Productivity and Privatisation – panel discussion at Griffith University, Southbank

I was delighted to speak alongside productivity expert Dean Parham at a Griffith University panel discussion earlier tonight on productivity and privatisation. Thanks to Alex Robson of Griffith for organising the excellent, well-attended event. My prepared remarks are below. I varied them slightly in the delivery but the main points I made were the same as below.

Good evening. The issue of privatisation or asset sales is obviously very topical in Queensland, with the Government seeking to raise over $30 billion from a range of privatisation proposals. These include the sale of power generators CS Energy and Stanwell, the long-term leasing of Townsville and Gladstone ports, and private equity injections into Energex , Ergon and Powerlink. The Government, however, has appeared somewhat unprepared for the lively debate that has occurred and which I expect will continue right up to the election.

I must say I’m very pleased to be participating in this panel discussion on productivity and privatisation tonight. The title of the discussion neatly captures the major issue in assessing the merits of any privatisation proposal: productivity. As I’ll argue tonight, we’ve been a bit distracted in the privatisation debate by the issue of budgetary impacts, an issue that John Quiggin has commented extensively on.

The privatisation of government businesses has always been contentious in Queensland, as the previous Government discovered in its last term, and which should probably have been expected in a State that was at the forefront of so-called Colonial Socialism – the philosophy in the 19th and early 20th centuries that strong State Governments, which were once Colonial Governments, were required to guide the development of the undeveloped colonial economies. The philosophy of Colonial Socialism and its intellectual legacy has seen extensive involvement of the Queensland Government in the economic development of the State, in building road, rail, electricity and water infrastructure, and has seen, at times, egregious extensions into the proper domain of private business. For example, Queensland once had State-owned butcher shops.

Productivity

Many of you will be familiar with Paul Krugman’s quote on productivity – it’s not everything but in the long-run it’s almost everything. Ultimately our economic performance and wellbeing depend on how effectively and efficiently we use the resources, natural, human and man-made, at our disposal.

Australia’s productivity growth has been relatively weak in recent years, far short of the strong growth rates achieved in the 1990s, which, as Dean Parham and others have argued, were due to a large extent to microeconomic reforms in the 1980s and 1990s – reforms that included the privatisation or corporatisation of many Government-owned enterprises.

Clearly there was huge scope for reform of government-owned businesses then. Back in that Golden Age from the end of the War to the 1970s – when were finally mugged by economic reality – Australia enjoyed a very low unemployment rate, typically recording unemployment rates with a 2 in front of them. By many accounts, this owed a lot to State-owned businesses such as railways acting as employers of last resort. Any otherwise unemployable youth could always get a job as a porter in the State-owned railway. We eventually figured out this wasn’t a recipe for a dynamic economy and instead condemned Australia to falling down the league ladder of OECD nations in terms of living standards.

Now since the 1990s a lot of government-owned businesses have been corporatised, including Queensland’s electricity businesses, and you may well ask whether there remains any scope for further efficiency gains. I suspect there might be, particularly for efficiency gains resulting from further reductions in X-inefficiency – the specific inefficiency identified by Harvey Leibenstein where slack exists from resources not being worked hard enough.

My view is there potentially is scope for further efficiency gains and I think the evidence supports this. For example, the Productivity Commission has observed significantly lower costs of operation for privately owned electricity transmission and distribution businesses than publicly-owned businesses. This may be because privately-owned businesses have a clearer profit motive than publicly-owned ones, where the Board may take into account a range of considerations, including possibly pressure from unions for favourable workplace agreements. As found by the Commission, State-owned utilities tend to pay higher wages and salaries than private utilities.

Regarding specific Queensland businesses, the Queensland Independent Review Panel on Network Costs in 2012 found capital expenditure per customer for Energex and Ergon higher than expected based on customer density. Also, operating expenditure was higher than efficient levels for Ergon (but not for Energex).

Also, we know from a World Bank study that the balance of evidence around the world is that privatisation results in significant efficiency gains, though often through the shedding of excess labour that was employed in inefficient, government-owned businesses. This is obviously a politically contentious aspect to privatisation, but is often unavoidable and essential to yielding efficiency gains.

Perhaps some of the reluctance of the Government to produce comprehensive studies of the privatisations of the generators and ports is that such studies would undoubtedly raise the issue of job losses, similar to job losses that have occurred as Aurizon has worked on improving its efficiency.

But the Government could make the case that the community will be better off and that we shouldn’t be protecting jobs by maintaining inefficient government-owned businesses. We used to do that in Australia, but those days have passed. The proper role of government is to provide the right policies and frameworks to promote a highly productive and innovative economy, as well as to provide the public services with public good (e.g. defence) or merit good (e.g. health and education) aspects.

This brings us to an important philosophical question: exactly what activities in an economy should a Government undertake? Clearly no one anymore believes we should have State-owned butcher shops, and no one would expect the Government to run McDonald’s better than it is being run now.

So should any businesses be government-owned? Some will argue that natural monopolies – such as electricity or water distribution networks – should be government-owned, both because they are essential services and because otherwise there is the potential for consumers to be exploited.

But, here, there doesn’t appear to be a logical case for government ownership, but rather for the regulation of natural monopolies. In Australia, we have a significant overlay of economic regulation, administered by bodies such as the Queensland Competition Authority (QCA), the ACCC and the Australian Energy Regulator (AER), that is designed to protect consumers from price gouging.

So I don’t necessarily see a case for government-ownership of businesses, and neither can the Productivity Commission, at least in the case of electricity network businesses, as it noted in its 2013 report on network regulation:

“While governments have a legitimate role in owning and operating many services in Australia, the rationale for state-ownership of electricity network businesses no longer holds. This reflects the development of sophisticated incentive regulations that function best when the regulated businesses have strong cost-minimising and profit motives.

State governments often impose multiple constraints on state-owned corporations that are incompatible with maximising returns to their shareholders…”

I consider this logic is applicable not just to Energex, Ergon and Powerlink, but to other government-owned businesses, including the power generators and ports that are proposed for sale or long-term lease. For example, the Queensland Interdepartmental Committee on Electricity Sector Reform noted in 2013 that:

“…the government owned generators have additional constraints that further impede their operations in the current market, including a policy of no new investment in Queensland, legacy agreements and workforce restrictions.”

So far I’ve emphasised the importance of regulation – it’s the important precursor to efficient outcomes for natural monopolies, not government ownership. Also important is the issue of market design or structure. It’s important to work out whether an asset should be sold whole, or as a vertically or horizontally separated set of businesses. This issue has been an important consideration in debates over the privatisations of Telstra and British Rail, among other businesses, for example.

This also goes to show the importance of doing the detailed analysis of privatisation proposals and ensuring that, first, the sale maximises the return to the community and, second, the post-sale regulations will promote efficient outcomes.

Budgetary impacts

So I hope you agree there is a case for privatisation of Queensland Government-owned businesses based on potential efficiency gains of privatised businesses. Unfortunately, discussion of these potential efficiency gains has been overshadowed by a debate on the budgetary impacts –a narrower issue than productivity.

In part, this has been because the Government has decided to support its privatisation proposals by saying they are essential to paying down the State’s $80 billion debt and repairing the State Budget. Critics, such as John Quiggin, have countered the Government’s argument with the correct observation that privatisations would result in a loss of dividends from the businesses to Government. In the view of the critics, these losses would offset any gains in a reduced interest bill from a lower level of debt achieved by using sale proceeds.

The critics make a fair point, but I have some sympathy for the Government’s position for a few reasons. (Unfortunately, the Government has not so far articulated what I think are much strong arguments for privatisation from a budgetary perspective, although I still consider these arguments secondary to arguments based on productivity gains.)

Paying down debt and regaining our AAA credit rating is an important policy goal, and selling assets is a relatively quick, no regrets way to help achieve this. By relatively quick, I mean it would only take a few years compared with what might be a very long task of paying back enough debt by grinding out a series of surpluses over a decade or more.

Getting back our AAA credit rating will reduce the interest rate at which we can borrow, by say 20 to 30 basis points, saving hundreds of millions of dollars per annum. This is real money that can actually be used to fund health and education services.

Finally, as a former manager in Commonwealth Treasury’s Budget Policy Division, I’m very sympathetic to the challenges faced by Treasury officials in finding the cash to pay the Government’s bills.

Currently, due to Queensland’s large debt, which we need to occasionally refinance as bonds of different terms and vintages mature, we’re highly dependent on the international bond market for funding. This is not a desirable situation. I well remember the anxiety among State Treasury officials across Australia in late 2008 and early 2009 regarding conditions in the semi-Government (i.e. State Government) bond market. Until the Commonwealth stepped in with a temporary guarantee of State Government borrowings, there was great anxiety around how readily (and at what interest rates) State Governments would find the large amounts of money they needed to fund infrastructure and cover operating deficits.

Alas, many of these deeper budgetary considerations are not featured in the Strong Choices advertising campaign, of which I’ll now say a few words.

Strong Choices

In considering the merits of the Strong Choices campaign, it’s necessary to consider what a first-best public policy process would have looked like. Ideally the Government would have undertaken or commissioned a comprehensive analysis of the merits of any proposed asset sales, and such an analysis would take the form of a cost-benefit analysis. Unfortunately, it’s not clear whether such an analysis was done and, if it has been done, it hasn’t been publicly released. I would much rather have seen rigorous analysis of the privatisation proposals than the uninformative Strong Choices campaign. The $6 million the Government spent on that campaign could easily have funded several comprehensive cost-benefit studies of the proposed privatisations.

Strong Choices made what I thought was the pretty obvious point that, if you need to reduce debt, you can cut spending, raise taxes or sell assets. I thought it was severely under-estimating the intelligence of the Queensland public to assume the opposition to asset sales was based on people being unable to grasp this simple point. Instead, the public appears to have a reasonably sophisticated understanding of the budgetary impacts of privatisation. Many members of the public appreciate John Quiggin’s point that you could reduce debt but not improve your long-term financial position because you’ve forgone earnings from the asset that is sold.

Strong Choices appears to have been dreamt up by PR consultants rather than the economists in the Queensland Treasury who should have been consulted. It is unfortunate that we were given Strong Choices instead of genuine information about the likely impacts of proposed privatisations. I can’t speak for Queensland Treasury, but I’m reasonably confident the Commonwealth Treasury would prefer genuine information to a glitzy, uninformative PR campaign. Witness, for example, the massive modelling exercise Commonwealth Treasury undertook to analyse the potential impacts of carbon pricing in the late 2000s. Serious policies require serious analysis.

In forming a view on Strong Choices, I was strongly influenced by a passage in a book On Speaking Well by former Reagan speechwriter Peggy Noonan:

“A good case well argued and well said is inherently moving. It shows respect for the brains of the listeners. There is an implicit compliment in it. It shows that you’re a serious person and understand that you are talking to other serious persons.”

So far, regrettably, the Government hasn’t presented a good case to support its proposed privatisations. I think there is a good case to be made, and, as should be clear from my remarks tonight, I support the Government’s privatisation agenda. But the Government needs to provide much more information and analysis to the public on the proposed privatisations than it has done so far.

In a way, this provides a great opportunity for Queensland economists and students of economics. There is a great desire in the community for intelligent conversation on important economic issues such as privatisation. It’s up to us to ensure people get the best possible economic understanding of the issues that they can.

Thank you.

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