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The bad business of privatisation



For at least three decades there has been an all but universal chorus about the supposedly unassailable virtues of privatisation. The claim, at once simple and simplistic, has been that businesses are efficient and well organised whereas government bureaucracies are, by nature, unmotivated and poorly managed.

Hand protruding from waterPutting as many government operations as possible into private hands, therefore, ensures that things will run better and society will benefit.

The argument is not merely a stretch; it is in many respects patently false. Proponents of the limitless virtues of markets — often called neo-liberals — rarely stop to notice the contradictions in their argument.

An amusing example was the recent claims by the head of the Australian Consumer and Competition Commission Rod Sims that he had 'lost patience' with privatisation.

The argument for privatisation is based on the claim that the market always produces superior price signals, which leads to efficiency and a better outcome for customers. Yet Sims believes the prices being paid for the government assets are 'gouging'. So the market, it seems, is simultaneously a mechanism for arriving at the right price and the wrong price.

The contradictory conclusion is unsurprising. The problem with the privatisation argument has always been that it is, if not circular — markets are better, private enterprises are in the market, therefore private enterprises are better — at least indiscriminate. There has been little attempt to analyse what business is good for and what it is not suited to.

One area where private enterprise definitely fails is long term stability. The most cursory observation tells us that business enterprises do not last. If there is an expectation that a privatised service should last in the long term, and usually there is, then selling it to business is a bad choice. Very few businesses last longer than ten years and almost none longer than 20 years. A glance at the Australian Stock Exchange reveals just how many companies fail to survive. 

Another area where business is suspect is in the pursuit of profit margins. Even if we accept that business is more efficient — and anyone who has worked in a corporation and observed the savage internal politics and blundering bureaucracy will find such a claim amusing — does the greater efficiency outweigh the profits that are being extracted?


"Such nonsense is not something that would ever be attempted in government because governments do not have investors demanding a return and there is no attempt to seek a profit."


There is no complete answer to this question because it is never posed. But it is possible to say that, in a low interest environment, the cost of capital for business is much higher than it is for government. And then we have to add on the profit expected to be generated over and above the cost of capital. That is an awful lot of efficiency the business has to achieve just to be equivalent to a government organisation.

And of course we have the little matter of greed. This writer can remember looking at the investment metrics on a Sydney toll road that had been privatised and entity had been floated by an investment bank. The dividend payout ratio — the proportion of profits paid out to investors — was over 300 per cent. In order to do that, the entity was borrowing to pay out dividends. Needless to say, it was not a sustainable strategy. The game was to get out before the bubble burst.

For the investment bank, this was great business; they had sold off the equity and made a good profit. For the investors, mostly institutional funds, it was somewhat less sound, but obviously they thought they could get out in time. Such nonsense is not something that would ever be attempted in government because governments do not have investors demanding a return and there is no attempt to seek a profit.

A further problem is that when something is privatised, the users are subtly moved from being citizens to being customers. The relationship is that the 'business' offers the service and the customer decides whether it is the right value proposition. But in many areas where government has traditionally been the provider, that is nonsensical. In education, for example, the 'consumer' cannot, by definition, know what value is. In health, the price mechanism has severe limitations. Who would put off life saving surgery because the price is too high?

It gets worse for privatisation. Internationally it has routinely been used to pillage the treasure of weaker nations. The pattern, which has been going on since at least the Latin American debt crisis in the 1980s, is depressingly familiar. It has been seen most recently with the cruel privatisation demands put on Greece. The 'austerity' ensures the continuing inability to repay debts, and the privatisation is the punishment extracted.

We may be witnessing the end of the circularities of neo-liberalism, and maybe in the future there will be more intelligent scrutiny of privatisation instead of the mouthing of circular arguments and cliches. Perhaps eventually, instead of thinking the only choice is between 'good' business and 'bad' government, we might start imagining a choice between good and bad government, and good and bad business.


David JamesDavid James is the managing editor of businessadvantagepng.com

Topic tags: David James, privatisation, business, market



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Existing comments

David puts the issues well and provides a much-needed and long-overdue corrective to the privatisation mantra that is hardly ever challenged by mainstream media commentators

smk | 12 September 2016  

A thoroughly excellent article, David. I find the whole privatisation argument has taken on theological tones. Privatisation is right! (God wills it!). In Australia we have always had state owned assets. Some were feather bedded & hopelessly inefficient. That could have been remedied without resort to privatisation. Bastardry and bullying are, sadly, normal parts of the Australian work place. This includes business, the public service, churches and not for profit organisations.

Edward Fido | 13 September 2016  

A very good article! The question "does the greater efficiency outweigh the profits that are being extracted?" remains. "There is no complete answer to this question because it is never posed." The answer is the elephant in the room. If it costs Australia X to deliver a service which is then privatised, it will then cost Y (the more "efficient" cost) + Z, where Z is the corporate profit. And, like any triangle, the sum of two sides will always be greater than the third. X < Y + Z. I would rather to pay X, with all the alleged but not proven inefficiencies, than be ripped off by Y + Z. Simplistic? Yes, but it's more profound than neo-liberalism.

Gwilym Henry-Edwards | 13 September 2016  

Admittedly privatisation has its faults bur what are we to do when faced with irresponsible unions who make our building industry twice the cost of USA.

Patrick Howley | 13 September 2016  

David James assumes that people who enter public service are not prey to all the temptations or beset by the foibles that plague the mortals in the private sector, who are made of coarser clay. His most egregious presumption is that “the little matter of greed” is only to be found in corporations. The massive rorting of entitlements and benefits by politicians and government employees puts a lie to that immediately. Then we hear that “governments do not have investors demanding a return”. Governments of all stripes have lobby or pressure groups making donations then demanding that the government legislate in their favour. This goes for unions, corporations, small advocacy groups for whatever cause you care to think of. Finally, with governments “there is no attempt to seek a profit.” This can be a vice as well as a virtue. Seeking no profit can lead to massive waste and cost blowouts. However distasteful some may find profit-seeking, it imposes fiscal restraint and discipline. Recent successive governments in Australia have continued to put unsustainable spending on the national credit card. It is pure fantasy to think that governments are filled with wise, frugal, disinterested servants of the public. David James needs to turn a healthy, sceptical eye on the government as much as he has on the private sector.

David O'Shea | 13 September 2016  

Well done David. Sadly we have seen the impacts of privatization on Banks, Health Funds, Toll Roads, Electricity providers etc. There are some services that must remain in public ownership for the good of all society not just the greedy few.

Gavin | 13 September 2016  

Want to understand what the private sector stands for? Go and spend five minutes at Flinders St station. There are no more passengers, well versed in catching trains, only brain dead customers that need protection from themselves. Zombies. Melbourne transport is a perfect example of the destruction of a public facility by the private sector. The horror, the horror.

A J Stewart | 13 September 2016  

David O'Shea, let's apply some facts to your qualitative statements: The Australian Council of Superannuation Investors has calculated that the average reported pay for CEOs of the ASX200 listed companies is $3.74 million a year. That’s almost 47 times the average fulltime wage, but the disparity is much wider overseas. In the US, where average wages are less than half of Australia’s and CEO salaries above $20 million are not unusual, the difference is more than 300 times. The top APS salary package is around $500,000 - see http://www.apsc.gov.au/publications-and-media/current-publications/remuneration-surveys/?a=65491#f26 Considering that the responsibilities would be around the same ballpark, there is no doubt who is rorting the more. Also public servants answer to politicians who answer to voters, so that is a key control method. CEOs of private companies are much less open to scrutiny. The only fiscal restraint in private companies is on the workers, management can vote itself as much income as they like even at the risk of sending the business bankrupt. Lobby groups only succeed if governments think there is a vote in it, and if so then that's democracy. One or two corrupt politicians quickly get found out and cannot sway a whole government. It is a lot easier to hide corruption in businesses when they are only open to one annual shareholders' meeting where potentially management can shut down small investors by mobilising large votes held by their mates.

Frank S | 13 September 2016  

Apart from the problems mentioned, society also loses control over the asset privatised. Think what the SEC would have done with energy if it still was in charge. The false competition between electricity generation by coal, gas, wind and solar PV would not exist. The best mix would be chosen. I describe it as "false competition" because wind and PV must sell their product as it is generated and gas can be held up to achieve a high price. Coal does not have the nimbleness to play the market - it responds to slowly.

Peter Horan | 14 September 2016  

Patrick Howley, your union-bashing comment makes no sense. The so-called "irresponsible unions" operating in the private sector building industry keep the death and injury statistics lower than they would otherwise be.

smk | 14 September 2016  

@Frank S. How big a disparity there is between paychecks for CEOs of private companies and heads of government departments is irrelevant to the point I was trying to make. My contention is that David James is too trusting of the state system, whilst conversely being overly suspicious of the private. He implicitly believes in the honesty, wisdom and good will of state functionaries. This trust is not extended to their private sector counter parts. It seems to me that he sees greed, malfeasance and misjudgement as far more likely to be found amongst workers in the private sector. I see a similar tendency in your own view. You trust that the mechanisms in the public sector will detect and shut down any wrongdoers far more efficiently and effectively than those of the private sector. It is notoriously difficult to remove public servants. I don’t think corrupt pollies are so swiftly brought to book. Look at Craig Thompson. Any system run by humans will be flawed and corrupt. I just ask that suspicions about human motivation be applied in the same measure to both the public and private sectors.

David O'Shea | 14 September 2016  

With reference to David O'Shea's comments, it seems to me that David James article does not address the honest, integrity and motivation of individuals working in public or private enterprises, so much as the systems in which they operate. The public enterprise exists to provide a service to the public: sometimes this is done well, sometimes badly. The judgement is, or should be, made on the quality of the service provided within a budgeted price. The private enterprise success is judged almost solely on the profit produced: the quality of the service provided is not so much secondary but near to irrelevant. When the service being provided is say, a cinema, which we can take or leave without real consequence, private enterprise is fine. When the service is say water supply, which can be a matter of life or death, making the profit motive the top priority does not seem appropriate.

Vin Victory | 14 September 2016  

The article is a good one, but I'd like to make another point. What are the likely consequences of the profit motive driving health care, aged care and other services for vulnerable people? We are seeing the consequences and they are appalling. There are some functions of a society (yes we are a society, not an economy - the economy is supposed to serve the community) which need to remain in the hands of the state. I have witnessed really terrible things happen to people at the mercy of privatised services. Privatisation is not simply an economic or political question.

Vivienne | 14 September 2016  

David O'Shea, the disparity between pay for CEOs of private companies and heads of government departments is not irrelevant. Greed is more perfectly realised in private companies, as demonstrated by the much higher pay. I don't necessarily see employees of public enterprises as morally superior to those in private enterprises. However the controls are better. So the greed is more controlled. While sacking public servants 40 years ago was rare, you should update your belief about how difficult it is to sack them now. The Newman government in Qld made it quite easy - the pendulum has swung a little back the other way since Labor became the government. Perhaps you should read the latest news from NT: http://www.abc.net.au/news/2016-09-08/four-sacked-and-six-redeployed-as-labor-clears-out-public-sector/7826218. When they are not sacked, they are eliminated by "natural attrition" which is achievable by putting unrealistic KPIs on staff so that they can't achieve them, get stressed and leave, and this snowballs as the remaining staff get an increased workload. That worked quite successfully in Brisbane City Council a couple of years ago. About the supposed efficiency of private vs. public, privatisation in the Qld electricity industry by Beatty was supposed to make prices far cheaper. Instead they rose dramatically. The extra costs came from private companies needing to compete, thus paying huge amounts for marketing, uncontrolled high pay for their executives and also still needing to make a profit. What a disaster!

Frank S | 14 September 2016  

Excellent article. My view has long been that governments, at every level, have desired privatisation for two main reasons: primarily to turn a capital asset into revenue for short term kudos; but also as a means of shunting accountability - and that's how we end up with price gouging by energy companies etc. And, of course, the privateers who make the economic case for sell-offs are only in it for the money so there is little scrutiny of the actual products. For example, we replace the cleaners in hospitals with contractors: the costs of doing so include reduced cleaning hours therefore reduced cleanliness; loss of loyal staff who provide surveillance so crime goes up; loss of male security support; have to employ security staff. . . but we've saved on cleaning. We never get value for money via privatisation. And, of their very nature, most government services are monopolies, when they are privatised we have no choice but to pay the privateers' prices. And the taxpayers of all the years gone by paid for those assets and services on the understanding that they were investing in their descendants' future, not for a quickie sell-off to government cronies.

Brian Millane | 15 September 2016  

the recent black out in South Australia might inspire some thought about the wisdom of privatising essential services. Is it possible that the need to profit led to some risk taking in the choices concerning the "poles and wires" ?- Where from and why such poor quality steel that it folded in half? Not I'm sure from the steel manufacturing companies that used to operate here. Where Onesteel/ Bluescope? Why footings or foundations, whatever you call them, of a depth and strength I wouldn't accept for my back gate?

Jillian | 05 October 2016  

Jillion, here is an article that also makes some good points about privatisation of electricity assets: https://www.theguardian.com/commentisfree/2016/oct/07/it-seems-like-a-good-time-to-ask-is-privatisation-of-electricity-networks-ever-a-good-idea?utm_source=esp&utm_medium=Email&utm_campaign=GU+Today+AUS+v1+-+AUS+morning+mail+callout&utm_term=193715&subid=14200488&CMP=ema_632

Frank S | 09 October 2016  

Hi David, thanks for your clear explanations. i would love to read one on the privatisation of half of all aussies Telstra for the sole benefit of not all aussies.

martin fleming | 08 February 2017  

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