Private goods provided by local governments

Abstract

This paper investigates the consequences of decentralized decision-making by local governments in provision and pricing of the service that is categorized into private good. Each local government decides whether to provide a service, then chooses user fees and taxes, so as to maximize the utility of its residents. In equilibrium, the local government imposes discriminatory fees for service users from other region. In the setting of a two-region economy, there exist four patterns of provision as Nash equilibrium, including the case of multiple equilibria, and the conditions for emergence of each pattern are derived. We show that competition among governments may lead to either over-provision or under-provision, depending on the degree of scale economies and population distribution. We further look at the effects of subsidy given by local government and show that this second-best policy improves the overall efficiency and makes residents of both regions better off.