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Privatization is a topic that ignites fierce arguments and in general terms it seems quite simple. We, the people, paid for (insert your favorite government enterprise or company here) and therefore to sell it out to the greedy (insert your most despicable and greedy enterprise here) would be grossly unjust and bordering criminality.

That's the 5 seconds summary. If only. If only it would be that simple!

LET'S BEGIN FROM THE BEGINNING

Well… almost. We won't get back in time and point out that almost anything that a government provides today has been provided first by a private enterprise. This goes without saying. Governments simply took over. Governments are always late–comers when it comes to provide goods and services to the people.

The beginning we are looking for is the current state of affairs. Government enterprises can be divided in three classes, two exhibiting one overriding feature: they are not financially viable with the third one being the exact opposite. The three classes are:

  • Purely "commercial" enterprises… which typically go broke when subsidies run out
  • Social "enterprises" which must be supported by taxpayers (and hence are technically broke) since they provide for "social needs" (think roads or water)
  • Resource–based enterprises which are widely profitable despite government mis–management (such as oil or diamonds).

When people discuss privatization they invariably assume social enterprises and with reason. We will do the same. These enterprises typically provide services to people (natural gas, electricity, telephone, health care, water, etc.) and therefore people are concerned about price rises.

PRIVATIZATION IS NOT EVIL

Many people believe that privatization is evil and therefore anybody advocating privatization is evil too. There is this notion that we all paid for government companies and it would therefore be unfair to sell them out, particularly taking into consideration that we are not going to see a cent.

Right from the beginning we see the hidden pink elephant in the room that nobody wants to talk about because it is politically inappropriate: Money. Most people would be OK with selling government enterprises if they would receive part of the money. Alas, this is never to be. Remember, taxation is a one way street only: from our pockets to politician's pockets.

From people's point of view, they paid for the enterprise through taxes; they won't recoup a cent and on top of that prices will go inexorably up. A no–brainer… or at least it would seem so.

The problem is that it is not a no–brainer. Quite the contrary. The main element that people choose to ignore is that these enterprises are not financially viable. All they see is taxes going out of their pockets and cheap services being received. They don't make the connection. They don't understand that they are paying through taxes for the "cheapness" of said services. There is no free lunch. All accounting books must balance. Furthermore, if we take a look at all the "extra" expenses that government companies incur, we would notice that the final price we pay for their "services" is above the free market price!

To make matters even worse, many of these services are sub–par (when it comes to quality or service) while at the same time governed by quixotic rules and regulations whose only purpose is to get politicians out of tight spots.

In other words, government enterprises are not only expensive and inefficient, they are also irrational.

Consequently, any solution that would force said enterprises to be cheap, efficient, rational and would cost nothing to the taxpayer must be welcomed. This process is the opposite of evil. This process is called privatization.

THE BASICS OF GOVERNMENT ENTERPRISES

A typical government enterprise is composed of a gigantic monopoly build on top of a very expensive infrastructure governed by irrational rules and operating at a loss. Think sewers, water pipes, electricity wires, natural gas pipes, etc.

These elements are the ones that create the biggest headaches when it comes to privatization. Consider the following points:

Monopoly: a monopoly is monolithic by definition and design. It is one gigantic system whose parts depend mutually from each other. There is one Sales Division, one Engineering Division, one Transportation Division and so on. Any division cannot operate without the others. A monopoly is pretty much impossible to break–up. Since this monopoly is artificial and not one that grew out of a free market, it needs to be broken–up to ensure competition. This task is an impossible one.

Infrastructure: most government monopolies require expensive and un–movable infrastructure to operate. Building sewers is expensive and they cannot be moved. Same goes for electric lines, phone lines, natural gas pipes, water pipes, etc. This presents an insurmountable entry barrier to any other would–be competitor. How do you try to compete with an established monopoly supplying water to a city if you cannot use existing water pipes? Do you lay your own pipe down? Not a chance; too expensive and there is no assured return on investment. Hence, there is no competition. So, what do you do? Good question, anybody has a good answer?

Irrational rules: the operation of government enterprises are a based on political decisions. These decisions are based on vote–maximization conditions. These conditions have nothing to do with reality but everything to do with people's feelings. People vote mostly through gut–feeling, considering that there is nothing stable or credible about any politician. Therefore, government enterprises end up operating based on irrational rules. If the lobbying of large electricity consuming enterprises is effective, they will get a tariff cut. If there are low–income neighborhoods protesting loudly, they will get a tariff–cut. If a neighborhood income is above average, they get a tariff increase. If a community is far from the supply, they get a subsidy so that phone lines may reach them… paid for by long–distance tariffs. The list of irrationalities goes on and on. All these irrationalities foster mal–investments which now need to be supported by… you guessed it, your taxes. If a company would have to pay more for electricity; jobs would be lost. This is not acceptable and so the company gets a subsidy, or a tax break or some other financial or market advantage. The problem is, the company should have never been built in that area because electricity was expensive to begin with!

Operating at a loss: all the irrationality brought about by vote maximization considerations is ultimately expressed as financial in–viability. Government enterprises operate at a loss. Always. This means that they will require a constant influx of money. Money that the government does not have and therefore it must either tax, borrow or print… which in the end produces the same result: you and us pay for it. This is yet another in–surmountable problem with privatization.

Note: please see the Glossary if you are unfamiliar with certain words.

Continue to Privatization Follies Part 2

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