Privatization Is Not a Miracle Drug (Sometimes it’s Just a Drug)

Privatization does not automatically equal higher efficiency and better service despite common belief

The private sector is hailed for its efficiency and effectiveness. The bottom line is one of the best drives for a corporation to become just that: effective and efficient. The public sector is often thought to portray the exact opposite and is usually thought of as slow, inefficient and lacking proper motivation.

As a result privatization has taken hold worldwide. Public services were entrusted in the hands of corporations with the hope and reason their efficiency and effectiveness will translate to better public services. Wouldn’t we all like to wait less, get better service from more experienced people at lower costs?

However, privatization is not a miracle drug. Public and government organizations face no bottom line. Even if layers of bureaucracy and thick-headedness may obscure it, these organization genuinely aspire to give us the best service possible under a given budget. Private corporations have only one objective: Profit.

The debate whether profit should be the only bottom line for corporations is long and was held at many other occasions. My argument is that without proper regulation and crafty contracts that tightly bind the service with the corporations reward outsourcing to private organizations might quickly become more expensive and much less favorable for us citizens.

De-Privatization of water services in Paris

A very recent example motivated me to write this post. After 100 years the city of Paris decided on a de-privatization of water services due to what seems to be poor and costly service. This could be a part of creative negotiations on the side of Paris city hall but I doubt it.

Apparently during the 1990’s a handful of private corporations and the International Monetary Fund led an effort to privatize water services throughout the world. During the last couple of years the number of cities to de-privatize the water service back their control has grown with Buenos Aires in Argentina, Hamilton in Canada and Uruguay as a state as examples.

Worldwide experience tells of corporations cutting back on personnel in the areas of water testing and maintenance. More extreme voices suggest companies cooked books to collect higher government incentives.

California’s troubled electric industry

The power industry in California was privatized back in 1996. Five years later citizens faced burnouts and skyrocketing rates. Every case of failed privatization is different and this specific crisis had reasons of its own.

First, regulation was faulty forcing suppliers to ration their electricity instead of manufacture more. Complicated relationships with the electricity market and rising demand literally left no incentive for the private corporations to produce more electricity. Remember how incentive looks like? Bottom line and profit.

The pros and cons of privatization are summed up in the following table (for deeper analysis see Wikipedia):

1. Performance - Higher Efficiency seen trough the bottom line only. What doesn’t generate profit gets cut off.
2. Improvements - Lack of financial incentive will guarantee no improvements.
3. Corruption - Less political corruption, higher corporate corruption.
4. Accountability - Financial reports or elections.
5. Goals - Economic vs. political or service vs. profit.
6. Natural monopolies - A natural monopoly is a dangerous thing to privatize. It is possible however.
7. Concentration of wealth - In the hands of the government or in the hands of private people.
8. Profits - The Bottom Line

It doesn’t matter whose fault it was California was left in the dark or Paris water quality deteriorated and became more expansive. The complicated relationship between public services, a regulator and private corporation is bound to guarantee problems.

Even an ultra-sophisticated regulatory environment cannot guarantee successful privatization efforts. Only a corporate environment that acknowledges it’s a part of a society will generate successful privatization efforts.

Modern forms of privatization

Increased problems in privatization efforts have created more creative privatization methods:

BOT or Build-Operate-Transfer Contracts

BOT contracts are a form of privatization where a government or public organization may grant a private organization a concession to finance, design, construct, and operate a facility for a specified period, often as long as 20 or 30 years. After the concession period ends, ownership is transferred back to the granting entity.

This is actually a form of project financing where the government takes advantage of the private organization’s effectiveness and efficiency in building and operating granting that organization profits to cover his investment and its return. At the end of the period the government has a new highway, water treatment center or anything else that comes to mind.

Municipalization

Even though a municipality is a public organization it is smaller and should be more efficient that the government itself. Municipalities see higher incentives for local services and are expected to maximize service and efficiency.

Partial Ownership

This form of privatization enables the government to “keep an eye” on the privatized organization by holding a certain “golden” or blocking share of stock. Countries often make use of partial ownerships in Telecom companies and defense companies whose business is highly sensitive for every government.

Privatization is here to stay whether we like it or not. The questions are: will the regulators learn from experience and will corporations finally develop a social conscience?