Politicisation of public firms

One problem with state ownership commonly pointed out by economists today is the politicisation of public firms. For example, Sowell (2007) discusses the situation of banks in India after nationalisation in 1969. He writes,

Moreover, government ownership and control lend to political influence in deciding to whom bank loans were made:

I once chanced to meet the manager of one of the rural branches of a nationalized bank. ... He was a sincere young man, deeply concerned, and he wanted to unburden himself about his day-to-day problems. Neither he nor his staff, he told me, decided who qualified for a loan. The local politicians invariably made this decision. The loan takers were invariably cronies of the political bosses and did not intend to repay the money. He was told that such and such a person was to be treated as a "deserving poor." Without exception, they were rich.

(Basic Economics: A Common Sense Guide to the Economy, 3rd Ed. p.426-7)

A local example of such concerns is the discussion of state-owned enterprise reforms in New Zealand by Spicer, Emanuel and Powell (1996). When discussing the pressures faced by the SOE model Spicer et al note that some politicians, public interest groups and parts of the media and the public wish to back away from the SOE corporate form and return to more direct forms of government ownership. With regard to this Spicer et al write,

As a consequence, political involvement in the policies and operations of these organisations would again become commonplace. Commercial objectives would once more be confused and mixed up with non-commercial considerations. This in turn can be expected to have direct effects on the strategies, organisation design and cost structures of SOEs and the motivations of their boards and managers. In this type of environment, boards and managers would be likely to explicitly build political considerations into their decision making as conflicting and irreconcilable demands are placed on them.The end result is likely to be a significant loss of accountability and control over performance. (Transforming Government Enterprises: Managing Radical Organisational Change in Deregulated Environments, p.199-200)

But a concern with politicisation of public firms is not new. John Jewkes in 1965 argued, with reference to British nationalised firms, that state owned industries could not help but be politicised,

Thus it is claimed that a government may take responsibility for some new public service but take the whole operation 'out of politics' and thereby escape any increase in its own administrative burdens. [...] Experience in the past twenty years suggests that that view is naive. Nationalization has not taken industries out of the political area. It has pushed them more firmly into it. (Public and Private Enterprise: The Lindsay Memorial Lectures given at the University of Keele 1964, p.13-4)

But even Jewkes was not saying anything new. The problem of politicisation of public firms had been noted before. M. N. Baker in 1899, for example, pointed out, with respect to waterworks in cities around the United States, that,

The absence of political considerations, generally speaking, from the management of private works, is undoubtedly a great advantage [...] Private companies ... certainly will not be accursed of lowering rates unduly for political effect, as cities sometimes do. ('Water-Works'. In Edward W. Bemis (ed.), Municipal Monopolies, New York: Thomas Y. Crowell and Company, p.41-2).

As is clear form the examples above the incentives facing government owned firms are very different from those facing a private firm. Sowell makes the point that

The incentives facing government enterprises tend to result in very different ways of carrying out their functions, compared to the way things are done in a free market economy. (Basic Economics: A Common Sense Guide to the Economy, 3rd Ed. p.426)

An example he gives is that after the nationalisation of banks in India uncollectible debts increased to 20 percent of all loans outstanding. Sowell also notes that efficiency suffered,

An Indian entreprenuer reported that "it takes my wife an hour to make a deposit or withdraw money from our local branch." (Basic Economics: A Common Sense Guide to the Economy, 3rd Ed. p.426)

The basic problem is, as Sowell puts it,

The nationalization of banks in India was not simply a matter of transferring ownership of an enterprise to the government. This transfer changes all the incentives and constraints from those of the marketplace to those of politics and bureaucracy. The proclaimed goals, or even the sincere hopes, of those who created the transfer often meant much less than the changed incentives and constraints. (Basic Economics: A Common Sense Guide to the Economy, 3rd Ed. p.427)

This, like so much in economics, boils down to the fundamental premiss, "people respond to incentives".