Public transit subsidies, output effect and total factor productivity

This paper extends previous works on total factor productivity decomposition when firms receive both operating and capital subsidies. It shows that previous works considered either the lump-sum or substitution effects of these subsidies but not together. Using constrained cost minimization as the framework it offers formal proofs to show that cost increases are inevitable if the total effects of the subsidies are considered, and that total factor productivity growth results from increasing amounts of subsidies under economies of scale and in the absence of technical change. Applications of the decomposition equations derived to a sample of transit systems finds near constant returns to scale and negative contributions of these subsidies to total factor productivity growth. Technical change reverses this decline and results in total factor productivity growth. Further, it finds that the lump-sum effects of the subsidies reduce total factor productivity more than does the substitution effect.