Privatizing public utilities

Divesting public utilities

Description

Privatizing public utilities involves transferring ownership or management of services such as water, electricity, or transportation from government to private entities. This strategy aims to improve efficiency, reduce public sector financial burdens, and enhance service quality through competition and investment. By introducing market mechanisms, privatization seeks to remedy issues of inefficiency, underinvestment, and bureaucratic delays commonly associated with state-run utilities, ultimately striving to deliver more reliable and cost-effective services to consumers.

Context

The privatization of infrastructure or public utilities raises some important issues of its own because of the particular characteristics of infrastructure companies. Such companies are often considered to be of a "strategic" nature. In some countries, the privatization of certain such companies like telecommunications requires change in the national constitution (as in Brazil and Germany). They enjoy monopoly or dominant market power and need to be regulated. They provide services which generally cannot be exported; thus, their prices are internally determined and they do not earn foreign exchange. Their services are traditionally provided by the state and affect large segments of the population, which means they have high visibility. They require substantial up-front investments with small initial revenue streams and long payback periods; because of the high risks associated with many projects, future returns are heavily discounted. These characteristics create a unique set of incentives and risks for the promoter of infrastructure privatization. Such risks may include inter alia: business risks such as deficient demand for the services; financial risks such as exchange rate fluctuations; and political risks such as expropriation of the enterprise or environmental risks.

Implementation

Experience with privatization of public utilities provides important lessons on the need to establish beforehand a clear regulatory framework and the need for regulatory authorities to be independent and free from political interference. The creation of market structures allowing for maximum competition is a further requirement.

Claim

For any public utility, privatization in itself in not a panacea. The follow-up demands changed management philosophies and work-place attitudes if its full benefits are to accrue. After the merchant bankers have departed from the scene, the corporate elements of change are often more difficult to implement. Probably the biggest hurdle of all is recognizing the need and value of competition.

Counter-claim

In industrial countries attempting extensive divesting of ownership, a number of difficulties have arisen. Even where capital markets are well developed, where public debate is open and extensive and where there are strong regulatory mechanisms, it has proved hard to make appropriate valuation of the enterprise, there has been resistance from public employees and interest groups, and the danger of substituting private monopolies for public ones has not been avoided. Developing countries face even more severe constraints, since it is often the case that capital markets are thin, that there are deep fears of economic domination by foreigners or by ethnic minorities and that government regulatory capacity is limited.