The case for pri­vati­sa­tion

Ex­cerpted from a talk pre­sented by Dr Ishrat Hus­sain (for­mer Gover­nor, State Bank of Pak­istan and cur­rently Dean & Di­rec­tor, IBA), at the in­au­gu­ral ses­sion of the KESC Thought Lead­er­ship Fo­rum

Enterprise - - Economy -

There is a con­sen­sus now, whether it is Africa or Europe or Asia, that the state has to be strong to com­bat the ex­cesses of the mar­ket and cope with mar­ket fail­ure. The global fi­nan­cial cri­sis of 2008 has brought this truth home that with­out the in­ter­ven­tion of the gov­ern­ments in the United States and Euro­pean coun­tries, the global fi­nan­cial sys­tem would have com­pletely melted down. It was pre­served and saved be­cause of strong govern­ment in­ter­ven­tion.

It is not that the state should play a lesser or a re­duced role but it has to play a dif­fer­ent role in­so­far as it pro­vides an en­abling en­vi­ron­ment for eq­ui­table and sus­tain­able de­vel­op­ment. And if it cre­ates nec­es­sary con­di­tions for growth through in­vest­ment in hu­man de­vel­op­ment and in­fra­struc­ture, the govern­ment has to play an ef­fec­tive role in reg­u­lat­ing and mon­i­tor­ing the mar­ket to pro­mote healthy com­pe­ti­tion and avoid the rig­ging of the mar­ket by vested in­ter­ests. If you do not have a strong reg­u­la­tory frame­work which is in­de­pen­dent, com­pe­tent and hon­est, then for­get about pri­vati­sa­tion be­cause pri­vati­sa­tion won’t work.

Mar­kets are the best known ve­hi­cle for ef­fi­cient al­lo­ca­tion and util­i­sa­tion of re­sources. The de­ci­sion as to what goods and ser­vices to pro­duce, how much to pro­duce, dis­trib­ute and trade, can be done well only by the pri­vate sec­tor.

This di­vi­sion and re­def­i­ni­tion is also es­sen­tial to re­duce cor­rup­tion and gen­er­ate and sus­tain eq­ui­table growth in the coun­try. If you do not al­low the mar­ket forces and mar­ket prices to de­ter­mine as to what is to be pro­duced … we have all seen what the Sovi­ets were able to do… they de­stroyed the com­plete wealth cre­ation ca­pac­ity of a huge repub­lic within 70 years.

Mar­ket-based com­pe­ti­tion, pri­vati­sa­tion and a strong reg­u­la­tor have suc­cess­fully re­formed the bank­ing sec­tor in Pak­istan and this is a model which should be con­sid­ered for repli­ca­tion else­where in the econ­omy.

What is that we can learn from the bank­ing sec­tor? We started with bank­ing sec­tor re­forms in the 1990s when Prime Min­is­ter Nawaz Sharif was ini­ti­at­ing the eco­nomic re­forms and de­spite the changes in the govern­ment, which were quite fre­quent, the process of pri­vati­sa­tion con­tin­ued with­out in­ter­rup­tion. There were ups and downs – there was fast progress and slow progress – a hiatus – but there was no re­ver­sal of that par­tic­u­lar process. One of the lessons is that it re­quires a long pe­riod of time and no in­ter­rup­tion and po­lit­i­cal sup­port in or­der to move it to its log­i­cal cul­mi­na­tion.

At that time, the three big banks – Habib Bank, United Bank and Al­lied Bank – were all los­ing money. They were bailed out by the ex­che­quer and we had to put in Rs41 bil­lion in the early 2000s in or­der to re­pair the bal­ance sheets of th­ese banks and cap­i­talise them so that they could be sold to the pri­vate sec­tor. With­out re­pair­ing the bal­ance sheet and with­out re­struc­tur­ing them, you could not think about pri­vati­sa­tion.

By 2007, th­ese three banks which were pri­va­tised, were mak­ing prof­its be­fore tax of Rs32 bil­lion and, by 2011, they were mak­ing prof­its of Rs73 bil­lion. They have paid cor­po­rate taxes amount­ing to ap­prox­i­mately Rs25 bil­lion. In ad­di­tion, the govern­ment, as a share­holder in th­ese banks, has earned huge div­i­dends ev­ery year since pri­vati­sa­tion.

The resid­ual eq­uity hold­ing of the govern­ment in th­ese banks has mul­ti­plied sev­eral times of the value which they re­ceived at the time of pri­vati­sa­tion. That is what is re­versed – that from a state of pay­ing from the tax­payer’s pocket, we are now col­lect­ing taxes and div­i­dends for the so­cio-eco­nomic de­vel­op­ment of the coun­try.

It is very dif­fi­cult to con­struct a counter fac­tual ar­gu­ment, but if the govern­ment had held on to th­ese banks and not di­vested the shares along with the man­age­ment of the pri­vate sec­tor, the net losses suf­fered by th­ese banks would have risen to Rs50 to Rs100 bil­lion ev­ery year and the 2008-2009 cri­sis would have cre­ated a ma­jor shock to Pak­istan’s econ­omy.

But it is not the fis­cal as­pects of pri­vati­sa­tion as other fi­nan­cial sound­ness in­di­ca­tors have also im­proved since 2002. The gross non-per­form­ing loans which had reached al­most 25 per cent had de­clined to seven per cent by 2008 but dur­ing the last four years, they have again risen be­cause of the slug­gish­ness in eco­nomic ac­tiv­ity. They are now up to 15 per cent.

The Steel Mills is a typ­i­cal ex­am­ple of what is wrong with pub­lic own­er­ship. It has an­ti­quated ma­chin­ery, is highly over­staffed, poorly man­aged, has weak gov­er­nance, al­most no over­sight and ac­count­abil­ity and huge un­der-in­vest­ment. There are leak­ages and pref­er­en­tial pric­ing to favour a se­lected few at the cost of the con­sumers and the tax pay­ers, con­tracts are awarded not on merit but on con­sid­er­a­tions other than the low­est com­pet­i­tive bid, fre­quent changes are made in the key man­age­ment po­si­tions and ar­bi­trary and whimsical de­ci­sion-mak­ing and dis­con­ti­nu­ity in poli­cies have dam­aged the core busi­ness of the

Steel Mills.

Steel is a com­mod­ity which is quite prone to com­pet­i­tive pres­sures, both in im­ports as well as do­mes­tic pro­duc­tion. All down­stream in­dus­tries are suf­fer­ing be­cause of the high cost and in­ef­fi­ciency of the Steel Mills. Since 2007, ac­cord­ing to news­pa­per re­ports based on Pub­lic Ac­counts Com­mit­tee de­lib­er­a­tions, the mill has lost Rs100 bil­lion. Sev­eral hun­dred mil­lions in for­eign ex­change were in­curred in or­der to bring in steel be­cause the Steel Mill was op­er­at­ing at 25 to 30 per cent ca­pac­ity.

This is the rea­son why in a com­pet­i­tive mar­ket, a ho­mogenised com­mod­ity like steel be­longs to the pri­vate sec­tor rather than the pub­lic sec­tor. The tax­payer’s money should be spent on ed­u­ca­tion, health, poverty re­duc­tion and in­fra­struc­ture rather than on bail­ing out losses of the Steel Mills, while the au­to­mo­bile in­dus­try and the con­struc­tion in­dus­try suf­fer­ing be­cause of the high cost of pro­duc­tion of steel.

A rev­o­lu­tion has taken place in the tele­com sec­tor af­ter the his­toric de­ci­sion to break the monopoly of the state-owned PTCL, by pri­vatis­ing and open up the sec­tor. This has af­fected the lives of a ma­jor­ity of Pak­ista­nis.

Had the PTCL re­mained a state monopoly, with its con­trol on the in­fra­struc­ture and the back­bone, the pri­vate sec­tor op­er­a­tors would not have come for­ward to par­tic­i­pate in the auc­tion for 2G spec­trum and the sec­tor would not have opened up for fierce com­pe­ti­tion.

The pen­e­tra­tion ra­tios would not be any­where close to what we have achieved in the last five or six years and the con­sumer would not have ben­e­fit­ted from the price, ser­vices and con­ve­nience as he is to­day.

I do recog­nise that PTCL has not come up to our ex­pec­ta­tions be­cause they have not paid back $800 mil­lion which is out­stand­ing for sev­eral years and which is part of the con­tract but it must also be con­ceded that un­like sta­te­owned en­ter­prises, they have quickly re­sponded and adapted to the changed mar­ket con­di­tions. They re­alise that the fixed line tele­phony voic­e­seg­ment busi­ness has no fu­ture in light of mo­bile tele­phony and there­fore have shifted to the data ser­vices seg­ment, wire­less lo­cal loop, broad­band, cor­po­rate ser­vices so­lu­tions, car­rier ser­vices and in­ter­na­tional tele­phony busi­ness.

With its spec­trum, in­fra­struc­ture and net­works, they can do even bet­ter but had PTCL re­mained a state-owned com­pany, the changes which we are ob­serv­ing in PTCL’s busi­ness model would, I doubt, have taken place. The de­cline in rev­enues which peo­ple crit­i­cise, earned by PTCL dur­ing the pre-pri­vati­sa­tion were not re­ally the prof­its. They were the monopoly rents be­cause they were the only player in town. But when you have high com­pe­ti­tion and your prod­uct mix has changed, you have to go for a dif­fer­ent busi­ness model.

They have adapted and they are re­spon­si­ble for the pen­e­tra­tion of broad­band, both wired and wire­less, in this coun­try which is the re­quire­ment of the fu­ture. I do not con­sider any bu­reau­crat to be so far-sighted as to be able to per­ceive the mar­ket and tech­no­log­i­cal changes which are tak­ing place and adapt the com­pany for that pur­pose.

I have been crit­i­cised by the me­dia be­cause in one of my in­ter­views, about eight or ten years ago to The Her­ald, I had said that it will be a great ser­vice to the coun­try if Karachi Elec­tric Sup­ply Cor­po­ra­tion (KESC) was sold for even one paisa and since then I have been watch­ing with great in­ter­est the progress of this in­sti­tu­tion.

It is true that they in­her­ited a very dif­fi­cult legacy and, there­fore, their task was quite dif­fi­cult. They were try­ing to run a pub­lic util­ity com­pany with a pri­vate busi­ness model where, if you have ex­cess man­power and you want to of­fer them vol­un­tary sev­er­ance pay­ments, they re­sort to po­lit­i­cal in­flu­ences, which is a part of pub­lic en­ter­prises. All pub­lic en­ter­prises have ex­cess labour and they can­not be re­moved but if you al­low a pri­vate owner and op­er­a­tor to come and run the busi­ness, he is not there for so­cial wel­fare. He is there to max­imise prof­its and also to pro­vide ser­vices. If you have ex­cess labour, you have to find ways in or­der to shed it off and that was cer­tainly a ma­jor prob­lem where KESC had to strug­gle and had to earn some rep­u­ta­tional dam­age - also be­cause the me­dia was full of all th­ese strikes and other ac­tiv­i­ties tak­ing place.

But I don’t think they drifted from their main goal, which was to re­in­state in Karachi a mod­ern, suc­cess­ful, well-func­tion­ing power sup­ply com­pany, de­spite the fact that the fuel mix is not what it should be. Gas, which is re­quired for gen­er­a­tion, is not avail­able and there is a plethora of prob­lems.

And why has this taken place? I pon­der over and I com­pare this with what I had wit­nessed when it was un­der pub­lic own­er­ship. The first and most im­por­tant thing is that a com­pe­tent and ded­i­cated man­age­ment team is in place and work­ing hard to get the job done.

Se­condly, the share­hold­ers are con­tin­u­ously mon­i­tor­ing and keep­ing a vig­i­lant eye over their per­for­mance and pro­vid­ing them all the backup sup­port they need to meet their ob­jec­tives. They have in­vest­ment plans in gen­er­a­tion, trans­mis­sion and dis­tri­bu­tion, which are at var­i­ous stages of ex­e­cu­tion and some of them have been par­tially achieved. They have sys­tems and pro­ce­dures which have been put in place rather than in­di­vid­ual whims and caprices, which drive the or­gan­i­sa­tion.

In­tel­li­gent use is made of tech­nol­ogy to man­age load dis­tri­bu­tion and peak de­mand al­lo­ca­tion. Cus­tomer ser­vice units have been em­pow­ered and re­tooled, and given train­ing to adopt a cus­tomer-friendly, prob­lem-solv­ing at­ti­tude. This is the be­gin­ning of a process which would ul­ti­mately lead to a brighter to­mor­row for Karachi.

This is the slow, tor­tu­ous process of change, re­newal and re­struc­tur­ing, and it re­quires nur­tur­ing. Sus­tain­able de­vel­op­ment re­quires more ef­fi­cient al­lo­ca­tion of re­sources, bet­ter de­ploy­ment of hu­man re­sources, im­prove­ment in the pro­cesses and pro­ce­dures and the use of tech­nol­ogy to find so­lu­tions, and the en­vi­ron­ment for all th­ese in­gre­di­ents is hardly found in sta­te­owned en­ter­prises.

Where there is no com­pe­ti­tion, like in pub­lic util­i­ties, the reg­u­la­tor has to play an ex­tremely im­por­tant role, be­cause pric­ing and con­sumer pro­tec­tion is some­thing the pub­lic util­i­ties can ex­ploit to their ad­van­tage and take the cus­tomers for a ride. There­fore, in or­der to have a suc­cess­ful pri­vate sec­tor en­vi­ron­ment, you need a com­pe­tent and hon­est reg­u­la­tor and that to­gether will lead to bet­ter and ef­fi­cient util­i­sa­tion growth, and even­tu­ally sus­tain­able growth.

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