Winners and Losers: Assessing the Distributional Impact of Privatization
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World Development Vol. 31, No. 10, pp. 1617–1633, 2003
Ó 2003 Published by Elsevier Ltd.
Printed in Great Britain
www.elsevier.com/locate/worlddev 0305-750X/$ - see front matter
doi:10.1016/S0305-750X(03)00141-4
Winners and Losers: Assessing the
Distributional Impact of Privatization
NANCY BIRDSALL and JOHN NELLIS *
Center for Global Development, Washington, DC, USA
Summary. — Most technical assessments classify privatization as a success. But privatization,
especially in transitional and developing economies, is seen as fundamentally unfair both in
conception and execution, and it is widely and increasingly unpopular. We set out a simple
framework for assessing the equity (or fairness) and efficiency gains from privatization, and for
understanding any tradeoff between the two. We then review what is known about the
distributional effects of privatization, focusing on changes in asset ownership, employment and
returns to labor, access to and prices of utility/infrastructure services, and the selling government’s
fiscal position. We conclude that many privatization programs have worsened the distribution of
assets and income, at least in the short-run. This is more evident in transitional economies than in
Latin America. It is less clear for utilities such as electricity and telecommunications––where
privatization has resulted in greatly increased access for the poor––than for banks, oil companies
and other natural resource producers, where the benefits have been concentrated.
Ó 2003 Published by Elsevier Ltd.
Key words — privatization, income distribution, wealth distribution, welfare analysis
1. INTRODUCTION begin privatization of the energy sector; and in
India parliamentary opposition halted (tempo-
Technical analyses of the outcomes of priv- rarily) the national privatization program in
atization are generally positive. Privatization September of 2002.
has increased profitability, returns to owners Why this disconnect between technical as-
and investors, economic efficiency, and welfare sessments and popular opinion? The reason
and growth. But public perceptions of privati- seems to be that technical studies focus only on
zation are generally negative––and they are shifts post-sale in operational and financial
getting worse. performance at the level of the firm, subjects
For example: a majority of people surveyed about which the general public knows little and
in 2001 in 17 countries of Latin America dis- cares less. At the heart of popular criticism is a
agreed with the statement ‘‘The privatization of perception that privatization is fundamentally
state companies has been beneficial. . .,’’ and the unfair in both concept and implementation: it
extent of disagreement was much greater than is seen as harming the poor, the disenfran-
three years earlier. 1 More than two thirds of chised, the workers, and even the middle class;
1,600 Russians interviewed in 2001 thought throwing people out of good jobs and into poor
that they had lost more than gained from the ones or unemployment; raising prices for es-
privatization of state property; only 5% said the sential services; giving away national trea-
opposite. Of Sri Lankans polled in 2000, most sures––and all this to the benefit of the local
thought that privatization had increased pov- elite, agile or corrupt politicians, and foreign
erty and raised the cost of living, and over 60% corporations and investors. The complaint is
opposed the privatization of the remaining that, even if privatization contributes to im-
state-owned firms. In Uruguay, a plebiscite re- proved efficiency and financial performance
voked a privatization law narrowly passed by (some question this as well), 2 it has a negative
parliament; South African Nongovernment effect on the distribution of wealth, income and
Organization (NGOs) and community activists political power.
have formed an Anti-Privatization League; in
Mexico President Vincente Fox has been un-
able to make any progress on a promise to * Final revision accepted: 4 December 2002.
16171618 WORLD DEVELOPMENT
In this paper we review the burgeoning lit- of the assets that generate income. A move
erature on the distributional effects of privati- along the frontier must lead to more efficiency
zation. We examine which groups have gained and less equity or vice versa, the definition of a
or lost, and, where all have gained by some tradeoff.
measure, which groups gained the most. Sec- In an economy that is not perfectly compet-
tion 2 outlines a simple framework within itive, however, there is no such necessary
which to consider the efficiency and equity tradeoff. At point C in Figure 1, the economy
gains and losses of privatization. Section 3 has the potential to move to both greater effi-
summarizes assessments of the overall financial, ciency and equity, for example to point D. 3
efficiency and macroeconomic effects, usually Most developing and transitional economies
considered in terms of gains or losses in finan- are less efficient than the economies of indus-
cial and operating performance at the level of trialized countries. Their low income is not only
the firm, returns to owners and investors, and the result of their limited resources. They also
latterly to aggregate welfare and to the com- often fail to use well what resources they pos-
petitiveness and growth prospects of an eco- sess, because of lack of enforceable property
nomy. Section 4 reviews what we know from rights, policy deficiencies (e.g., distortionary tax
theory and from existing studies on distribu- systems, labor market rigidities), outright cor-
tional issues, using the framework of Section 2. ruption, and the protected monopolies that
Section 5 concludes. state enterprises often represent. 4 Historical
injustices, civil conflict, political instability,
crushing levels of disease or frequency of nat-
ural disasters may all also keep economies more
2. A GENERAL FRAMEWORK or less permanently inside the efficiency fron-
tier.
Economists usually frame the question of For any given productive capacity, many of
equity or distribution in the context of a these economies are also highly inequitable––
tradeoff with efficiency or growth. In a perfectly because of government or policy failures that
competitive economy at its production frontier, sustain insider privileges or corruption, or be-
without any externalities, information asym- cause of historically driven concentrations of
metries or other problems of missing or im- wealth in land, oil, or other assets. Of course it
perfect markets, there is likely to be such a is also possible for a society to be inefficient but
tradeoff––as in Figure 1. On the frontier, the equitable (‘‘Cuba’’ in Figure 2) or highly effi-
only efficient means of redistribution is through cient but also relatively inequitable (‘‘United
lump-sum transfers that have no effect on the States’’ in Figure 2).
incentives of economic agents, on prices, and so The point is that in most developing and
forth. A perfectly competitive economy can be transitional economies well inside the produc-
highly inequitable (point A), or equitable (point tion frontier there is no necessary tradeoff
B), often as a function of some initial allocation between increasing efficiency and resulting
A Efficiency
Efficiency
United States
D
C Cuba
B
Equity Equity
Figure 1. Equity and efficiency: a competitive versus an Figure 2. Examples: the economies of the United States
imperfect market. and Cuba.WINNERS AND LOSERS 1619
Because the post-privatization path of a
society, in terms of wealth and income distri-
Efficiency bution, is neither unidirectional nor fully de-
termined by transfer of ownership itself, any
a single snapshot-like assessment of where a so-
ciety is relative to where it was before may be a
poor indicator of the long-run effects of priv-
atization. The outcome will be shaped by the
b amount of time since the process began, the
extent to which the process directly affected
the post-privatization environment, and by a
host of independent factors that can affect the
Equity direction of the path (efficiency gain at point D
in Figure 4 was only temporary).
Figure 3. Privatization with more equity and more We take it that the main or ultimate objective
efficiency. of privatization everywhere has been, or should
be, to secure efficiency gains for the economy as
economic growth on the one hand, and in- a whole. Where distributional issues have been
creasing equity on the other. This means it considered, they have generally been devised in
should be possible to implement privatization the context of greasing the wheels to make
in ways that promote both equity and effi- privatization politically more palatable. Behind
ciency. To the extent that privatization reduces the usually paramount goal of improving effi-
monopoly rents held by the wealthy, for ex- ciency has been the implicit assumption that
ample, it is likely to increase both efficiency and government could and should use other, more
equity in the economy as a whole. 5 traditional and direct instruments for redistri-
The structure and outcome of each privati- bution, through tax and expenditure policies.
zation event is only one factor in the overall Of course, that assumption has not always been
story of privatization’s effect on equity (or borne out, because of political and economic
distribution) at the country level. Pre-privati- constraints that are independent of privatiza-
zation conditions matter––there will be more tion policy per se.
scope for an improvement in equity the Some stylized examples illustrate the logic of
more inequitable is the initial situation. Of the framework (all cases are drawn from real-
course, the same is true with respect to ini- ity; see the sources noted in the text). With its
tial inefficiency (Figure 3, paths a and b). The planned economy, the former Soviet Union
post-privatization environment (degree of com- was, at the outset of transition, highly ineffi-
petition, regulatory arrangements) can rein- cient, though possibly reasonably equitable––
force or alter the original path. Complicating with everyone comparably badly off (point A in
matters, one-time privatization events, even if Figure 5). Privatization in Russia made the
extended over several years, may help deter- economy both more efficient and at the same
mine the post-privatization policy and institu-
tional environment, and thus the long-term
path of a society. To illustrate, mass privati-
zation efforts in the post-communist transi-
tional economies were justified on the grounds Efficiency
that privatization was necessary and perhaps
even sufficient to create competition and induce
increased firm (and overall economic) efficiency
(Figure 4, from A to B via privatization, then to C
C in the post-privatization competitive envi- D B
ronment). But the unanticipated outcome in
several countries, most notably Russia, was A
that privatization initially increased the econ-
E
omy’s efficiency, but also locked in insider
privileges (A to D); those insider privileges then Equity
brought competition-eroding corruption that
undermined efficiency as well (D to E). 6 Figure 4. Possible post-privatization paths.1620 WORLD DEVELOPMENT
Efficiency Efficiency
c c
b
b a
a A
A
Equity Equity
Figure 5. Examples: Soviet Union, Russia. Figure 6. Example: Peru, electricity.
time less equitable, as some former state assets and authority of regulators (paths b, c; see
were acquired by a relatively small group of Torero & Pasc o-Font, 2001). 8
insiders (path a). The resulting concentration In the United Kingdom, privatization of the
further worsened equity, and stalled or even electricity sector provided large initial efficiency
reversed efficiency gains, as many of the new gains, but underestimation of these gains, com-
inside owners concentrated on asset stripping bined with nonaggressive or incomplete regu-
rather than productivity-enhancing investments lation in the years immediately after sale, meant
(path b). 7 But, subsequent policy shifts, in- that the new owners, and not consumers, cap-
cluding a start on corruption control, seem to tured most of the initial gains (Figure 7, path a;
have halted the growth in inequity, by elimi- see Newbery & Pollitt, 1997).
nating favors, and increasing efficiency. The In Brazil, privatization of state telecommu-
elimination of some insider subsidies assisted in nications monopolies brought huge efficiency
promoting a more competitive environment gains, with greatly increased coverage and
(path c). quality for consumers and for productive sec-
In Peru, a state-run electricity utility was in- tors for which communications is a critical in-
efficient initially, with poor management, high put. But underpricing of the firm to ensure the
technical losses, poor revenue collection, and sale was successful 9 may have meant that
irrational pricing. Its performance was highly middle-income taxpayers lost out, and the
inequitable, providing virtually no services to windfall gains to a small number of new owners
poor neighborhoods, while under pricing or increased the overall concentration of assets
failing to charge and collect fees in middle-class (path a in Figure 8). If those windfall gains go
and rich neighborhoods or from large indus-
trial users. (Point A in Figure 6.) Privatization
increased efficiency dramatically, with offsetting
effects on overall equity (path a). Offsetting
equity effects appear to have resulted from a
combination of higher prices for the previously Efficiency
insulated middle class with much better access
(and a lower than ‘‘infinite’’ price) for the poor.
Many poor, e.g., in rural areas, were still un-
served and thus relatively worse off than other a
poor––though not worse off in any absolute
sense. Other urban poor––those whose prior
access through illegal hook-ups was eliminated,
a common outcome of electricity privatization A
in Latin America and Asia––were made abso-
lutely worse off. In subsequent years, equity Equity
gains could be reinforced or reversed depending
on political pressures and on the competence Figure 7. United Kingdom, electricity.WINNERS AND LOSERS 1621
structing a different post-privatization envi-
ronment (regarding competition, regulation,
Efficiency etc.).
b
3. THE OVERALL ECONOMIC RECORD
As noted, the shift to private ownership
a usually improves a firm’s performance. Post-
privatization, profitability has generally in-
creased, often substantially, as have output,
dividends and investment. After reviewing 65
Equity
empirical studies at the firm level, touching a
wide range of sectors and across countries in
Figure 8. Brazil, telecommunications. different regions and of different income levels,
Megginson and Netter (2001) conclude flatly
that ‘‘. . .privately-owned firms are more effi-
primarily to foreigners there may be no direct cient and more profitable than otherwise-com-
effect on the domestic distribution of wealth parable state-owned firms’’ (p. 380). 10
and income, but it still could produce a Privatization’s economy-wide effects on the
heightened sense of unfairness in the society as government budget, and on growth, employ-
a whole. If the fiscal windfall is squandered ment and investment are less established. An
(e.g., because it temporarily relieves the con- IMF review of 18 privatizing countries reports
straint on acquiring more debt), leading to substantial gross receipts from privatization,
subsequent increases in interest rates or reduc- accounting for nearly 2% of annual GDP
tions in social and other expenditures that are (Davis, Ossowski, Richardson, & Barnett,
relatively progressive, these second-stage indi- 2000). Governments have generally ended up
rect effects may exacerbate the initial inequity with about half that amount, reflecting the high
(path b; see Macedo, 2000). costs of financial clean-ups, labor downsizing
The overall point is that there can be no and sales assistance. Even 1% of GDP is sub-
simple prediction about the distributional ef- stantial, but the long-run effects on government
fects of privatization; the impact depends on revenue generally come not from sales proceeds
at least three factors: initial conditions, the (a one time infusion) but from the elimination
sale event, and the post-privatization political of subsidies to state enterprises, and from
and economic environments. The privatization subsequent increased tax revenues from more
event may reinforce or undermine aspects of profitable and productive private enterprises.
the environment that are conducive to equity, Governments as diverse as Mexico, C^ ote
or may simply reflect that environment, or may d’Ivoire and Mozambique received, in the first
be independent of it. Assessment of those ef- few years following sales, more from privatized
fects will also depend on at what point on the firms in taxes than from direct proceeds of
‘‘path’’ we measure the outcome. In the end, sales. A ‘‘flow of funds’’ analysis in Bolivia
the question is an empirical one, unlikely to shows, in the first four years following sales, a
yield to any simple generalization across positive financial return to government of US$
countries and over time. Thus, understanding 429 million––and this in a case where govern-
the distributional impact of privatization re- ment received not a penny of the sales pro-
quires an assessment of real cases, and the ceeds. 11 The IMF concludes that markets and
setting of those cases in the larger context of investors regard privatization as a healthy sig-
their political as well as economic environment nal of the political likelihood that government
and history. will stick with its overall reform program, im-
At the same time, our framework suggests plying somewhat higher investment rates in the
that in most settings there has been room for economy overall.
efficiency-enhancing privatization that is also Privatization does not always work well. In
equity enhancing. The conclusion is that where low-income countries privatization has proven
there has been a tradeoff it might have been more difficult to launch, and less likely to gen-
avoided or diminished by a different process or erate quick, positive effects. There are settings
by earlier or more vigorous attention to con- where many privatizations have not, or not yet,1622 WORLD DEVELOPMENT
yielded visible, positive performance improve- counter distributional shifts as a result of
ments––in Armenia, Moldova and Guinea, for ownership change.
example. Even in countries where the process is
an overall success, not every privatization im- (i) Distribution of assets
proves firm performance. In three comparable Privatization shifts an asset owned (in theory)
studies, looking at 204 privatizations in 41 by the taxpayers as a whole to one owned by
countries, between one-fifth to one-third of private persons or firms. Whether the shift in
privatized firms registered very slight to no ownership reduces or increases overall equity in
performance improvements, or, in some cases, a society depends in part on the extent to which
worsening situations (Megginson & Netter, the price received by the selling state adequately
2001, pp. 355–356). A two thirds to four fifths reflects the underlying value of the asset. If the
success rate is not bad. Still, inherited condi- seller underprices an asset, for example, to en-
tions place some firms beyond hope of internal sure a quick sale or reward a political crony,
reform, or some new owners operate in such equity will decline, in the short-run at least. The
poor markets and policy frameworks that a effect of the change in ownership on the long-
change of ownership is not by itself enough to run distribution of incomes between taxpayers
turn the tide. and new owners ultimately depends on both
Because of this, controversy continues about the initial price and the post-sale stream of
the effects of privatization, in particular in set- value the asset produces.
tings where complementary reforms are not Privatization might be arranged to spread
in place, competition is still limited, and regu- direct (i.e., share) ownership widely among the
latory and supervisory capacity embryonic. affected population. Privatization may also
These institutional-administrative conditions confer, or permanently deny, hitherto unreal-
are especially relevant in natural monopolies ized pension benefits, creating or eliminating
and in such sectors as banking. Nonetheless, an asset of employees.
the technical assessments generally show that
privatization has been among the more suc- (ii) Return on assets––labor
cessful of the liberalizing reforms from the Privatization can change the return on assets,
point of view of increasing the efficiency of such as labor, in a manner that affects the dis-
economies and thus their competitiveness and tribution of income. For example, low-income
growth prospects. In more cases than not workers might be more likely to be laid off than
privatization has yielded good returns to new high-income workers, or dismissed low-income
private owners, freed the state from what was workers might have a more difficult time find-
often a heavy administrative and unproduc- ing alternative employment, or the employment
tive financial burden, provided governments in they do obtain might be less remunerative than
place with both a one-time and longer-term either the work they left, or the work gener-
fiscal boost, and helped sustain a larger process ally obtained by higher-skilled, higher-income
of market-enhancing economic reforms. workers who were also dismissed. Conversely,
if privatization is an important element in an
overall reform program that leads to higher
growth and general job expansion, then pre-
4. DISTRIBUTIONAL EFFECTS viously unemployed or poorly paid workers
might gain jobs, or better jobs.
(a) What might happen? The frequent allegation of union leaders is
that cost-cutting measures by new private
So, privatization is generally good for the owners fall disproportionately and unfairly on
new owners. What about the rest of society? At workers. Labor leaders argue that it has been
issue in distribution terms are the effects of poor management and poor government poli-
privatization on the welfare of different initial cies that are the root causes of the financially
income groups or households. Their consump- troubled state of public firms, but it is labor
tion depends on their income and the prices that is asked to pay the price of reform. Pro-
they face. Their income, in turn, depends on ponents of privatization suggest that poor past
their assets, including their labor, human capi- performance in public firms requires a period of
tal, ownership of land and other physical or restructuring resulting in cuts in employment,
financial capital, and the return on these assets. part of which might occur before the actual
We list below the areas where one might en- sale. But the job reduction phase might, and itWINNERS AND LOSERS 1623
is hoped, would be temporary. Under more price implies a higher real price). Steep price
dynamic private ownership total employment increases following privatization have been
numbers might eventually recover, and even common (but not universal) in divested net-
surpass, the number originally employed. work or infrastructure industries, e.g., electri-
city and water and sewerage, less common in
(iii) Return on assets––physical capital telecommunications. Very large increases in
Privatization can also change the return on quality of service are typical.
the physical capital that is shifted. If the new On the equity side, the argument of reformers
private ownership is more efficient than the is that trying to protect the consumer by
state, the return on the pre-existing capital keeping the price of essential services artificially
(profits) will rise. This can constitute a perfectly low did not work. It resulted in subsidies to the
legitimate reward to new effort or entrepre- comparatively wealthy, and imposed costs
neurial skill, with spillover benefits (e.g., new elsewhere in the economy that outweighed the
jobs at higher wages) from the owners of cap- policy’s benefits. Better, it was thought, to let
ital to the economy overall. Conversely, if the the firms operate under private, profit-maxi-
new owners further neglect or strip the assets, mizing ownership, and use other state mech-
value can be subtracted, and equity could easily anisms (taxes, regulation) to protect consumer
suffer, as firms scale back or close and more welfare and acceptable levels of income distri-
jobs are lost. bution.
One can, however, readily think of situations
(iv) Prices and access where rational policies followed by private,
Privatization can affect prices differentially profit-maximizing ownership might impose
across income groups. On the one hand, prices particular and disproportionate costs on the
could fall. If increased competition is part of or lower-income groups in a society. Again, in-
accompanies the change of ownership, the pri- frastructure yields the most obvious exam-
vate owner might be forced to offer lower ples. 12 It is plausible that price increases in
prices. If private management is more efficient, electricity and water––required to cover vari-
some of the savings might be passed on to able costs and expand the network––will fall
consumers. Conversely, prices––particularly in more heavily on poorer consumers, who might
privatized infrastructure firms––might have to be spending a higher percentage of their income
increase if they had previously been held below on these services than do the wealthy. The often
cost-covering levels by government action, or if vigorous and aggressive moves by new private
new private owners move to end illegal con- owners to collect arrears, and end illegal water
nections to services and collect from previously and electricity connections, likely fall most
tolerated delinquent customers, or if bodies heavily on the poor, especially the moves to end
regulating privatized infrastructure firms are illegal connections. Even when a privatized
weak or ineffective, etc. The distributional im- service expands through investment into for-
pact of price shifts will depend on the extent to merly unserved, and thus probably poorer
which consumption of the goods and services in neighborhoods, the residents might not be able
question varies by income group, and if differ- to take advantage of it due to the high costs of
ent levels of consumption, or categories of con- connection fees or new equipment that the
sumers, face different prices. consumer often must provide to tap the water
Privatization might improve access to pro- or power.
ducts by means of business expansion (that the In telecommunications, a common result of
investment-constrained public firm could not reform and privatization has been ‘‘tariff re-
carry out). Conversely, the private owner might balancing,’’ leading to large price increases
withdraw from or ignore some markets that the in formerly subsidized local ‘‘fixed line’’ tele-
public enterprise was obliged to service. phony, while introducing competition––usually
Pricing and access issues are closely en- producing rapidly falling prices––in interna-
twined. The prices citizens and consumers face tional services and through mobile phone sys-
can be broadly conceived to include whether or tems. But since the poor might tend to place
not they have access at all to a good or service most of their calls locally through fixed lines,
(the price is infinite if they have no access to the price increase could have a negative dis-
electric power, for example), and to take into tributional consequence.
account the quality of a good or service ob- Issues of access (or coverage) arise in the
tained (a lower quality for a given nominal context of infrastructure privatization. Due to1624 WORLD DEVELOPMENT
lack of incentives to perform, low tariffs and
other investment constraints, many publicly
owned infrastructure firms persistently failed to Efficiency
meet demand. With a relaxation of the invest-
ment constraint and a proper incentive struc-
ture in place, new private owners might see the
x
logic of expanding to meet pent-up demand.
Moreover, it is commonplace for sales con-
tracts in infrastructure to specify investment
and expansion targets, in order to extend the
service to clients and regions formerly not
served. In many instances, a disproportionate
percentage of the new customers will be drawn Equity
from the lower income groups. The distribu-
tional impact of this expansion will be a func- Figure 9. Privatization’s initial effects: the ‘‘average’’
tion of the initial income of the new customers, case.
and the relative shifts in expenditure that result
from connection to the network. For example,
where the poor were paying vendors for water,
(e.g., vouchers) to achieve this aim. But almost
connection to the network could result in much
all privatization programs have done much
lower unit costs––if they can afford the often
more to enhance efficiency than equity. At least
substantial up-front connection fee. They
initially, and on average, privatization has
might, however, face some minimal consump-
worsened wealth distribution and, to a lesser
tion threshold that exceeds the amount they
extent, income distribution. The increase in
previously consumed, raises their costs, and
inequality has varied across countries, from
worsens distribution.
slight increases (e.g., in Latin America) to very
large ones (e.g., in Russia and some other
(v) Fiscal effects transition economies). Overall, in the terms of
Privatization may affect real income net of our analytical framework, the average privati-
taxes if its fiscal effects are to reduce the tax zation program reviewed in the literature has
burden differentially across households, or to taken path x (Figure 9).
increase the benefits differentially of govern- To disaggregate the general conclusion:
ment services such as education and health that
are funded by new tax flows. The fiscal effects
of privatization on income distribution––which (i) Ownership
come through any changes in revenues (in- Troubling or disappointing outcomes are
cluding via affects on service expansion), and in particularly common in regard to ownership.
expenditures, are indirect and possibly offset- For example, privatization programs and tech-
ting. Reduced hemorrhage of tax revenues and niques in many transition countries resulted
any increases in public expenditures probably in a mass and rapid transfer of asset owner-
benefit the relatively poor. But the indirect ef- ship from society at large to a small group
fects are easily offset in countries where broader of agile, daring, often unscrupulous actors. One
fiscal problems eat up initial sales revenue and can argue, as do Anders A slund and Andrei
invite a prolongation of weak fiscal policy–– Shleifer, that despite the admittedly unfair and
ultimately with costs to growth as well as im- often illegal manner of the asset allocation,
proved equity. these owners have now put poorly used assets
to productive work, the results obtained are
(b) What does happen? superior to the alternative of leaving the firms
in state hands, and the resulting distributional
A great deal of empirical work on these loss is an unavoidable, bearable price that must
questions has emerged, all of it after 1990, and be paid for the efficiency gains, and indeed, for
most of it in the last few years. After reviewing the transition to succeed. 13 Others vigorously
this evidence, we conclude that many if not dispute this conclusion. 14 While few would
most privatization programs list as an objective defend the notion that state- or socially-owned
maintaining or improving distributional equity, enterprises were managed mainly with the
and many have built in some specific measures public interest in mind, there can be little doubtWINNERS AND LOSERS 1625 that ownership has become more concentrated, their supporters. In other instances dispersed with negative, if perhaps short-term, conse- minority shareholders (shares obtained by quences on asset distribution. vouchers) found that all assets were ‘‘tunneled’’ The ownership issue has caused concern in out of their firm, which suddenly consisted of less dramatic (and more empirically determin- nothing but liabilities; or the value of minority able) circumstances: in their study of the priv- shares overnight fell to zero (as someone gained atization of the electricity sector in the United a majority stake and had no use for more Kingdom, for example, Newbery and Pollitt shares); or the company was inexplicably de- (1997) show that in the first years following listed from the stock exchange, or the privati- sale, the overwhelming bulk of the financial zation fund invested in transformed without rewards generated by the substantial efficiency notice, discussion or appeal to an un-sellable gains was captured by the new private share- status, etc. (Nellis, 1999, 2002). Overall, the holders, at the expense of both government and principal distributional problem may be more the taxpayers. In this case both government psychological than financial: people were told, and consumers/taxpayers did reap some gains. or it was implied, that the voucher was the The contrast is not winners to losers, but rather means whereby the mass of state property huge winners to very small winners. In a sub- would be equitably shared out among the citi- sequent study Newbery (2001) concluded that zens. This did not happen and the disappoint- as time passed and electricity regulators gained ment and resentment engendered by this failure experience, they became increasingly able to is still discernable and of political import in transform the efficiency gains into lower prices many transition countries, to privatization in for consumers. As noted above, how one as- particular, and to liberalizing reform in general. sesses privatization outcomes depends partly At the same time, generally positive distrib- on when one makes the assessment. Nonethe- utional outcomes viewed in a few cases suggest less, the initial wealth distributional impact was that negative paths are not an automatic or negative in both the Russian and the British inevitable result of the application of privati- (electricity) cases (path a in Figures 5 and 7). zation. For example, the Bolivian program Mechanisms employed ex ante to address the promoted both efficiency and equity (roughly ownership issue included offering vouchers to from C to D in Figure 1) partly because of the general population, and reserving a tranche political foresight and clever program design, of shares in privatized firms for the employees and partly because the prevailing stable macro- (and sometimes retirees), usually at a steep economic situation––in good part, a function discount. Both measures proved useful in re- of wise leadership––allowed authorities con- ducing employee resistance to privatization. In siderable financial latitude. (The public’s per- many cases sharp increases in share prices ception of the program, nonetheless, remains post-sale have improved the income position negative.) The point, for the moment, is not the of the shareholders, the employee shareholders extent to or the frequency with which equity- among them, 15 though the number of people enhancing outcomes occur; it is that they occur touched by such schemes is, normally, too at all. 17 small to make any difference to overall distri- bution patterns. (ii) Employment In transition economies vouchers were widely In terms of returns on assets (other than disseminated, 16 but the distributional impact shares of firms), the main topic of analysis has has been disappointing, not only in the infa- been the effect of privatization on employment mous cases of Russia and the Czech Republic, levels and returns to labor. Despite the saliency but in Mongolia, Moldova, Kazakhstan, Lith- of the employment issue, the matter has only uania and elsewhere. This is not in the sense of recently received rigorous attention. It is clear directly worsening the position of the recipi- that public enterprises were overstaffed, often ents, who obtained the vouchers for free or at a severely so; that in preparing for (or as a sub- nominal price, but rather in the sense of returns stitute for) privatization, public enterprise em- on the vouchers being so much less than an- ployment numbers declined, sometimes greatly, ticipated or promised, and so much less than and that these declines generally continued the amounts gained by the agile and/or dis- post-privatization. One survey of 308 privatized honest few. In some cases the best companies firms shows post-sale reductions in 78.4% of were not privatized by vouchers, but rather cases, with no change or job gains in only went, in nontransparent deals, to managers and 21.6% (Chong & L opez-de-Silanes, 2002, p. 43).
1626 WORLD DEVELOPMENT
The question of what kind of jobs people find firms to raise their retail prices to cost-covering
after dismissal from public enterprises is just levels, and partly because inexperienced regu-
beginning to receive attention; fragmentary evi- lators have found it difficult to hold down or
dence suggests a lengthening of hours worked, reduce tariffs in privatized infrastructure firms––
and reductions in fringe benefits and security are such as to produce, in the short-run, in-
of tenure. creased inequity, e.g., in Peru, Spain (Arocena,
Overall, the evidence indicates that more 2001, and elsewhere). The finding is sufficiently
people have lost jobs than gained them through generalized to prompt Estache, Foster, and
privatization. Assuming that those dismissed Wodon (2002, p. 9), in their review of infra-
derive most of their income from employment, structure privatization, to conclude: ‘‘One of
and in the absence of detailed or persuasive the most painful lessons is that unless govern-
information about the incidence and size of ments take specific actions, the gains from re-
severance payments, or the amount of time form take longer to reach the real poor than the
required to find alternative employment, 18 we richer segments of the population, and hence
conclude that: in the short-run, the average worsen income distribution.’’ 21
employment effects of privatization have tended An important part of the price impact stems
to worsen distribution. These effects are prob- from the elimination of illegal connections to
ably overestimated in the public’s perception, electricity and water networks. Delfino and
given the capital intensity of State-owned en- Casarin (2001, p. 23) note that in Argentina,
terprises (SOEs) and the relatively small per- for example, 436,000 of the first 481,000 addi-
centage of national labor forces employed tional subscribers to the privatized electricity
therein. 19 system were those who had had illegal hook-
ups. In economic terms the shift from theft to
(iii) Prices and access paying status results in a clear welfare loss.
A widespread result of utility privatization is On the assumption that a majority of those
network expansion and increased access to the with illegal connections were lower-income
service by the population, especially the urban people, the result is likely to be an increase in
poor (the rural poor are still generally left out); inequity.
this is seen in Peru (T orero & Pasc o-Font,
2001), Argentina (Chisari et al., 1999; Delfino (iv) Fiscal effects
& Casarin, 2001; Ennis & Pinto, 2002), Bolivia Finally, we noted above that in studies cov-
(Barja & Urquiola, 2001), Mexico (L opez- ering 18 countries, mostly developing and
Calva & Rosell on, 2002), and in a number of transitional, the net fiscal effects of privatiza-
other Latin American examples. The increase tion were receipts on the order of 1% of GDP.
in access is very often substantial, the rate of That is a substantial amount in a single year,
increase is far greater than before divestiture, but modest relative to the size of economies or
and the studies cited above (note that all are even of government budgets over several years.
from Latin America) have concluded that the In some countries, the critical fiscal benefit of
poorer segments of the population have bene- privatization has been to eliminate direct bud-
fited, disproportionately, from these increases. get transfers (that subsidized commercially
Expansion is partly a function of profit- unviable enterprises, or compensated for polit-
oriented owners moving to expand their mar- ically determined underpricing of an enter-
kets––easier now that the firm can tap private prise’s service or products). That subsidy flow
investment capital––and partly a matter of sales had been substantial for politically visible
contracts stipulating investment levels and public infrastructure services, such as energy
network expansion targets. In cases where ac- utilities, water and sewerage services, railroads,
cess increases significantly and prices do not and telecommunications, and often resulted in
rise greatly, increases in access have a positive the rationing of underpriced services. In turn,
distributional impact outweighing the negative that rationing had affected poorer households,
effects of price shifts (McKenzie & Mookherjee, which often ended up without any services at
2002, p. 55). all. The tax-financed subsidies provided bene-
Often, however, increases in access are ac- fits primarily to the nonpoor in the form of
companied by substantial increases in prices. 20 employment at wages above the market, or
A number of studies reveal that the amount underpricing for those with access.
and structure of these price increases––partly Tax systems are regressive in many develop-
due to the very common need for the privatized ing countries. They rely heavily on indirectWINNERS AND LOSERS 1627 trade and value-added (consumption) taxes. To 5. OBSERVATIONS AND CONCLUSIONS the extent privatization reduces the hemorrhage of funds to keep losing firms afloat, it produces Our analysis is drawn from a limited number indirect benefits, in terms of increased retained of countries and a limited set of sectors, over a tax revenues. More efficiently managed, higher relatively short period. Some important regions productivity private firms do tend to pay more are more or less left out of the story; for ex- taxes, thus increasing government revenues. All ample, very little is known about Africa. 22 The this could result in increased benefits to the Latin American studies reviewed treat almost relatively poor. That is, since expenditure pat- exclusively infrastructure privatizations; 23 lit- terns in most developing countries are some- tle is known there or elsewhere about the dis- what more progressive than the income tributional impact (possibly more favorable) of distribution itself (though hardly very progres- the larger number of privatizations of firms sive), this would also suggest an indirect benefit producing tradable and other goods in com- to the relatively poor. The critical question of petitive markets––from large steel mills to small whether or not this has happened has been hotels. Our observations on the effects of priv- neglected. atization on asset ownership and wealth dis- In many cases, governments have used reve- tribution depend heavily on findings from the nues from privatization to reduce the stock of transitional economies of the former Soviet public debt. Prima facie, that makes sense. But Union and Eastern Europe, especially Russia the ultimate use of privatization revenues is a and the Czech Republic. These findings arise function of the overall fiscal performance of a from initial conditions that if not sui generis are government, since even when revenues reduce thoroughly unlike those encountered in other debt stock, indiscipline on the fiscal side means regions and settings, or even in other countries those revenues are indirectly financing the in transition. government’s current expenditures or increas- In transitional economies, the initial situation ing its space to borrow more. Macedo (2000), regarding economy-wide inefficiency (generally argues that privatization revenues in the mid- high) and income and wealth inequality (com- 1990s merely prolonged the period during paratively low) has not been systematically which Brazil tried to sustain the nominal value taken into account in assessing privatization’s of its overvalued currency and put off the day impact on changes in inequality. We do know of reckoning, which finally came in 1998. The that in transition countries in the 1990s gross potential fiscal benefits were thus lost as gov- measures of income inequality––as measured ernment used reserves to protect the currency. by Gini coefficients; see Figure 10 in the ap- Mussa (2002) describes the same failing in Ar- pendix––increased from relatively equitable gentina. Revenues from privatizations in the starting points, sometimes modestly (Czech mid-1990s were significant over a period of Republic, Hungary, Slovenia), sometimes enor- three or four years; despite those infusions the mously (Russia, Tajikistan, Armenia). But government failed to generate the fiscal sur- what precise role did privatization play in the pluses it needed. Both the national and subna- large increases in inequality? There does not tional governments kept on borrowing, and appear to be much of an association between ultimately the privatization revenues were the sheer amount of privatization and the de- swallowed up in the collapse of the currency gree of increase; slow and fast privatizers are and debt default in 2002. found at both ends of the spectrum. More likely In Bolivia, the initial situation seemed better, explanations are the method of divestiture because the government did not accept sales used, the type of new owner installed, the se- revenue but in effect retained one-half the value quencing and intensity of other market reforms of the enterprises (as ‘‘shares’’ held to generate and, especially, the nature and density of the benefits for future pensioners) and exchanged ‘‘institutional framework’’ 24 prevailing in the the other half in return for the new owners’ country prior to, during, and after the privati- commitment to invest equivalent amounts in zation events. the enterprises themselves. Even in Bolivia, Another limiting factor is that privatization however, subsequent fiscal problems led to the has been, for the most part, a phenomenon of failure of the government (that succeeded the the 1990s. Our understanding of the effects of administration that had initiated the program) ownership change is mainly based on analyses to pay out benefits to its older citizens to the undertaken shortly after its implementation extent originally undertaken. (and most of these during an economic boom).
1628 WORLD DEVELOPMENT Static snapshots, taken at most within three or from the privatization event, 25 yielding a wealth four years after the privatization event, do not of insights. But, as all these authors readily tell the whole of what can be a changing story. admit, counterfactual construction is based on To illustrate, in the mid-1990s the Czech an element of ‘‘crystal ball gazing.’’ As with Republic’s early, rapid and massive privati- other studies cited which employ partial and zation program was judged a great success. simpler devices to gauge who wins and who As more information became available, and loses from privatization, the problem of attri- problems of both performance and fairness bution of the outcome––whether to ownership surfaced, the consensus interpretation shifted in change or to something else––cannot be com- 1997–98 sharply towards the negative. In Po- pletely solved. land, in contrast, observers were at first critical The fact is that the other reforms that ac- of the country’s hesitant approach to the priv- company privatization do matter, especially for atization of large firms, but then switched to the distributional impact. Initial conditions, greater enthusiasm as Poland returned to competition enhancement and market structure growth and macroeconomic stability. Indeed, reform affect performance of privatized firms as Poland’s overall good performance, in the ab- much or more than ownership change. 26 More sence of large-scale privatization (combined than ownership change is required for the ma- with comparatively poor performance in rap- jority of households, poor and middle-income idly privatizing Russia and the Czech Repub- people to benefit from privatization’s efficiency lic), led some to question the importance of gains. rapid and mass privatization––and others to In the case of infrastructure, where so much emphasize that quick privatization in the wrong of the distributional problem has arisen, the environment could have the wrong effects al- key factor emerging from the above discussion together. Now the pendulum has once again is the creation or reinforcement of an inde- swung back; major and recent fiscal and eco- pendent, accountable regulatory regime, not nomic problems are partially attributed to simply in law, but in functioning practice––i.e., Poland’s failure to privatize a set of large loss- one that can design and monitor contracts, makers when it had the chance. There have offer economically rational, legally enforceable been similar shifts in interpretation and judg- rulings, and is resistant to capture by private ment in Argentina, Bolivia, Russia and the providers. The better the regulatory regime, United Kingdom. the better has been the distributional outcome Almost all these shifts in interpretation have from privatization of electric power, telephones, been based on variations over time of financial water and sanitation. A practical upshot for the and operating performance of privatized and case of infrastructure privatization is that sell- state firms, not distributional consequences. ing governments, and those that assist them, But since, as we have shown, distributional should invest more upfront attention and effort outcomes often depend on privatization’s effi- in the creation and strengthening of regulatory ciency and productivity results, shifts in inter- capacity, and less in organizing quickly trans- pretation of the overall economic consequences actions. This means taking the time to lay of privatization imply shifts in the assessment the required institutional foundations. In the of the distributional impact as well. United Kingdom it took five years for the This points to a third question. Are observed regulators of the privatized electricity industry changes over time in income distribution asso- to master the skills needed to squeeze out bene- ciated with privatization, or are they produced fits for the average consumer (Newbery, 2001). by other reforms and policies taking place If that is the case in an OECD setting, what can contemporaneously? A few pioneering studies one reasonably expect from new regulators in (Galal et al., 1994; Jones, Jammal, & Gokgur, developing and transition countries? 1998; Newbery & Pollitt, 1997; Pollitt & Advice to move slowly is not a costless pre- Domah, 2001) construct a ‘‘counterfactual’’ scription. The period between the launching of that tries to assign to ownership change only a regulatory regime and the assessment that it is those performance shifts post-privatization that in proper working order could be, probably will are clearly caused by the ownership change be, long. In the interim, losses in the affected per se. This means that the studies must state firms could continue and mount, opposition what would have been the performance had the to reform harden, reformers grow weary. We firm not been privatized. These studies also nonetheless judge that the prescription holds. attempt to determine the winners and losers Effective regulation is a double winner: neces-
WINNERS AND LOSERS 1629
sary in the short-run to minimize troubling those that assist them––to design and implement
distributional outcomes, it is equally important privatization to obtain gains in both distribu-
to maximize efficiency. tional and efficiency/growth terms. It is folly to
We conclude with three points regarding fu- dismiss equity problems as an unavoidable,
ture policy. First, privatization of firms pro- temporary price to be paid for putting assets
ducing goods and services sold in competitive back to productive use. Equity can be enhanced
markets has not posed a distributional prob- without harm to efficiency; indeed, short-term
lem, even in low-income countries (Nellis, attention to equity concerns can boost medium-
2003). This form of divestiture generally opens term efficiency. Societies might reasonably
the way for small and medium businesses to choose an initially less efficiency-oriented ap-
thrive. All developing and transitional coun- proach, in order to diminish long-run risks to
tries should move forward and conclude this efficiency and growth that initial resulting ineq-
sort of divestiture. uities would undermine (through corruption or
Second, privatization’s distributional record rent-seeking for example). Minimizing the
even in infrastructure is not as bad as popularly sometimes real unfairness produced by privati-
thought. Where attention has been given to zation, and––just as important––countering the
creating the right regulatory framework, these misperception that privatization is always and
transactions have led to increased access, es- inevitably unfair, is worthwhile, so as to preserve
pecially for the poor. the political possibility of deepening and ex-
Our third, admittedly less concrete point is tending reforms. In the end, a democratic gov-
that selling governments can and should do more ernment cannot implement reform when masses
in their privatization programs to maximize the of people are in the streets attacking that reform,
potential distributional gains. We believe it is and, of course, no government can enact reform
desirable and possible for governments––and if it is not in power.
NOTES
1. Survey conducted by Latinobarometro, interviews 6. As argued by Stiglitz (1999a, 1999b).
conducted in April and May 2001, results presented in
The Economist, July 28–August 3, 2001, p. 38.
7. Discussions of the distributional effects of privati-
zation in transition economies positing negative out-
2. See Tandon (1995), who argues: ‘‘. . .there are, of
comes include Alexeev (1999), Ferreira (1999), McHale
course, many cases where privatization appears to
and Pankov (1999), Nellis (1999, 2002), and Stiglitz
have Ôresulted’ in efficiency improvement; in most of slund (2001) and Shleifer and Treis-
(1999a, 1999b). A
these cases, however, the privatization appears to have
man (2000), present a countering, much more positive
been contemporaneous with deregulation or other
interpretation of events.
types of competition-enhancing measures’’ (pp. 229–
230).
8. For other Latin American cases see Barja and
3. Birdsall, Ross, and Sabot (1995) argue that the lack Urquiola (2001, Bolivia), Delfino and Casarin (2001,
of any tradeoff explains why the East Asian tigers, with Argentina), Chisari, Estache, and Romero (1999, Ar-
relatively low inequality, grew rapidly in the 1960s gentina), and Paredes (2001, Chile).
through 1980s compared to Latin America, with its high
inequality.
9. Governments often underprice to ensure that the
sale will go forward. The principal purchasers thus get a
4. Thus, as Easterly (2001) notes, additional invest- bargain. But another reason for underpricing is to
ment capital or additional foreign exchange provided by encourage local citizens to take part. A mechanism
aid will not necessarily yield any additional product or devised with at least some distributional purpose may,
growth. overall, add to inequity. Large share price increases in
the first day or days following sale are common;
5. See for the theoretical underpinnings of this view Megginson and Netter (2001, p. 366) review five studies
Aghion, Caroli, and Garcia-Penalosa (1999), and Ben- documenting ‘‘significant, often massive levels of under
abou (1996); for some empirical refinements, see Barro pricing’’ in China, the United Kingdom, Malaysia and
(2001) and Birdsall et al. (1995). Hungary and elsewhere.1630 WORLD DEVELOPMENT
10. Other literature surveys reaching similar positive appeared to rest largely on several questionable assump-
conclusions (see Sheshinski & Lopez-Calva, 1998; Shir- tions; e.g., that workers who lost their jobs had received
ley & Walsh, 2000). A review of the effects of ownership the average wage.
change in transition economies is found in Djankov and
Murrell (2002). 19. Behrman, Birdsall, and Szekely (2000) found in a
large sample of reforming Latin American countries that
11. The Bolivians ‘‘capitalized’’ a group of the largest privatization was not responsible for increasing wage
state firms, by selling 50% of equity to strategic differentials, and indeed, was probably a factor mitigat-
investors, who committed to investing the total sales ing the increasing disparities. Chisari et al. (1999) argued
price into the firms themselves (Barja & Urquiola, 2001). that privatization in Argentina was not responsible for
the large increase in general unemployment seen in 1993–
12. In many countries many poor people are not 95. McKenzie and Mookherjee (2002) calculate that
connected to any of the infrastructure networks, making privatization was not a principal cause of rising unem-
moot the issue of gains and losses relative to other ployment in the 1990s in Argentina, Bolivia or Mexico.
income groups. Still, a surprisingly high percentage of
the developing world’s population is connected to the 20. This would seem to be easy to determine, but
electricity grid; a smaller fraction has formal water or different studies reach different conclusions, depending
telephone services (see Komives, Whittington, & Wu, on the base year chosen and several other factors. In the
2001). Argentine case, for example, Delfino and Casarin (2001)
assert large price increases post-privatization; Ennis and
13. Aslund (2001, p. 21) argues that that any attempt Pinto (2002) state that prices for the privatized utility
to avoid or delay privatization in transition economies services declined significantly.
would only have compounded the pain; indeed ‘‘. . .the
higher the level of privatization that an ex-communist 21. This study contains numerous practical suggestions
country has attained, the higher economic growth it has on how to protect the poor, in terms of access and price,
achieved.’’ Shleifer and Treisman (2000, p. 38) see the in infrastructure reform.
inequities of Russian privatization as ‘‘. . .troubling, but
not exceptional. . . privatization in Russia worked con- 22. The few pioneering studies include Appiah-Kubi
siderably better than its politically feasible alternative: (2001), Due and Temu (2002), and Temu and Due
doing nothing.’’ (1998); see also Nellis (2003).
14. Again, see Stiglitz (1999a, 1999b). 23. In these (see, for example, Barja & Urquiola,
2001; Delfino & Casarin, 2001; Ennis & Pinto, 2002;
15. Employees often sell quickly shares acquired in this Estache et al., 2002; Lopez-Calva & Rosell on, 2002;
manner, but even then they tend to benefit since T
orero & Pasc o-Font, 2001) innovative techniques
government sellers tend to greatly underprice the initial are used to estimate the distributional impact of utility
offerings. privatization using household expenditure survey data.
16. According to the European Bank for Reconstruc- 24. Djankov and Murrell (2000) argue that institutions
tion and Development (1999), vouchers were the pri- particularly relevant to privatization are the function-
mary method of privatization in nine of 26 transition ing, accessibility and honesty of the legal/judiciary
states, and a secondary method in an additional 11. systems, particularly with regard to the arbitration of
commercial disputes and the enforcement of contracts;
17. Technical reviews assess the outcomes of Bolivia’s the structure and prudential regulation of capital mar-
programs as positive in both efficiency and equity terms kets and insolvency/bankruptcy regimes; and the capa-
(Barja & Urquiola, 2001), but the program remains city of the state to regulate remaining natural monopoly
deeply unpopular in Bolivia. Nonetheless, the architect firms to protect consumers from the abuse of monopoly
of capitalization, Gonzalo Sanchez de Lozada, was power.
returned to the presidency in the elections of 2002.
25. Not specifically in terms of shifts in distribution,
18. Galal, Jones, Tandon, and Vogelsang (1994) at- but in terms of what change in total welfare was brought
tempted to estimate these factors for the 12 privatiza- about by the privatization, and how was this welfare
tions they studied. They concluded that no worker lost change, positive or negative, allocated among relevant
out as a result of privatization, but that conclusion societal actors or groups––the sellers, buyers, consum-You can also read
