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Economics of Development

Privatisation in Developing Countries 2 Volumes, edited by Paul Cook, Colin Kirkpatrick, Frederick Nixson (The International Library of Critical Writings in Economics Series: Edward Elgar) In recent decades, privatization has been a key policy instrument in the move to more market-based economic systems in all parts of the developing world. Privatization, however, has not necessarily been accompanied by an increase in market competition. In recent years, many public utilities have been privatized as monopolies and in addition regulatory systems have been developed to restrict their market power and protect the interests of consumers.

These authoritative volumes bring together a collection of important papers that have shed new theoretical and empirical insights into privatization and regulation and have provided new policy perspectives in relation to developing countries. Privatisation in Developing Countries will appeal to policymakers and researchers at the forefront of economic policy debates in developing countries.

From the introduction: Privatization, defined as the transfer of productive assets from public to private ownership and control, has been at the forefront of economic policy debate in all parts of the developing world for several decades and has been seen as a key policy instrument in the move to more market based economic systems. Privatization was initially implemented in developing countries in the absence of a literature that had either theoretically or empirically convincingly proved that private ownership was superior to public ownership. The theoretical treatment of the subject that has subsequently developed has not fully incorporated the factors that make the debate different in developing countries to that found in the industrialized countries. Empirical studies comparing public and private sector performances have grown since the early 1980s and indicate that the balance of evidence has shifted in favor of the private sector.

Privatization featured prominently in the structural adjustment programs adopted by most developing countries in the 1980s and 1990s. Privatization, however, was not necessarily accompanied by an increase in market competition. Many public utilities were privatized as monopolies, and regulatory systems have been developed to curb their market power and protect consumer interests while, at the same time, attempting to maintain incentives to achieve higher efficiency and investment.

Policy makers have had a variety of objectives in mind for privatization. First, with widespread evidence of poor economic performance of many public enterprises, privatization has been seen as a means of improving economic efficiency, which will be reflected in lower consumer prices and improved product quality. Second, faced with large net financial deficits in the public enterprise sector, privatization has been perceived as a means of reducing fiscal deficits, by increased tax revenues on enterprise output, reduction in central government transfers to the enterprise sector, and receipts from privatization sales. Third, privatization has been used as a means of shifting the balance between the public and private sectors and promoting market forces within the economy. This is a more ideological, and hence controversial, argument for privatization, since it rests on the idea that the economic role of the state should be defined (i.e. reduced), with the state concentrating on its core functions and responsibilities for creating a stable economic, legal and institutional environment within which the private sector can flourish. Other objectives for privatization have included the generation of new investment (including foreign investment), wider share ownership and the deepening of the domestic financial system.

The process of privatizing public enterprises began slowly in developing countries, but in the late 1980s the pace accelerated and by the early 1990s there had been almost 3000 separate privatizations in the developing world. Developing countries accounted for 86 per cent of all transactions by the mid 1990s but, as a share of global privatization in value terms, their share was only 35 per cent.

In the early stages, privatization sales in developing countries were predominantly of small public enterprises, primarily agribusinesses, services and light manufacturing. The privatizations were largely trade sales and employee and management buyouts, with fewer stockmarket flotations and limited foreign capital participation. However, in the 1990s privatization in developing countries included a growing number of large public enterprises, particularly in the utilities and industrial sectors, using public flotations and with foreign capital participation. Nevertheless, in 1994 direct private sales still accounted for 86 per cent of all transactions. Share issues in domestic and international capital markets accounted for only 10 per cent of transactions, representing 47 per cent of sales in 1994. Between 1988 and 1993, the largest share of public revenue from privatization sales came from infrastructure.

There are also marked regional differences in the scale of privatization in developing countries. Latin America accounted for over 60 per cent of the value of sales between 1988 and 1994. By contrast, African involvement has been marginal in terms of both volume and value, accounting for less than 3 per cent of revenue.

The body of evidence on the impact of privatization in developing countries is rather limited. In part, this may reflect the various methodological difficulties that arise in impact assessment analysis. It also reflects a failure on the part of policy makers to specify clearly the objectives of privatization, and to rely on implementation measures rather than performance outcomes. Performance indicators for privatization in developing countries can be grouped into two broad categories, covering macro‑ and micro‑level results. The impact of privatization on the macro economy can be assessed by a change in the state's share in the economy, a reduction in the fiscal imbalance, and development of capital markets and resource mobilization, including foreign investment. There are four main micro indicators: technical (or productive) efficiency, cost efficiency, financial profitability and real prices.

In terms of macro indicators, the share of the public enterprises sector has shown little change over the period of privatization. Despite the fiscal gains from privatization, this does not appear to have reduced the overall fiscal deficit. Privatization has contributed to the inflow of foreign investment to developing countries.

Micro‑level evidence on the impact of privatization is derived from enterprise data with `before‑after' comparisons of performance for the same enterprise. Other studies have also compared the performance of public and private sector enterprises that operate side by side in the same industry. In general these studies do not provide unequivocal support for the view that privatization improves performance. Perhaps a clearer message emerging from this body of evidence is that private ownership is favored but only in competitive markets. When markets are less competitive, then the case for superior performances is less clear-cut.

Most studies show an improvement in profitability after privatization. However, this financial performance improvement need not be accompanied by an increase in efficiency, where, for example, the now privately owned monopoly is able to exploit its position of market dominance, protected from competition by natural barriers to entry or by tariff protection. Evidence on employment and productivity gains is more mixed.

The available evidence suggests, therefore, that the scale of privatization in developing countries, in the narrow sense of divestiture, has been much less than is commonly supposed. The reasons for this are both practical and political. In a low-income economy where markets are imperfect, where the private sector is uncompetitive and underdeveloped, and where the administrative capacity of government is limited, the technical and institutional barriers to implementing a privatization program are considerable. The political constraints on the adoption of privatization arise from the distributional impact. The divestiture of enterprises has an immediate impact on those interest groups that currently benefit from the public enterprise sector's inefficiencies, either in terms of surplus workforce levels, uneconomical prices or excessive factor payments. In contrast, the gains from privatization are diffused throughout the economy and may only arise after the immediate costs have been incurred. The short‑term political costs of privatization may outweigh the longer‑term economic and political benefits and act as a brake on the pace of privatization in developing countries.

A second conclusion to be drawn from experience is that divestiture alone is unlikely to result in a significant reduction in the size of the public enterprise sector `burden' in the developing countries. Other measures to improve the performance of the enterprises which remain in the public sector have an important role to play in an overall reform program. Broader forms of privatization, such as management contracts and contracting out, combined with market liberalization and competition policy and the establishment of a sound regulatory framework, will be important components of such a reform program. The choice of measures to be used and the relative weight that is given to each of them will depend on the objectives set for the public enterprise reform program and on a realistic assessment of the economic, institutional and political constraints on policy design and implementation.

The library of critical writings on privatization in developing countries is contained in two volumes. Each volume is divided into four parts. Each part covers a separate aspect of the privatization experience in developing countries, and the papers selected reflect the major contributions to each topic.

In the first volume, Part I incorporates papers that capture the historical evolution of the debate over the role of enterprises under public and private ownership. The second Part presents some of the papers that have influenced the theoretical debate. Few of these addressed directly the issues faced by developing countries, but nevertheless they have had a profound influence on the process of decision-making and implementation. The third Part presents some of the papers that have provided new theoretical and policy insights into the issues surrounding the need for post‑privatization regulation. The fourth Part of this volume incorporates a selection of papers that have reviewed the comparative performance between enterprises under private and public ownership.

The first Part of the second volume encompasses a set of papers that explore the political, as well as the economic, explanations for privatization. The second Part presents two papers that review the experience with regulation. The third Part incorporates papers that have attempted to assess the impact of privatization. These cover micro and macro indicators, as well as different sectoral and geographical perspectives. They reveal the complexity of assessment and the difficulties raised in interpreting the evidence. The final Part presents a set of papers that have attempted to assess the evidence and provide lessons for policy makers.

In conclusion, privatisation is a policy instrument that can be used in developing countries to bring about significant economic gains. However, it needs to be used in a selective and pragmatic manner, not for ideological gains. Experience has shown that there is a host of constraints to successful privatisation that need to be recognized and controlled, that a variety of forms and types of privatisation are required, and that serious consequences for the credibility of the broader economic reform process arise if privatisation is mismanaged.

Privatisation also needs to be seen as part of a broader strategy aimed at improving the performance of the public enterprise sector. Privatisation alone is unlikely to be sufficient to ease significantly the economic burden that the public enterprise sector places on the economy of many developing countries. Other forms of public enterprise reform, where ownership remains with the state but the contractual relationship between the enterprises and government is redefined, are needed.

Ultimately, the contribution that privatization makes to economic advancement in developing countries will be determined by political will and commitment. There is now sufficient experience and evidence for economists to advise, with some confidence, on the appropriate design and execution of privatisation proposals, as part of a program of public enterprise reform. This knowledge is the first prerequisite for successful privatisation; the second is a government's commitment to the use of privatisation as one of the means of advancing the nation's developmental goals.

Contributors: I. Acheampong, G. B. Assaf, M. Brownbridge, P. Cook, A. A. Elleithy, P.G. Hare, J.S. Henley, S.A. Hussain, C. Kirkpatrick, A.I. MacBean, H. Mirza, F. Nixson, P. Regnier, J. T. Thoburn, M. Tribe, J. Weeks, J. Winterton, R. Winterton, M. Yamin, L.Y. Zhang

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