To privatise or not to privatise?

Despite reticence on the part of the government, the long-term benefits of privatisation cannot be taken for granted

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On a recent trip to London, I could not help but follow the media coverage of the upcoming general election in the UK. The Labour Party, which has since been soundly defeated, was campaigning on an agenda to increase public spending on health and education. It was also proposing to nationalize some of the previously privatised public organisations. 

Foremost amongst these are the utility companies supplying electricity, gas and water to British citizens. Most of these were privatised during the Thatcher era in the early 1980s and were later accepted as the norm by all sides of the political divide. At that time, the UK was the world leader in selling off utilities and devised clever pricing and tariff structures which would allow the private sector to earn attractive returns. 

However, after almost 40 years and amidst accusations of poor service and generous payouts to shareholders, UK citizens seem to be suggesting that they do not mind some of these utilities to be renationalised! Despite Labour’s defeat in the general elections a few days back, the support for renationalisation is unlikely to reduce. I am elaborating the situation in the UK of course because to privatise or not seems to be a question faced by many countries, including our very own. 

The underlying consensus between the right-aligned political parties as well as the powers that be in Pakistan seems to be staunchly in favor of privatisation. One commonly hears that the only solution to the umpteen issues of managing state corporations is to privatise. You hear about PIA, the state utilities (electric and natural gas), railways and many more as being major drains taking hundreds of billions to be kept afloat.

While the immediate drain to the public exchequer is possibly plugged through privatisation, it is important to learn lessons from the experience of other countries. In the UK, years of inefficient operations and rising bills have eroded the consensus that private sector can run these organizations more cheaply and efficiently than the state.

The questions which come to mind, largely from a public interest perspective in Pakistan are the following; first, is it an ownership issue? Can the regulators treat both privately held utilities as well as state-controlled ones at par? Who can raise the capital to invest and will have lower cost of capital? who can execute infrastructure projects more efficiently and take better care of these investments? 

Answers to these and many other similar ones need to be found before we decide which direction is better for us. The UK experience seems to suggest that the country still ends up paying more with the cost of inefficiencies in the public sector partially converted into private sector profitability and nothing more. 

Does this mean we should not privatise? Not necessarily. But privatisation must be preconditioned with two things; first, markets must be opened to competition to provide a level playing field and discourage a rentier economy and second; there is a dire need to build the capacity of the various regulators to enable them to truly play the watchdog role in their respective sectors. 

The first condition is easy to see in Pakistan where rent seeking has been the basis of growth and profitability in many sectors. Transferring a public organization to the private sector while keeping its monopoly intact is against the principles of fair competition and should only be done under dire circumstances. I believe businesses have the ability to bring operational improvements and we have seen examples of this but the private sector is efficient and runs streamlined operations mainly because it tries to do better than the competition. 

That is how businesses improve and benefit society by sharing the benefits of these improvements with its customers. Businesses should not benefit from creating bigger problems. The current regulatory structure in most public utility sectors in Pakistan is copied from the original pricing and investment formulas devised during the Thatcher era in the UK. These formulas incentivize overinvestment and allow utilities to pad up costs. 

There is a contradiction between the regulators requirement for utilities to generate cash for investment and its duty to protect consumers from overpricing by utilities. If the private sector organisation has little incentive to improve operations and remains dependent on government subsidies in the long term-there is something inherently wrong with this business model. Less competition leads to higher prices and lower productivity which ends up hurting the consumers eventually. 

The second issue is regulatory capacity i.e having the skills to make correct decisions and the ability to get these decisions implemented. These may even be a bigger threat to the system than the questions about utility operations themselves. Time and again, our regulatory bodies have failed to act wisely and bring needed reforms. Even when they did, no one, including the various federal governments have taken them seriously. 

Apart from tariff structures, utilities resist following the directions given by the regulator simply because they know that the regulator has very little capacity to penalize them. Even when penalties are imposed, these are usually challenged in courts and held in abeyance till eventually decided years later. 

No utility, to my knowledge, whether public or private, has ever been seriously threatened about their license being revoked and unless the regulators become capable of taking meaningful action their overall impact will remain negligible. It is interesting to note that some of our neighbors have different regulatory structures in place. India, for example, has successfully brought reforms in the electric utility space via the state or provincial regulators instead of the federal one. 

Provinces have been encouraged to build their own capacity and being closer to their citizens, they have responded to the needs of consumers in a better way. In Pakistan, sadly provincial regulators for utilities do not exist and all the powers are with the federal regulators. One of the reasons for this is to maintain uniform pricing throughout the country although it remains to be seen whether that in itself is good for the country. In any case, provincial regulators should be created and empowered to become more effective bodies able to respond to public needs. 

Only a handful of developed countries have followed the UK example of selling utilities outright to the private sector. However, this has been followed by the underdeveloped world where the state is strapped for cash and cannot fund the necessary investments in infrastructure. 

In Europe, the model has been different. They have separated assets from services and allowed the private sector to offer services. This helps in controlling prices as arguably a publicly owned utility will not be required to deliver the returns demanded by the private sector. This model ought to be seriously explored in Pakistan. 

Unfortunately, for a country like Pakistan, there are no easy answers. What this subject requires is careful deliberation and a government which is able to absorb ideas from diverse set of people. The simplistic approach of selling public assets to provide immediate relief to a cash starved government is a short-term fix which can have serious long-term implications and hence the rush to privatise must be resisted.

1 COMMENT

  1. The survival of GOP lies in the fact that they transfer all business oriented assets and activities to the private sector and keep only the role of regulator.

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