Friday, 29 April 2011

More on privatisation

At Roger Kerr writes,
Recently the Treasury released a December 2010 paper Short History of Post-Privatisation in New Zealand, written by John Wilson, an experienced former Treasury official.

It records in a balanced and objective way the history of nine major privatisations by central and local governments.
Kerr continues
The paper notes the range of objectives of privatisation of governments around the world:

* Putting businesses under the full pressures of private capital markets, and thus making them more efficient.
* Reducing the exposure of the government balance sheet to risky debt financed assets.
* Removing the capacity of the businesses to seek government aid in bad times, thus both promoting better business management (to avoid that risk) and reducing risks to government fiscal outcomes.
* Promoting the development of local capital markets, and/or encouraging a broad ownership of shares in the community.
* Using the sale proceeds for higher priorities, typically to reduce government debt.

All of these objectives have been relevant at different times in New Zealand.
The basic point about privatisation is that it will depoliticise the firm. The aim is to have the greatest possible distance between the government and the firm. Government interference in the running of a firm is impossible to eliminate completely but a good privatisation plan will result in a situation where any government interference is as obvious and politically costly as feasible.

Kerr adds that,
On methods of privatisation, the paper comments:

Typically, in an asset sale, the best price is obtained by selling a controlling shareholding to a single entity that can control the destiny of the business (a trade sale). A float generally gets a lower price.

New Zealand governments mainly employed trade sales, with some floats or sell-downs. Privatisation was not ‘done the wrong way’, as some critics allege.
There are two points to keep in mind here. The first being that selling a controlling interest in a firm gives a higher price because it gives control over the firm. People are willing to pay more for control over a firm, so 51% of a firm is worth a lot more than 49%. This shows a problem with partial privatisation, ceteris paribus, it lowers the price a would be buyer will pay. It also leaves the business politicised since the government still has the controlling share.

The second point is that there will be times when you do not want to maximise the price you get for a SOE. One example as why it could want to do so is given by Anbarci and Karaaslan's idea of An Efficient Privatization Mechanism:
In this paper, we consider the privatization of State-Owned Enterprises (SOEs) that are legal monopolies but not natural monopolies; their markets can be opened to competition once privatization takes place and other competitors can emerge and compete successfully against them in a few years. But until that happens, these privatized SOEs can have a significant level of market power. The currently used “Revenue Maximization (RM)” privatization scheme maximizes the government revenue from privatization but does not provide sufficient incentives for the privatized SOE eiher to charge a price lower than the monopoly price or to improve production efficiency until competition arises. We propose a new scheme to privatize such SOEs. We term this new scheme the “Welfare Maximization (WM)” scheme. The WM scheme practically yields no revenue to the government from the privatization of any such SOE; however, it induces the privatized SOE to charge a competitive price in the absence of any regulation. It also turns out that the WM scheme provides greater incentives for post-privatization process invention (i.e., for post-privatization cost reduction) than RM scheme. (emphasis added)
This is a very specific situation but it helps make the point that just trying to maximise the price received for an asset is not necessarily a good idea. In the above example welfare is maximised while revenue is basically zero.

For successful privatisation it is more important to get the regulatory environment right so that competition can breakout in the industry than it is to maximise the price for which the asset is sold. Basically I'm arguing we should have lexicographic preferences, with price low on the list. Worrying about whether or not the ‘family silver’ was sold too cheaply misses the point, the price received can only be see as too high or low relative to the market structure the firm finds itself it. Just arguing that a higher price could be obtained with a different market structure is only useful if the new market structure improves welfare. 

1 comment:

Andrew R said...

Roger Kerr wouldn't know "balanced and objective" if he fell over it.