Date of This Version
Lotteries as sources of public funding are of particular interest because they combine elements of both public finance and gambling in an often controversial mix. Proponents of lotteries point to the popularity of such games and justify their use because of the voluntary nature of participation rather than the reliance on compulsory taxation. Whether lotteries are efficient or not can have the usual concerns related to public finance and providing support for public spending, but there are also concerns about the efficiency of the market for the lottery products as well, especially if the voluntary participants are not behaving rationally. These concerns can be addressed through an examination of the U.S. experience with lotteries as sources of government revenues. State lotteries in the U.S. are compared to those in Europe to provide context on the use of such funding and the diversity of options available to public officials. While the efficiency of lotteries in raising funds for public programs can be addressed in a number of ways, one method is to consider whether the funds that are raised are supplementing other sources of funding or substituting for them. If lottery profits are “fungible” or substituting for other sources that would have been used in the absence of such profits, then the issues of equity and efficiency of lotteries relative to other sources are certainly heightened. The literature suggests that some degree of fungibility does exist, bringing these very concerns into question. Whether the lottery markets are efficient can be addressed, in part, by examining the rationality of its participants. This can be done by considering how consumers participate in the market, how they respond to changing prices (or effective prices in the case of lotteries), and whether the market ever provides its participants with a “fair bet,” a gamble in which there is a positive expected value from participating. While empirical studies provide somewhat mixed results, there are indications that consumers of lottery products are relatively rational and that lottery markets seldom provide “fair bets,” both indicators of efficient markets.
Working Paper Number
Matheson, Victor and Grote, Kent, "U.S. Lotto Markets" (2008). Economics Department Working Papers. Paper 58.