An important function of the public sector in addition to resource allocation is income redistribution. As explained in any standard textbook of microeconomics, even if the market is perfect and resources are efficiently allocated among economic agents, the outcome is not necessarily ideal. We could observe a large degree of income inequality ex post. The economic situation of agents depends on the initial state of asset holdings and/or good or bad luck, in addition to their efforts regarding economic activities. The initial state of assets and human capital holdings among agents is predetermined before economic activities. Good or bad luck affects the economic performances of agents differently. Even if the market is perfect, ex post inequality of income and assets among agents is unavoidable to some extent.
Different arguments consider how we should intervene with regard to ex post inequality. One side may argue that strong intervention is desirable so as to realize equitable outcomes ex post. Another may argue that minimum intervention is desirable so as to enhance economic activities. However, if ex ante opportunity is unequal, many feel a degree of unfairness. Moreover, ex ante equality of opportunity does not necessarily mean ex post equality of outcome.
Thus, it is desirable to some extent for the government to tax income and the assets of the rich and transfer these to the poor. Progressive income tax, inheritance tax, social welfare programs, and public pension and medical insurance are imposed for redistribution measures. In order to discuss the normative role of income redistribution, it is necessary to specify a social judgment on equity. Chapter 12 explains two alternative judgments, the Bentham (or utilitarian) judgment and the Rawls (or maximin) judgment. It is also important to consider the economic impact and constraint of income redistribution. Perfect equality of income ex post is not desirable if the disincentive effect of progressive tax is incorporated.
Recently, the size of national economies has become larger and inequality of income and wealth among agents has also grown. In such a situation, in order to maintain social safety and promote economic activities, a larger degree of redistribution has become one of the main objectives for most developed countries. This is referred to as the idea of the welfare state.
In Keynesian economics, unemployment is regarded as non-voluntary; thus, the government has a duty to attain full employment by the use of fiscal measures. This argument criticizes the self-duty principle of one’s own effort and provides the theoretical reason why a government should pursue the idea of a welfare state.
Hence, the second objective of public finance is to investigate the economic effects of public intervention from the viewpoint of equity and the government’s desired role of redistribution to pursue the idea of a welfare state.