Here in Brazil (at least in some cities) we have the worst of both worlds... you pay for it, and there is not enough space... it is a complete crap. No wonder so many people are on the streets manifesting against it.
In 2007, the fare for municipal busses was removes, and at the same time, more frequent trips were introduced (by 50% at day time).
The routes and schedule are managed by the City Council, the operated by the lowest bidding bus company.
So far, it has been successfull, but it had a bit of a bumpy start. The sudden increase in demand for busses, meant that there weren't enough busses to go around and some cheap, old ones were used. But the success has meant that there was a business case to upgrade the busses.
It's payed by tax payers via the Council. The Council is funded via income tax, currently at around 20%.
If the buses were free, and the governemnt payed per bus, not per passenger, we'd probably have empty buses here too.