Privatisation Case

INTRODUCTION

This essay is motivated by the ongoing debate among economists and policy makers about efficiency and other economic effects of privatisation of state owned enterprises.

"Does privatisation lead to greater economic efficiency"

The goal of this essay is to determine whether in fact there is a relationship between ownership and the performance of a company. This essay will endeavour to present research and literature to support the notion that privatisation leads to greater economic efficiency. The essay will present arguments from advocates of privatisation as well as authors who oppose the concept.

This paper will begin by defining privatisation and efficiency. It will explore how the rationale for selling state owned entities has evolved and will put forward the argument that privatisation has been pursued on the basis of improving company performance.

The essay will present a performance analysis of organisations post-privatisation in Ireland and the UK in order to support the proposition. The essay will also present evidence that state owned entities achieve efficiency gains pre-privatisation.

Finally the essay will conclude on examining the impact of privatisation on the macro economy.

WHAT IS PRIVATISATION & THE RATIONAL BEHIND "SELLING THE FAMILY SILVER"

Privatisation is widely thought to be a valuable policy instrument that leads to a greater good. It is a limited concept and at its simplest level is

"The transfer of assets from the public (government) sector to the private"

(http://tutor2u.net/economics/revision-notes/a2-micro-privatisation-deregulation.html)

Privatisation programmes had become one of the most significant microeconomic policies of the 1980's and 1990's. Extensive programmes have been undertaken not only in mature economies such as the UK but also in developing countries. According to Gillespie (2007) The general trend since the 1980's has been for the government to intervene to a lesser extent directly in the provision of goods and services. This has lead to many privatisations over the last twenty years. In the 1980's thinking began to shift from what governments could achieve in the public sector towards greater reliance on the private sector. Privatisation of public resources injects new value into public assets and increases the privately-held capital base of a country. Governments that implement privatisation as part of their reforms use it as a mechanism to pursue a variety of objectives.

Adam Smith (1776) "In every Monarchy in Europe, the sale of the crown lands would produce a very large sum of money, which is applied to the payment of the public debt, would deliver from mortgage a much greater revenue than any which those lands have ever afforded to the crown. .. When the crown lands have become private property, they would in the course of a few years, become well improved and well cultivated"

The objectives and rational behind the adoption of privatisation varies from country to country. Price Waterhouse (1989,a,b) have explored these reasons and with regard to industrialised countries the following arguments dominate:

(1) state owned entities are inefficient and privatisation will lead to improved economic efficiency, (2) selling state assets can contribute to reducing government debt by raising revenue for the state, (3) it reduces government interference in the company, (4) it promotes wider share ownership, (5) it provides the opportunity to introduce competition, (6) it subjects state owned enterprise's to market discipline (7) it may develop the national capital market.

PRIVATISATION AND ECONOMIC EFFICIENCY.

The fundamental economic case for privatising state owned firms is the change in ownership leads to improved enterprise performance. Whilst a number of benefits have been claimed for privatisation, the main theme of this essay is on the contribution to economic efficiency that privatisation is ultimately judged. Proponents of privatisation argue that transferring public enterprises to the private sector will expose these enterprises to the discipline of the market, and thereby lead them to increase efficiency (Hemming & Mansoor 1998). Ideally economists seek to measure the performance of the firms in terms of two components of efficiency, productive and allocative efficiency.

(A) Productive efficiency - the production of chosen output levels at minimum cost. Several theories have been put forward to predict and explain why we would expect some productive efficiency gain as a result of privatising public entities, the property right theory perhaps the most influential. Advocates of privatisation argue, whereas government producers have no incentive to hold down production costs, that once privatised there will be a greater incentive for private producers to minimise costs due to disciplining forces of corporate takeovers, the threat of bankruptcy and greater shareholder monitoring, thus encouraging them to perform at a higher level for lower cost. The lower the cost incurred by the firm at a level of output the greater profit it makes. On the other hand, the absence of competition and profit in the public sector is not likely to result in cost minimisation. However transferring enterprises to the private sector with the introduction of competitive product markets can bring about changes in an organisational structure and alter owner and manager objectives and improve monitoring, information and incentive structures (Bös, 1991). The expectation is that these changes will lead to improvements in operating efficiency. In addition Stiglitz (1991) argues that the relative inefficiency arising from public ownership is attributed to continuing political involvement in their management, soft budget constraints and the absence of competition. Political interference is a common and deadly disease of state owned enterprises it is argued as they are prone to interference from politicians for political reasons. O'Hagan (1995) argues "Government ownership may be actually detrimental to performance. The government may direct state-owned enterprises to pursue non commercial objectives such as providing employment for supporters of the government or locating in disadvantaged regions"

(B) Allocative efficiency - the correct overall balance of output. While changes of