Privatisation in New Zealand ... or rather the lack of it (updated)

In an article first published in the New Zealand Herald on 8 May 2008 Roger Kerr makes an obvious, but important, point with regard to privatisation in New Zealand, we are swimming against the tide. His article is Privatisation: New Zealand Swimming Against the Tide (pdf).

Kerr opens the article by noting

A few years ago the World Bank observed that “Privatisation is now so widespread that it is hard to find countries not using the approach: North Korea, Cuba and perhaps Myanmar make up the shrunken universe of the resistant.”

Clearly the World Bank had not noticed New Zealand on the map.

In fact New Zealand has gone in the opposite direction with the unfortunate buy-back of Air New Zealand and the railways and ferries, the setting up of a bank, Kiwibank, and the renationalisation of ACC, for example. To reinforce just how different we are, a friend sent me figures on the number of SOE's in Vietnam:

• 1989: 12,300
• 2001: 5,600
• 2005: 3,000
• 2007: 2,100, 1,500 of which are to be privatised in the next few years

Kerr goes on to note

Some people associate privatisation with right-wing politics because it was first initiated on a large scale by Margaret Thatcher’s government in Britain.

Actually the first large scale privatisation programme was started in 1974 in Chile, a few years before the Thatcher programme started in the UK. But the Chilean case would still, I'm sure, lead many to see privatisation in terms of "right-wing politics".

Kerr goes on to make the point that

The worldwide moves over the past 25 years to move state enterprises into the private sector have been driven by the evidence of major economic gains in the form of improved efficiency and profitability, lower prices and better services, and more investment and output.

This does not mean that all private businesses are success stories and all SOEs underperform. Rather, the point is that, on average and over time, the private sector is better than politicians at running commercial businesses, and governments should not bet against the odds with taxpayers’ money.

It is noted that

The picture in New Zealand is similar. Corporatisation and privatisation contributed to the surge in productivity growth in the 1990s. Productivity growth has slumped since 2000.

Corporatisation looks, on the surface, like an attractive option. We get the advantages of privatisation but with continued government ownership. But the problem with it was noted more than 10 years ago by Spicer, Emanuel and Powell in their book "Transforming Government Enterprises: Managing Radical Organisational Change in Deregulated Environments" (The Centre for Independent Studies, 1996). They warned that there are two pressures on SOE's: the first being towards privatisation since the productivity and efficiency gains achieved by SOE are in danger of being eroded over time. Privatisation is a way of both cementing in the commercial orientation of enterprises and wringing out further gains resulting from the high powered incentive and control mechanisms which can be bought to bear in privately owned and publicly traded companies. The second pressure on SOEs is towards being pulled back into the public sector where social and political objectives can be more readily be meet. What we have seen under the Clark government is the second of these pressures being very strong. But not for socially useful reasons. Most interventions seem to be more politically motivated.

All of this does raise the issue of when should the government own a firm? When is it economically desirable to have government control and production?

As a general guide, Hart, Shleifer and Vishny ("The Proper Scope of Government: Theory and an Application to Prisons", Quarterly Journal of Economics, 112(4): 1127-61, November 1997) argue that the case for government provision of goods or services is generally stronger when non-contractible cost reductions have large deleterious effects on quality, when quality innovations are unimportant and when corruption in government procurement is a severe problem. It has been argued that the case for government production is strong in such services as the conduct of foreign policy, police and armed forces. The case can also be made reasonably persuasively for the case of prisons. The case for private sector provision is stronger when quality reducing cost reduction can be controlled through contract or competition, when quality innovations are important and when patronage and powerful unions are a severe problem inside the government.

Its not clear that the government's interventions have been in areas where the Hart, Shleifer and Vishny arguments would suggest the government should be involved. Banking, for example, is not a area where cost reduction come at the expense of quality, where innovation is unimportant or where there are any problem with government procurement. So why have the government owning Kiwibank? Also government involvement in Air New Zealand is hard to justify on these grounds. As noted above, the case for private sector provision is stronger when quality reducing cost reduction can be controlled through competition, and the airline industry is very competitive, when quality innovations are important, and we want a high quality and innovative airline industry, and when patronage and powerful unions are a severe problem inside the government, which are things we wish to avoid with an airline. Here private provision makes sense.

Kerr concludes his article by saying

The political aversion to privatisation is costing New Zealand potential gains in living standards. A Business Roundtable study (www.nzbr.org.nz) estimated that New Zealand could gain around 1% of GDP a year by privatising SOEs (leaving aside local government-owned businesses).

Unless wages and other incomes in New Zealand are to drift further behind those of Australia and other countries, this is an economic reform that will have to come back on the political agenda sooner or later.

We can only hope its sooner.

Update: Kiwiblog comments on the Kerr article here.