VARIABLE VERSUS FIXED RATE SUBSIDIES: ARE THE LATTER NECESSARILY LESS EFFICIENT?

a recent article in this journal, Stutzer (1984) investigated the relative in-efficiencies of fixed versus variable rate subsidies as they pertain to analyzing different forms of revenue sharing. His analysis butlds on the theoretical presumption that a variable rate subsidy is generally less inefficient than a fixed rate subsidy of equal size. In this article it is shown that if the good being subsidized is a public good, it is possible that a fixed rate subsidy will be more efficient than a variable rate subsidy from a benefit-cost analysis perspective, once collective decision-making aspects are incorporated into the analysis. This indicates the importance of incorporating the presence of public goods, when appropriate, into an efficiency analysis to see whether traditional results are still valid. In a recent article in this j ournal, Stutzer (1984) evaluatedthe relative inefficiencies of fixed versus variable rate subsidies as they pertain to federal revenue sharing. His analysis builds on the basic theoretical presumption that under fairly general conditions the inefficiency (or &dquo;deadweight loss&dquo;) of a variable rate subsidy is smaller than that of a fixed rate subsidy of equal size. In this article I will show that this theoretical presump-tion is based implicitly on the assumption that the good being subsidized is not a public good, an assumption that could be violated in many cases of revenue sharing. The lesson of the generally inefficient provision of a public good under (for ex-ample) a simple majority voting mechanism should lead us to be AUTHOR’S NOTE: I would like to thank the referees of this journal for helpful com-ments on an earlier draft of this article. Any remaining errors are my own