only to some testricted classes of people like industrial labour, Governmentemployecs. Lord Willam Beveridge introduced social security measure. According to him “Social Secrurity denotes the security of income to take the place of carnings when they are interrupted by unemployment, sickness or accident, to provide for retirement through age, to provide for loss of support by the death of person and to meet aan exceptional expenditure such as those connected with birth, death and marriage” social security measures involve providing: (a) Cash payments to persons and families of a specified class whose income from eaming has been reduced drastically or ceased temporarily or permanently. (b) _ Italso provides medical benefits and care to persons in the specified class in the event of sickness, matemity etc. (©) _Itprovides cash payments in the form of stipends, pension etc to the dependants of an ‘employee in the event of his death. Social security measures are of two categories like social insurance and social assistance. Social insurance schemes are usually financed through contribution by the employees ‘employers and the state. ‘The benefits of insured persons are linked to their contributions. Social assistance schemes provide assistance to the poor and the needy. They are not linked to the contributions made by the persons and are financed from the general revenue of the state. Provision of social security has ‘gained importance since industrial revolution, 2.9 SOCIALOVERHEADS Social overhead capital is recognised as a factor entailing external economies. Itis said to induce private investment. Ithas been defended on welfare grounds. These traditional criteria are no longer adequate to justify the case for a larger amount of social overhead capital. The present day developing countries require a large amount of social overhead capital to provide higher standard of living. This calls fora new criterion called growth criterion of social overhead capital. 21210 PUBLICSECTOR ENTERPRISES Public sector assumes importance in the context of development. It plays an important role in ‘countries where the process of industrialization was initiated quite late. The contribution of state in industrialization has been important even in countries like Japan, Germany and the USA. In many countries activities of the public sector were restricted to a limited field like irrigation, power, railways, ports communications and some departmental undertakings. As economic development efforts increased public sector has taken up many more activities. The intervention ofthe public sector becomes important in the development of heavy and basic industries. It has taken up some of the consumer goods industry. Ithas control over the banks, financial corporations. Public sector has to make investment in basic areas with long gestation period and low profits. Itis necessary for the Government intervention in industries which require large foreign exchange and complex technology. ‘Government intervention is seen in capital formation. State’s participation in industrialization is essential because Government can enforce a large scale mobilization of capital, the coordination of industrial ‘construction and training technicians. Ithas to provide infrastructure and expand the existing infrastructure. ‘The private sector also benefits from the development of strong infrastructure by the strate. State provides a strong base for industrial developmetn, Defence industries and industries of strategic importance are owned by the public sector generally and they help to strengthen the industial base. Some of the industries like iron and steel, heavy engineering, coal, heavy electrical machinery, petroleum and natural Gas, Chemicals and drugs, fertilizers have to be set up by the Governmnent as such industries do not find favour with the private sector. A.H.Hanson has Temarked "Even the view that itis the function of the state to provide only basic services leaves room for a great deal of public enterprise in manufacturing industry as well as in power, transport communicatrion etc for consumer- ‘goods industries which are usually capable of attracting some private capital depend on the services of the producer-goods industries in which private capital is - at lest initially-less interested. Hence onecan argue without any socialistic overtones that as-for instance-textile food processing industries need the support of native metallurgical and engineering industries and as no private entrepreneur shows any inclination to pioneer the latter, the state must step up and do the pioneering itself". ‘Some industries require huge investment because of technoloigcal reasons. Such industries can be set up in the public sector to prevent the concentration of economic and industrial power in private hands. In the presence of significant economies the free market does not produce the best results. Soby considering economic efficiency requires some form of government regulation or public ownership. Even 2inthe USA electric power, natural Gas, telephones and some other industries are regulated by Federal and State regularatry commissions. In France, United Kingdom, Public Sector is preferred in these areas. Government may resort to state intervention to remove regional disparities in industrial development. Such a setting up of industries in backward areas would_ unleash a propulsive mechanism in them and cause economic development of the hinterland. Public sector checks the concentration of economic power. Profits of the public sector can be used directly by the Government on the welfare programme of the poorer section of the community. Public sector can adopt a discriminatory policy by supplying materials to small industries at low prices and big industrialists at high prices. It can give better wages to the lower staff as compared to the private sector and can also implement programmes of labour welfare, construction of colonies and townships for labourers, slum clearance etc and public sector can orient production machinery towards the production of many consumption goods. It provides much of the required technology and skilled manpower. 2.11 LOCAL GOVERNMENT AND PUBLIC PARTICIPATION Atpresent welfare states are giving importance to local government. Local government has a value as an education for democracy. It is educative for the electors who have to exercise adult franchise. Itis possible to encourage responsible leadership. Local bodies are given autonomy and responsibility. A relatively high rate of locally financed local public works. This may tum out to be an important source of capital formation. There are evidences to show that local bodies undertake development investment of both output increasing and welfare type. Local finance has increased in jts importance due to the rapid growth of urban areas. Local bodies can be effective in providing additional services in the urban areas, These bodies can prevent the growth of urban slums. Many writers have pointed out that the municipal improvements reinforce the forces of faster development. Improved local services may attract wealthy rural people. This provides impetus to small scale and service industries. It may resultin improved local services such as, public health education, building etc. Ina federalism, local bodies become important. Those activities which benefit the local people should be decided upon and paid for within the jurisdiction to which benefits accrue. The local bodies provide big scope for the application of benefit principle on the basis of quid pro quo . 23Inademocratic state like India people should be involved in activities pertaining to their own welfare. Adult franchise involves people participation in the selection of their representatives in state assemblies and country’s parliament. Eg. under Panchayat Raj System old system of Gram Sabha and Panchayats are revived... Thesc institutions involve people in their affairs atthe grass roots. Local bodies are democratic institutions which supply local interest, supervision and care necessary toensure expenditure of money. Money spent on them should conform with the needs and wishes ofthe localities. With this system there is scope for democratic decentralization. Local institutions get empowerment to take up development function in addition to their traditional functions. Local bodies raise adequate resources needed for rural development. There is scope for effective implementation of development programmes and control of elected bodies can provide good fortune, happiness or well being, prosperity and welfare of the people is increased. 2.12 DISADVANTAGES OF PUBLICSECTOR ENTERPRISES Public sector enterprise has its own disadvantages. The intervention of the public sector is not related to maximizing profits. Price policy followed by public sectors related to the objectives of public sector. Even under monopoly a public sector may not maximize profits. Eg. State electricity Boards in India. Indian Railways. Public sector may try to fulfill some social objectiyes even if they incur some Josses or in some case they may try to equate total revenue and total costs. There are two approaches {nits pricing policy — public utility approach and the rate of return approach . Itis pointed out that a large amount of investment has gone into public sector enterprises. Such aninvestment should yield. sizable returns. Otherwise economic development get jolted. Public Sector “organisation has a serious limitation of under utilisation capacity. There are some problems related to planning and construction of projects. Selection of site, understatements on several elements of projects, the actual cost of the project is more than the original estimates, longer- than envisaged gestation period may embody inappropriate technology. Public soctor enterprises are often plagued with undue political interference which has demoralizing effect on the management and other pérsonnel of their enterprises. Professional competency is neglected. Overstaffing unskilled labour payment of higher wages are seen. Its necessary that public sector enterprises should be made effective. 213 LET US SUM-L? ‘Welfare state is everywhere. The attainment of welfare state has been proclaimed as the objective ‘of political polices in almost all the countries. We have discussed the various functions of a welfare state, both in the developed and less developed countries. The aims of welfare state are providing certainminimum necessities to all its citizens, more equal distribution of income between different groups of people and greater production. In less developed countries there are certain limitations associated with state intervention 2.14 BOOKS 1. Kundu - Welfare Economics 2. IMDLitlle - A ccritique of Welfare Economics 3.Jde V Graaff - Throretical Welfare Economics 2.15 _ QUESTIONS 1, Discuss the functions of a welfare state. 2. Examine the role of public sector enterprises in less developed countries. Point out the welfare implications of this intervention. 25NotesNotesNotes edtes ost, : sostnd/emd/4-061/2013-2014 Davos : 24-09-2013 eadabia 1 evcs cefgaent, dior shay akevsbts : 170 6su sence Sayer SET MATE stotipch : elacérsin gotict, Homers, warts : 600> & Karnataka State Open University Mukthagangotri, Mysore - 570 006 freerel refuel ine— S INSTRUCTIONAL SYSTEM