Friday, 2 September 2011

The (bad) politics of asset sales

Over at Kiwiblog David Farrar writes,
My NZ Herald column is on the politics of asset sales. I look at the risks to the Government, and ask and answer the question about why they are doing it , despite the political risk.
Well bugger the politics, lets worry about what really matters, the economics of asset sales. On this point, I would argue, David does very badly. In his Herald column David writes,
I believe two factors have reduced the intensity of feeling on the issue of asset sales. The first is the fact they are very different to the asset sales done so enthusiastically by Roger Douglas and Phil Goff in the 1980s and Ruth Richardson in the 1990s. Those sales were for 100 per cent of the asset, often went direct to a private buyer with no opportunity for "Mum and Dad" investors, and the private buyers were often foreign.

National's policy of retaining 51 per cent in state control, floating them on the stock exchange rather doing a trade sale, giving New Zealand institutions first preference for purchases, and now inserting a maximum 10 per cent cap on any private shareholding reduce the fear factor around the share sales.

It is literally impossible for a foreign company to take control. In fact it will be impossible for a foreign company to have a share-holding in excess of 10 per cent.
As to the point that buyers of assets in the past have been foreign, this is not an argument against asset sales, xenophobia is not any kind of economic argument at all, for anything. Also having foreign bidders just means that the price the government gets for its assets is higher than it otherwise would be. A higher price is also paid for a controlling share in a firm, selling a partial share in a firm will lower the price paid. 51% is worth a lot more than 49%! Also having "Mum and Dad" investors - and a New Zealand investor bias - is not necessarily a good thing, this will also lower the price received, as will use of a stock market float. All the evidence on privatisations via a float on the share market shows a large amount of under pricing. Also these studies show that "Mums and Dads" sell out to other larger buyers very quickly. Having "Mum and Dad" investors could also affect the efficiency gains that having private owners can bring about. A single large, albeit partial, owner is more likely to be able to force efficiently enhancing changes on the firm.

In more general terms we already have insight on how partial private ownership is likely to turn out; not well. The SOE Act states that SOEs, basically, have to be run like normal non-government owned firms. In effect this requirement is the same as you could get if private owners have a stake in a firm. The private owners would, we assume, wish to maximise profits, but the government may not. And you see this with SOEs. The government often wishes to intervene in the running of SOEs to get them to carry out not profit maximising activities, just as it would if it had a partial stake in a mixed ownership firm. This problem of having SOEs (or mixed ownership firms) trying to serve two masters 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 saw under the Clark government was the second of these pressures being very strong. But not for socially useful reasons. Most interventions seem to be more politically motivated.

These pressures would also be there for a mixed ownership firms and help explain why they don't do as well as fully privately owned firms. For example, Aidan Vinning and Anthony Boardman in "Ownership and Performance in Competitive Environments: A Comparison of the Performance of Private, Mixed, and State-Owned Enterprises", Journal of Law and Economics vol. XXXII (April 1989) conclude 'The results provide evidence that after controlling for a wide variety of factors, large industrial MEs [mixed enterprises] and SOEs perform substantially worse than similar PCs [private corporations].' The basic problem is that full or partial government ownership politicises the firm.

Farrar also writes that,
Turning to the economic issues, there are a mixture of reasons why National is risking some of its popularity for this issue. The strongest reason is probably a genuine belief that a company which is not 100 per cent Government owned will perform better over time. Not every private company is better performing than every public company. But overall, the evidence is that private ownership does lead to better performing companies.
See above for arguments and evidence on the relative effectiveness of partial private ownership on firm performance. If the government really does want to improve the performance of state owned firms, then as Vinning and Boardman show, full privatisation is the better answer.

1 comment:

Horace the Grump said...

Comments duly noted, but politics is the art of the possible, not necessarily the art of the desirable or prudent...

That said, I wouldn't be relying on Farrar anytime soon for economic advice and commentary (although he does seem to make a better fist of it than Bernard Hickey!)