Center for Business & Public Policy suggests some complications with public goods and taxes/fee for service in the case of the Obion county, Tenn. man and the fire department story. One is freeriders, but there appears to be more than that:
The city of South Fulton in Obion County, Tennessee, offers fire protection to households living outside of the city limits for a fee of $75 per year. If you pay the fee, then if your house catches on fire, the fire department comes and puts it out. If you don’t pay the fee, they don’t. This sounds reasonable. People living in the city limits pay city taxes for city services. The city offers those services to people living outside the city limits when they can, but asks them to pay a share for them. Some choose to pay the fee and others don’t.
…problems with voluntary provision of a public good. If you ask people to voluntarily contribute toward a good like having a fire department or an army, the rational person says to himself “if everybody else pays, and I get protected even if I don’t pay, then why should I pay?”
Of course, if everyone thinks this way, nobody contributes, and nobody gets protected. One solution, the one that South Fulton and other governments use, is to use their power of taxation to force people to contribute and then provide the service to everyone. Another solution, also employed by South Fulton, is to find a way to exclude those who do not contribute from consuming the public good. In this case, county residents who don’t pay the $75 fire fee do not get protected. Of course, for that to provide people with proper incentives to contribute, you have to let their houses burn down if they actually do catch fire.
Finally, what are we to make of the owners’ offer to pay any price to have their house extinguished once the fire started? Surely, there is some price at which it would be beneficial to the city to send out the fire department. What about $20,000? What about $30,000? While there is certainly a number where the city would be foolish to pass up the opportunity, it might be rather high for a number of reasons.
First, the city decided how large a fire department to build based on the number and location of households it has to protect. Asking households to opt into fire protection probably helps with planning. Second, there is the question of how price negotiations will take place while someone’s house is on fire. Finally, there is the issue that someone whose house is currently on fire might not be in a position to enter into an agreement at all and may not have the assets necessary to pay the fire department’s ex post price. My guess is that it might be possible to enter into agreements before that say “we opt out of paying the $75 but agree to pay $10,000 if the fire department has to come to our house,” but much more difficult to enforce a verbal agreement struck in a house on fire.