Whose Call?

Would Telecom Profits Be So High If it Had Stayed in Government Hands? 

<>Listener: 3 December, 1994.


<>Keywords: Business & Finance;


The newspaper report had a Telecom executive quoting a university study that “households are benefiting by $300 million a year as a result of privatizing Telecom … and the business community is better off by $350 million a year”. 

It is rare for research to be so unequivocal as to the value of privatization. There is a theory which says that privatized corporations are more efficient that publicly owned ones. It is widely and uncritically quoted by the political right (and those who would profit from privatization). But the analysis is dependent upon numerous assumptions of doubtful credibility. Scientifically the question is an empirical one. 

The empirical research does not support the proposition that privatizing a government owned company always gives economic benefits. Collecting all the international studies together there are some propositions which one can be reasonably confident about. 

The first is that a government owned business will not be as efficient as a private company if it is given the objective of job creation, strategic investment, or a fairer income distribution and so on, rather than one seeking economic efficiency. When a study shows that gains in efficiency, it may be because of changed objectives, and there are losses in terms of these other objectives. (A good study which demonstrates efficiency gains from corporatization is Ian Duncan and Alan Bollard‘s Corporatization and Privatization.) 

The second finding is that if a government owned business is in a competitive market with a profit objective, it is likely to be about as efficient as a privately owned business. The policy conclusion might be that there may be no good reason for the government hanging on to such a business in the same situation, since it can get as good a return by its investing in cash, while the business itself is not doing anything special just because it is government owned. 

I suspect that when all the political rhetoric has died down, much of the sensible privatization in Western nations was tied up with the rise in the cost of capital in the 1980s. Typically real interest rates were 3 to 5 percentage points higher than they were a decade earlier. It became prudent for governments to reduce their increasingly expensive debt by selling some assets. But there were no efficiency gains from the privatization. 

The third research finding is that a government owned businesses in a market which is not fully competitive (say if it is a monopoly) is likely to be more efficient than a privately owned business, at least in some circumstances. For instance the privatization of the electricity distribution network which is going on at the moment probably means that ultimately consumers will face higher prices to pay for the wealth from the shares which they are being given. 

Otherwise the mass of evidence about the comparative efficiency of private owned versus public owned businesses is equivocal. The studies which come to various conclusions, but typically they are methodologically flawed, and contradict one another. 

So what about this new study by Victoria University economist Lewis Evans and Telecom researcher David de Boer, which has just been published by the Wellington university’s graduate business school? 

To come to any conclusion the researchers have to separate the effects of three different changes. There was the market liberalization, whereby the telecommunications industry was opened up to competition (from Clear and other new entrants). There was the corporatization where Telecom was given a profit objective, and abandoned other goals. And there was the privatization when the firm passed from public to private ownership. 

The study makes little attempt to distinguish these effects, ignoring the liberalization altogether, and seemingly attributing most the gains to the third of privatization. 

But there were even more fundamental weakness to the study. I shall not here discuss the obvious flaws of the indicators they are using, but accept them at face value. The indicators show that there has been an improvement in the performance of the Telecom business since 1988. However those indicators would also have been improving before then under the old government department regime. To demonstrate that privatization (and the other changes) had been beneficial to the economy it is necessary to calculate the gains that which would have happened if the old regime had remained in place, and look at the difference. Otherwise we might attribute to the changes after 1988 those which would have happened anyway. 

Extraordinarily there is no attempt in the study whatsoever to do this. All the gains after 1988 are attributed to the new economic environment, especially to the change of ownership. 

<>The public has every right to be angry about the use of this limited research, which certainly does not say what is claimed for it. We have here is another study which is being used for ideologists to justify their policies. Those at the other extreme will use the poor methodological standards to illustrate just how desperate the right are to justify their views. And those of us who have tried to understand the ownership issue will sadly put the newspaper clipping into the folder of studies on privatization full of sound and fury, signifying nothing.