The Public Benefits of Private Ownership

Karl du Fresne is one of New Zealand’s most perceptive commentators on an extraordinary range of subjects.  I call him the Sage of the Wairarapa.

In earlier years he was not always what I would regard as ‘sound’.  As editor of The Dominion he was a frequent critic, if memory serves, of many of New Zealand’s 1980s economic reforms.

But like good wine – a subject on which he writes knowledgably – he gets better and better with age.

This week he had a great column in The Dominion Post.

He began:

I never cease to be amazed by the number of intelligent people who proudly declare themselves to be socialists, as if this were a badge of honour. A recent example was Gary McCormick, a man I otherwise admire, who proclaimed his socialist leanings on Jim Mora’s radio programme.

The article went on:

Socialism has been disastrous wherever it has been tried. It is oppressive politically and ruinous economically. Why would anyone align themselves with such a failed ideology? …

Strangely, it remains unfashionable to pronounce oneself unashamedly to be a capitalist. Yet all of the world’s freest and most prosperous countries are capitalist democracies – and usually with a Christian heritage too, although it’s even less fashionable to point that out.

Unbridled capitalism is a bad thing. Even the father of capitalism, John Stuart Mill, saw the need to curb its excesses and inequalities. But history has proved that the combination of a capitalist economy and a liberal democratic state provides the best possible conditions for freedom, human rights and economic progress.

This is confirmed by the masses of people from repressive socialist states who have risked everything to migrate to the capitalist democracies of Europe and North America. They clearly recognise that capitalism works for underdogs as much as for anyone else.

How true.

At the heart of socialism is an ideological belief in “public ownership of the means of production, distribution and exchange.”

Like Karl du Fresne, I am amazed at the persistence of this belief in New Zealand.  Around the world governments have been progressively pulling out of owning commercial businesses for over 25 years.  Even Cuba has embarked on privatisation this year.

There is very broad agreement among economic researchers that privately owned businesses, on average and over time, outperform publicly owned ones.  This is an empirical finding, not an ideological one.

It is important to tease out the meaning of this finding.

It is not an assertion that state-owned businesses always perform poorly – at least for a period they may perform well.

Nor is it a statement that privately owned businesses don’t fail.  Of course they can and do: business is a risky enterprise.

Rather the statement is about the general run of performance, which is what matters for public policy.  Governments should not bet against the odds with taxpayers’ money.

The general pattern in New Zealand has been in line with international experience.  Former government trading departments were frequently loss-makers that delivered poor service to customers and were a drag on the performance of the economy.

The adoption of the SOE model improved their performance and privatisation of some SOEs improved their performance further.  The incentives for good performance arising from private ownership and capital market disciplines are stronger than the incentives of politicians.

Privatisation – at least before the event – has not been a popular policy in many countries, perhaps because of atavistic socialist instincts.

This has certainly been the case in New Zealand.  Part of the reason I think is that politicians stopped defending the policy and explaining its benefits and they vacated the field to ideological opponents.

The reality is that most of the 30-odd privatisations have been success stories and relatively uncontroversial.  Few people think the last two major ones, Auckland International Airport and Contact Energy, were mistakes and advocate renationalisation.

Most criticism focuses on Air New Zealand and Trans Rail, both of which the Labour-led government renationalised.  Even if you accept the claim that these were failures of privatisation they don’t invalidate the key finding: that privately owned businesses generally outperform publicly owned ones, and that as a matter of policy governments should not put taxpayers’ money at risk.

Personally, I do not accept the claim.

Air New Zealand was not a failure of privatisation.  Its performance improved greatly for many years after privatisation.  Then it made a disastrous business decision in Australia – something any firm can do – and was also the victim of an unexpected regulatory decision.

Even so, there was no need for the government to take back ownership.  Private solutions to its problems were available.

Since the government became a majority owner, Air New Zealand has performed well operationally under Ralph Norris and Rob Fyfe.  However, its financial performance has been dismal, as this week’s release of the 2010 Annual Portfolio Report by the Crown Ownership Monitoring Unit confirms. 

The Labour government unwisely ignored Warren Buffett’s comment that airline investors would have been spared much pain if the Wright brothers’ Flyer had been shot down when it took to the air at Kitty Hawk.

As for Tranz Rail, Victoria University research found that the financial performance of the business improved significantly under private ownership but not enough  to cover its cost of capital.

Again, however, there was no need for the government to buy back the business from Toll (at a hugely inflated price).  Rail is a difficult business in New Zealand and taxpayers are now exposed to the risk of ongoing losses.  As finance minister Bill English put it, this is “the price of nostalgia.”

A large number of other myths about privatisation persist in New Zealand.  For an elaboration and a rebuttal, see this report for the Business Roundtable by Phil Barry.

Governments have important roles to play in the economy.  We need them to focus on these roles and to perform them well.  We don’t need central and local government politicians to be distracted from them by trying to run commercial business.