Tax and subsidy elements in public enterprise prices

Abstract

A public enterprise (monopoly) usually differs from a private one in four ways. These are: (1) fear of entry is less than is felt by a private monopoly; (2) public control is often ineffective; (3) there is little protest against high prices because of the notion that the profit goes to the public exchequer; and (4) there may be a covert governmental design to acquiesce in high prices as a source of revenue in lieu of taxation. These conditions permit the introduction of tax or subsidy characteristics into pricing. We shall refer to the excess of price over related cost as a tax element (and to a short-fall as subsidy). This tax (or subsidy) may be arbitrary and without public sanction. The price may exceed the limits of usual managerial authority to charge for costs (including costs of capital, even with allowance for growth). Moreover, the managers of a public enterprise are not chosen for their expertise in effecting shifts of purchasing power among consumers a prerogative of the taxing authority. Tax or subsidy elements exist (1) when an enterprise has (a) a single price exceeding the average cost, (b) a price structure involving unequal excesses of price over cost in different markets, products, uses, regions or consumer groups, or (c) a uniform price when costs of supply are dissimilar; or (2) when two or more enterprises supply the same or different products at varying excesses of price over related cost implying the choice of some consumers for more taxation than others. The price-cost differentials employed here are not those under joint supply, whose justification is that at no lower price would the supply of any one product by itself be possible. There are several ways in which the tax elements manifest themselves. First, the enterprise may transfer its profits to the government. This is provided for by many corporation acts and by the company form of organization in India. Second, and less obvious, the extracost elements may be retained in the enterprise itself for the benefit of consumers or regions other than those that contributed them. (By hypothesis, these are over and above the normal rates of self-financing.) Finally, although there may be no overall profit, there may be subtle cross-subsidizations in such a way that the over payments by some consumers or regions cancel out the under payments by others. The larger the enterprise, the more probable such a pricing system, as, for example, on the Indian railways. Alternatively, profits may be used for employee welfare expenditures far in excess of comparable expenditures by other enterprises in the economy. Involving payments by certain (consumer) groups of persons for the benefit of others, these have the characteristics of expenditures through governmental budgets. For tax elements to be present, the enterprise must have some degree of monopoly. The converse is not true, for a monopoly, through inefficiency or choice, can introduce subsidy elements into its prices. It is of value to distinguish the tax elements in public enterprise prices. It is not a matter of indifference to the consumer whether he is asked to pay a price P, in excess of the related cost, or the same amount shown as a combination of x towards related cost and y towards tax element, except in the arithmetic sense in a given short-run situation. Under the x + y system, the consumer can legitimately raise *The author is Head of the Department of Commerce, and Dean, Faculty of Commerce, Osmania University, Hyderabad, India.