Chapter 4 : Public Expenditure

 Public expenditure refers to the expenses that a government (central or local)

incurs or the outflows of a government for the following reasons.
i. For its own maintenance such as expenditures for defense (army air force,
navy), maintenance of law and order, judiciary, justice, direct loss (war), and
civil administration.
ii. For the society and the economy such as expenditures for social amenities
like education, health, and sanitation facilities and low-cost housing; the
provision of public utilities like electricity and water supplies, infrastructure,
transport and old age pensions and unemployment benefits.
iii. For helping other countries and states which may be in the form of
loans, grants and subsidies.
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 Cont..
 Public expenditure is the expenditure incurred by public authorities’ i.e
central, state and local for the satisfaction of collective needs of the citizens or
for promotion of economic and social welfare.
 Government plays a large role in the economy, as regulator of the private
sector, as supplier of public service and many other ways. Hence, it incurs
expense.
 4.1 Meaning and nature of Public expenditure
 There are some unique features of public expenditure
1. Public expenditure determines the amount of income and is not for profit
motive where as private expenditure is determined by the individual’s income
2. The target for public expenditure is a maximum return for the state as a whole,
and public expenditure is influenced by various political motive and social
aspects
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 Cont.…….
3. Ruling principle – in private business, the ruling principle is special service
(expenditure) and special payment. However, the government is not so much
concerned about a special payment for a special service.
4. Return on investment – A government is not so much concerned about the
comparison of cost of production of service and the value of the product
which is a necessary feature in private business.
5. Adjustment approach – The income of a government is measured by its
needs and consequently a government first estimates the volume of its
expenditure and then tries to find out the methods.
6. Unlimited duration the government undertakes activities of unlimited
duration. E.g. defense

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 4.2. Planning and budgeting of Public expenditure
• Planning and budgeting are crucial in ensuring that public
expenditures align with national objectives and economic conditions.
• Planning: This involves identifying national priorities and ensuring
that funds are allocated appropriately across different sectors.
• It also includes determining the necessary resources for policy
implementation and social welfare programs.
– Strategic Planning: Long-term goals (e.g., 5-10 years) aimed at sustainable
development.
– Annual Planning: Short-term goals and ensuring that they contribute
toward long-term strategies.

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 Cont..
• Budgeting: The process of preparing a financial plan that details the
allocation of funds to various government sectors.
• The government prepares the budget annually and submits it for
legislative approval.
– Types of Budgets:
• Incremental Budgeting: Based on previous year’s
expenditure, adjusted for inflation or growth.
• Zero-Based Budgeting: Each department justifies its budget
request from scratch.
– Importance: Budgeting helps in allocating resources efficiently
and controlling public debt.

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 4.3. Techniques used for evaluating Public expenditure
• Techniques Used for Evaluating Public Expenditure
• Evaluating public expenditure ensures that government spending achieves desired outcomes
and remains efficient. The following techniques are commonly used:
• 4.3.1. Cost-Benefit Analysis (CBA) and Cost-Effectiveness Analysis (CEA)
• Cost-Benefit Analysis (CBA): CBA compares the costs and benefits of public expenditure
projects, usually expressed in monetary terms, to determine whether the benefits outweigh
the costs.
– Steps in CBA: Identify the project, estimate costs and benefits, and calculate net
benefits.
– Application: Used for large-scale infrastructure projects, healthcare, and educational
programs.
– Example: Building a new highway - costs include construction, while benefits include
time saved, economic stimulation, and reduced transportation costs.

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 Cont..
• Cost-Effectiveness Analysis (CEA): CEA evaluates the
costs of different methods to achieve a specific goal,
typically used when benefits cannot easily be quantified in
monetary terms.
– Steps in CEA: Identify the goal, estimate the costs of different
alternatives, and assess which alternative achieves the goal most
efficiently.
– Application: Common in healthcare and social services where
outcomes are qualitative or hard to monetize (e.g., life-saving
treatments or disease prevention).

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 4.4 Public expenditure: Canons, Theories and Accountability
4.4.1 Canon of public expenditure
 Some of these canons may be regarded as principles, while others are
no more than general guidelines for the public authorities to help
them in their task of planning and execution of public expenditure
properly.
 The following will be the canons of public expenditure:
1. Cannon of maximum social benefits
2. Cannon of economy, i.e., wasteful expenditure should be avoided.
3. Canon of sanction, i.e., authorized expenditure.
4. Cannon of balanced budget
5. Canon of elasticity, i.e., fairly flexible.
6. Cannon of productivity: avoidance of unhealthy effects on
production and distribution
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 Cont..
1. Canon of Benefit. Public expenditure should be so planned and
implemented as to bring about the greatest possible benefit to
society.
2. Canon of economy. Public expenditure should be incurred
carefully so that there is no wastage of funds. Since resources are
limited in the society, they have to be most properly utilized.
3. Canon of surplus. This canon requires that expenditure of public
authorities should be kept within the limits of current revenues. If
possible, the expenditure should be less than the earnings of
government so that the surplus so generated can be used when
there is unavoidable deficit.

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 Cont..
3. Canon of sanction. This canon requires that the public
authorities should not be allowed to spend funds without having
a previous sanction from appropriate authority for the purpose.
4. Canon of elasticity. Canon of elasticity requires that the rules of
public expenditure should not be too rigid to achieve the real
purpose and that it should be allowed to vary according to the
needs and circumstances.
5. Canon of certainty. This canon requires that public authorities
should clearly know the purpose and extent of public
expenditure. The spending unit should be certain as to the
amount and objective of public expenditure.

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 4.4.2. Theories of public expenditure
 Economists have offered a number of theories on public expenditure.
 The following theories of public expenditure need special attention.

• 🞑 1. Classical theory of Minimum expenditure.

• 🞑 2. Principle of Maximum Social Advantage.
• 🞑 3. Principle of Maximum Aggregate Benefit.
• 🞑 4. Bowen's Benefit Theory of Public Expenditure.
1. Classical Theory of Minimum Expenditure
• Classical economists did not favor large public expenditure.
• The 'laissez-faire' philosophy of Adam Smith implies that individual is
the best judge of himself and that he will be the best productive agent if
he is left free to take his own decisions.
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 Cont.. Classical
• They advocated the principle of sound finance, according to
which budget should always be balanced, i.e. public expenditure
should not rise above or fall below revenue earnings.
 The classical theory of minimum expenditure is based on the
assumption of full employment on the one hand and laissez-faire
doctrine on the other.
 Since the economy operates at full employment level, it functions
with maximum efficiency.
 Moreover, with the philosophy of ‘laissez-faire’ follows, that most
of the economic activities are performed by the private sector.
 hence, the size of public expenditure is always small and the budget
should always be balanced.

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 2. Principle of Maximum Social Advantage
 Public expenditure is made from the resources mobilized through taxation or
borrowing to balance any further increase in the advantage to the community
 The principle of maximum social advantage lays down on that public
expenditure should be so planned and, hence, revenue resources so raised so as
to bring about benefit larger than sacrifice and that the surplus of aggregate
satisfaction in the society is maximum.
 To judge whether the principle of maximum social advantage is secured or
not, the following points have to be considered.
First The character and composition of public expenditure is the most
important consideration.
1. Large expenditure on investment means large sacrifice of tax payers.
2. However, the ultimate benefit may be much larger than the communities’
sacrifice.
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 Cont..
 Secondly, the method of taxation has to be judicious. The method
should be employed which will result in least sacrifice.
 Thirdly, tax-expenditure programme should be so structured to
increase the productive capacity of the community and, hence,
enhanced national income.
 The principle of maximum social advantage is derived from the
principle of equi-marginal returns as applied to an individual.
 Thus, if it is found that marginal utility from public expenditure on
medical and public health measures is greater than the marginal
utility derived from the same amount spent on provision of public
parks, then the government should transfer the public funds from
the park to medical account.
 This will maximize social advantage.

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 3. Principle of Maximum Aggregate Benefit
 Expenditure should be pushed in all directions up to the point, at
which satisfactions obtained from the last money expended is equal
to the satisfaction lost in respect of the last money called upon
government service.”
 Thus, Pigou brings in both taxation and expenditure sides of the
budget determination. His theory determines the size of the budget.
 Pigou's theory requires the application of two rules,
1. the principle of equi-marginal returns in such a way that marginal

utility from each type of expenditure is equal and

2. the principle of equality between marginal social sacrifice and
marginal social benefit.
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 4. Bowen's Model of Public Expenditure
 Since social goods, by definition, are those goods and services which
are consumed equally by all.
 Hence, the cost of supplying them have to be contributed by all
beneficiaries.
 However, every user cannot be asked to contribute equal amount in
meeting the cost of social goods because different individuals will derive
different amounts of satisfaction.
 Since social goods benefit everyone, the amounts of benefit derived by
different individuals are like joint products.
 Hence, it is the joint contribution of all individuals that has to meet the
cost of supplying social goods.
 Suppose a public park is provided in a locality of 100 individuals.
 The benefit of public Park is consumed equally by everyone.

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 Cont..
 Hence, the cost of supplying must be raised from the aggregate contribution
of 100 individuals.
 It must, however, be noted that each individual will pay an amount equal to
the marginal valuation he attaches to the social good, i.e. the public park
services.
 This follows from rules of economic efficiency.
 Since the capacity to enjoy benefit of the public park, as in case of anything
else, is different for different persons, they will attach different marginal
valuation to the benefit and will contribute different amounts for the
consumption of the same public good.
 MUA + MUB= MCx, Or Px•A + Px•B = MCx, Hence, TCx = QPx•A+ QPx•B,
where MU stands for marginal utility derived from social goods, MC stands for marginal
cost of supplying social goods, A and B are consumers, X stands for the social good
supplied, P stands for price to be paid by the consumer, Q indicates quantity of social goods
and TC stands for total cost of supplying the quantity.
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 4.4.3 . Control and Accountability of Public Expenditure
 The necessity to control public expenditure in order to check misuse of
public funds and ensure their efficient utilization is obvious.
 Control of public expenditure is sought to be ensured multi-
dimensionally at a number of stages.
 The most important means of control are
• 🞑 (a) budgetary control
• 🞑 (b) legislative control
• 🞑 (c) executive control
• 🞑 (d) audit control, and
• 🞑 (e) parliamentary control.
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 1. Budgetary Control.
A. Budgetary Control : Budget preparation is the most primary stage
of expenditure control. Budget is a well thought-out plan of
governmental activities during the coming year and speaks of
much more than a mere statement of income and expenditure of
public authorities. It specifies the functions and objects of public
expenditure.
B. Legislative Control. After the budget plan is prepared, it has to be
presented in the legislature for its approval. There occurs debate in
the legislature where the members seek clarification and
justification of expenditure programs.

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 Cont..
C. Administrative Control. The rules and regulations ensure that
no amount is spent without proper sanction or diverted to some
other purpose for which it is not sanctioned.
D. Audit Control. The next stage is scrutiny of accounts and audit
control. There is the system of both internal and external audit.
Every department should ensures that public funds are spent
according to rules of propriety, economy and efficient utilization.
E. Parliamentary Control. The last of these stages of expenditure
control is the parliamentary right to enquire into any particular
item of expenditure deal.

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 4.5. Macroeconomic Effects of Public Expenditure
1. Effects public expenditure on Production and Employment

 Expenditure on agriculture and allied services, industries and minerals, water

and power development, transport and communication and other
expenditures on community and social development by the State
Governments help directly to raise the level of production and employment
in the country.

 the enormous expansion in expenditure by the State Governments is to boost

demand for goods and services and thus to boost production.

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 Cont.…
 The level of production and the level of employment in any country
depends upon three factors, viz.,
 Ability of the people to work, save and invest,
 Willingness to work, save and invest, and
Diversion of economic resources as between different uses and
localities.
 It is possible to influence all these factors through public expenditure
either for the better or for the worse.

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2. Effect of public expenditure on distribution of income
 While taxes, particularly progressive direct taxes, have the effect
of reducing the incomes and wealth of the higher income groups,
public expenditure has the effect of raising the incomes of the
lower income groups.

 Government's expenditure on education, public health and

medicine, housing, etc., is directed to help the poor and the lower
income classes
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 3. Public expenditure and control of inflation
 Inflationary pressures may be considerably lessened if
government expenditure is reduced.
 This may be taken as a simple and direct solution, but for the
fact that, in the majority of cases, the most serious type of
inflation has always been due to enormous government
expenditure.
 However, the government can suitably change and adjust its
expenditure during an inflationary period so that the
inflationary pressure may be reduced.
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 4.6. Patters of The Ethiopia's Public Expenditure
• Ethiopia’s public expenditure has evolved significantly in the past
few decades as the government focuses on development goals.
• The patterns of public expenditure in Ethiopia are as follows:
1. Social Sectors: A significant portion of public spending is directed
toward education, healthcare, and social protection programs. The
Ethiopian government has made education and health key priorities,
leading to increased investment in these sectors.
2. Infrastructure Development: Large amounts of public expenditure
are allocated to infrastructure projects, including roads, energy, and
urban development.

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 Cont..
3. Defense and Security: A substantial share of expenditure is allocated
to defense and security to ensure national stability, particularly in a
region with complex political dynamics.
4. Agricultural Development: Public funds are used for programs
aimed at improving agriculture, given Ethiopia's reliance on
agriculture for economic growth and employment.
5. Debt Financing: Ethiopia’s public expenditure also includes
servicing external debt, which has been a growing concern as the
country’s debt levels have increased.
• In recent years, the Ethiopian government has focused on achieving
growth through industrialization, with expenditure directed toward
expanding the manufacturing sector, improving transport, and boosting
exports.

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 Role of Public Expenditure in A Developing Country
1. Social and Economic Overheads:
 Public expenditure has to build up the economic and social overheads.
2. Balanced Regional Growth:
 It is considered desirable to bring about a balanced regional growth.
3. Development of Agriculture and Industry:
 Economic development is regarded synonymous with industrial development but agricultural
development provides the base and has to be given the priority.
4. Exploitation and Development of Mineral Resources:
 Minerals provide a base for further economic development.
 The government has to undertake schemes of exploration and development of essential
minerals, e.g., gas, petroleum, coal, etc.
5. Subsidies and Grants to Provinces, Local Governments, and Exporters:
 The central government gives grants to State governments and the State governments to local
governments to induce them to incur some desirable expenditure.
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 Reasons for Government Public Expenditure in Ethiopia
• The Ethiopian government undertakes public expenditure to address several developmental, economic, and
social objectives. These reasons can be broadly categorized as follows:
• 1. Economic Growth and Development
• Infrastructure Development: Investment in roads, energy, telecommunications, and other infrastructure to
support industrialization and connectivity.
• Sectorial Support: Support for priority sectors such as agriculture, manufacturing, and mining to diversify the
economy and reduce dependence on imports.
• 2. Poverty Reduction and Social Services
• Education: Expanding access to quality education to enhance human capital development.
• Healthcare: Funding healthcare initiatives to improve public health outcomes and reduce disease burdens.
• Social Protection: Providing safety nets for vulnerable populations through cash transfers and subsidies to
alleviate poverty.
• 3. Stabilizing the Economy
• Job Creation: Direct spending on projects to generate employment, especially in rural areas.
• Counter-cyclical Policies: Increasing expenditure during economic downturns to stimulate demand and
stabilize the economy.

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 Cont..
• 4. Addressing Regional Disparities
• Equity and Inclusiveness: Allocating resources to underdeveloped regions to reduce inequalities in access to public
services and opportunities.
• 5. Enhancing Export Competitiveness
• Support for Export-Oriented Industries:
Subsidizing export-focused industries like agriculture and textiles to improve their global competitiveness.
• Devaluation Mitigation:
Supporting businesses affected by currency devaluation through incentives and reduced tax burdens.
• 6. Defence and Security
• Maintaining Stability: Spending on defense and internal security to address conflicts, maintain law and order, and
promote investor confidence.
• 7. Compliance with International Goals
• SDGs and International Agreements:
Aligning expenditure with Sustainable Development Goals (SDGs) and other international commitments to ensure
sustainable and inclusive development.
• Challenges and Considerations in Ethiopia
• While public expenditure is necessary, Ethiopia faces challenges like:
• Limited revenue generation and reliance on foreign aid, Inflationary pressures from excessive government spending,
Inefficiencies and corruption in public expenditure management.
• The government thus aims to balance development goals with fiscal sustainability to maximize the impact of public
spending. Let me know if you need further elaboration or examples

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 Cont..
• 1, what is the importance of public expenditure?
• 2, what is canons of public expenditure?

• 3, how does public expenditure affect the economy?

• 4, what are the causes for increasing public expenditure?

• 5, how the government can control inflation by using public

expenditure?

• THE END
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