Abstract: Paper No. 165

Nonparametric Estimation of Cost Efficiency in the Public Sector: With an Application to New York State School Districts

John Ruggiero

June 1994 

Most studies analyzing public sector cost assume that decision makers are cost minimizers in the provision of public services. However, this is not consistent with political models of bureaucracy. As a result, if cost is not minimized, these estimated cost functions will be biased. The purpose of this paper is to provide a flexible nonparametric technique based on Farrell-type efficiency measures to estimate public sector cost frontiers and cost inefficiency. Standard indexes need to be modified to fit the special nature of the public sector which is characterized by an influence of environmental variables and resource prices on cost. A useful by-product is a measure that indexes the harshness of the environment that each local government faces. For illustrative purposes, this technique is then applied to a sample of New York State school districts. It is found that nearly 64 percent of these districts are cost inefficient, where the average inefficient district spends over $1,200 per pupil in excess of the cost minimizing level. These results indicate that cost studies relying on cost minimization assumptions may be flawed. In addition, it is estimated that the average school district faces environmental cost of over $1,700 per pupil.

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