Supplying Public Goods Versus Subsidizing Private Inputs

According to the theory of public econom-ics, only the public sector can supply public goods efficiently (and at adequate amounts) because the market will always under-provide those goods. When supplied in a cost-effec-tive way, public goods will generate higher re-turns than will investments in private inputs because they will create positive externalities for the economy as a whole. Because govern-ments have the capacity to collect individual contributions to provide public goods, they can also capture economies of scale, access funding, and manage risk better than farm-ers can manage it. As a result, they are better suited to supply public goods. However, the impact on productivity of subsidizing private inputs is unclear. As shown in the literature review conducted for the In-donesia Agriculture Public Expenditure Re-view, the record of governments subsidizing private inputs in the agriculture sector is mixed, at best—although many governments spend a considerable share of their budgets on such subsidies. The productivity impact of subsidizing private inputs at the expense of the provision of public goods is often nega-tive (as will be discussed and shown in this “Economic Premise”). Subsidizing private in-put often represents only a transfer of re-sources, with no impact on the consumption of that input; and, even if the subsidy increases its use, its impact on productivity is unclear. For example, there are diminishing returns on fertilizer use beyond a point; additional use may no (or a negative) effect on production if other production inputs are not available. The Importance of Public Spendin