Well-performing state-owned enterprises are also found in Latin America. The Brazilian state-owned oil company Petrobras is a world-class firm with leading-edge technologies. EMBRAER (Empresa Brasileira de Aeronáutica), the Brazilian manufacturer of ‘regional jets’ (short-range jet planes), also became a world-class firm under state ownership. EMBRAER is now the world’s biggest producer of regional jets and the world’s third largest aircraft manufacturer of any kind, after Airbus and Boeing. It was privatized in 1994, but the Brazilian government still owns the ‘golden share’ (1% of the capital), which allows it to veto certain deals regarding military aircraft sales and technology transfers to foreign countries.[15]
If there are so many successful public enterprises, why do we rarely hear about them? It is partly because of the nature of reporting, whether journalistic or academic. Newspapers tend to report bad things – wars, natural disasters, epidemics, famines, crime, bankruptcy, etc. While it is natural and necessary for newspapers to focus on these events, the journalistic habit tends to present the public with the bleakest possible view of the world. In the case of SOEs, journalists and academics usually investigate them only when things go wrong – inefficiency, corruption or negligence.Well-performing SOEs attract relatively little attention in the same way that a peaceful and productive day in the life of a ‘model citizen’ is unlikely to make front-page news.
There is another, perhaps more important, reason for the paucity of positive information on state-owned enterprises. The rise of neo-liberalism during the past couple of decades has made state ownership so unpopular in the public mind that successful SOEs themselves want to underplay their connection with the state. Singapore Airlines does not advertise the fact that it is owned by the state. Renault, POSCO and EMBRAER – now all privatized – try to underplay, if not exactly hide, the fact that they became world-class firms under state ownership. Partial state ownership is practically hushed up. For example, few people know that the state (Land) government of Lower Saxony (Niedersachsen), with an 18.6% stake, is the largest shareholder in the German carmaker Volkswagen.
The unpopularity of state ownership, however, is not entirely, or even mainly, due to the power of neo-liberal ideology. There are many SOEs all over the world that are not performing well. My examples of high-performing SOEs are not meant to distract the reader’s attention away from the poorly performing ones. They are given to show that there is nothing ‘inevitable’ about poor performance by public enterprises and that improving their performance does not necessarily require privatization.
I have shown that all the reasons cited as causes of poor SOE performance apply also to large private-sector firms with dispersed ownership, if not always to the same degree. My examples also show that there are many public enterprises that do very well. But even that is not the whole story. Economic theory shows that there are circumstances under which public enterprises are superior to private-sector firms.
One such circumstance is where private-sector investors refuse to finance a venture despite its long-term viability because they think it is too risky. Precisely because money can move around quickly, capital markets have an inherent bias towards short-term gains and do not like risky, large-scale projects with long gestation periods. If the capital market is too cautious to finance a viable project (this is known as ‘capital market failure’ among economists), the state may do it by setting up an SOE.
Capital market failures are more pronounced in the earlier stages of development, when capital markets are underdeveloped and their conservatism greater. So, historically, countries have resorted to this option more frequently in the earlier stages of their development, as I mentioned in chapter 2. In the 18th century, under Frederick the Great (1740–86), Prussia set up a number of ‘model factories’ in industries like textiles (linen above all), metals, armaments, porcelain, silk and sugar refining.[16] Emulating Prussia, its role model, the Meiji Japanese state established state-owned model factories in a number of industries in the late 19th century. These included shipbuilding, steel, mining, textiles (cotton, wool and silk) and armaments.[17] The Japanese government privatized these enterprises soon after they were established, but some of them remained heavily subsidized even after privatization – especially the shipbuilding firms. The Korean steel maker POSCO is a more modern and more dramatic case of an SOE set up due to capital market failure. The general lesson is clear: public enterprises have often been set up in order to kick-start capitalism, not to supersede it, as it is commonly believed.
State-owned enterprises can also be ideal where there exists ‘natural monopoly’. This refers to the situation where technological conditions dictate that having only one supplier is the most efficient way to serve the market. Electricity, water, gas, railways and (landline) telephones are examples of natural monopoly. In these industries, the main cost of production is the building of the distribution network and, therefore, the unit cost of provision will go down if the number of customers that use the network serves is increased. In contrast, having multiple suppliers each with its own networks of, say, water pipes, increases the unit cost of supplying each household. Historically, such industries in the developed countries often started out with many small competing producers but were then consolidated into large regional or national monopolies (and then often nationalized).
When there is a natural monopoly, the producer can charge whatever it wants to, as consumers have no one else to turn to. But it is not just a matter of the producer ‘exploiting’ the consumer. This situation also generates a social loss that even the monopoly supplier cannot appropriate – known as ‘allocative deadweight loss’ in technical jargon.* In this case, it may be economically more efficient for the government to take over the activity in question and operate it itself, producing the socially optimal quantity.
The third reason for the government to set up state-owned enterprises is equity among citizens. For example, if left to private-sector firms, people living in remote areas may be denied access to vital services such as post, water or transport – the cost of delivering a letter to an address in the remote mountain areas of Switzerland is much higher than to an address in Geneva. If the firm delivering the letter was solely interested in profit, it would raise the price of letter delivery to the mountain areas, forcing the residents to reduce their use of the postal service, or might even discontinue the service altogether. If the service in question is a vital one that every citizen should be entitled to, the government may decide to run the activity itself through a public enterprise, even if it means losing money in the process.
All of the above reasons for having SOEs can be, and have been, addressed by schemes whereby private enterprises operate under some combination of government regulation and/or tax-and-subsidy scheme. For example, the government may finance (through a government-owned bank, for example) or subsidize (out of its tax revenue) the private enterprise undertaking a risky, long-term venture which may be beneficial for the country’s economic development, but which the capital market is unwilling to finance. Or the government may license private-sector firms to operate in natural monopoly industries but regulate the prices they can charge and also the quantity they produce. It can license private-sector firms to provide essential services (e.g., post, rail, water) on condition that they provide ‘universal access’. Therefore, it may appear that SOEs are no longer necessary.
16
W. Henderson (1963),
17
See T. Smith (1955),
*
The full argument is somewhat technical, but the gist of it is as follows. In a competitive market, producers do not have the freedom to set the price, as a rival can always undercut them until the point where lowering the price further will result in a loss. But the monopolist firm can decide the price it charges by varying the quantity it produces, so it will produce only up to the quantity where its profit is maximized. This level of output is, under normal circumstances, lower than the socially optimal one, which is where the maximum price a consumer is willing to pay is the same as the minimum price that the producer requires in order not to lose money. When the amount produced is less than the socially optimal quantity, it means not serving some consumers who are perfectly willing to pay more than the minimum price that the producer requires but who are unwilling to bear the price at which the monopoly firm can maximize its profit. The unfulfilled desire of those neglected consumers is essentially the social cost of monopoly.