One of the more interesting policies from an economics perspective in the General Election manifestos was the Conservative proposals to allow state funding for private school places. As long as the total cost of the private school place was less than the average cost of educating in a state school, £5,500 per annum, the state would fund the place.

This is clearly not a revenue neutral proposals. The marginal cost of attending a state school is significantly lower than the average cost, especially as this average cost includes shared costs of the whole education system including exams, which are marginally priced through entry fees to the private sector.

The correct calculation from a public policy point of view would be to allow transfer only at the marginal cost. However, the policy does reflect the monopoly position where marginal cost pricing is anti-competitive and should more normally, particularly with natural monopolies, be priced at average costs. The view on whether the average cost is the right concept or not depends on your view on whether state education provision is a natural monopoly or not. It is only a natural monopoly to the extent that the average costs are influenced by non-price control (i.e. state required standards of eduction or child welfare). The larger these are compared to the potential average costs of the private sector, the stronger the argument for a natural monopoly. However, this also implies from public policy of why such a market is not appropriate and hence the policy for creating a private public market for schools fails.

The market in the health service that the Labour government has already introduced is a different case. Here, the market is associated with costs being decentralised and then cost efficiency at a local level compared to the cost of the buying in the service required from the private sector providers. The natural state monopoly remains, perhaps driven to be more efficient by the buying power that it has to the private sector.