The government should stay away from running enterprises

The government should stay away from running enterprises
March 26, 2015, 7:14 pm


By Dinesh Weerakkody

The former administration unlike any other previous regimes made a conscious effort to extend its dominance in many economic spheres.

All governments in Sri Lanka in the last 25 years have in many forms tried their hand in running commercial enterprises. Overall, it has been a terrible experience and a costly exercise for the taxpayers. The recent revelations by the Prime Minister of the total mismanagement within Sri Lankan Airlines is a case in point. The general thinking worldwide nowadays, especially after the financial crisis is that government should not run commercial enterprises, no matter whether they are profit-making or not, and the government should only limit its involvement to simply running essential public utilities. We all know it’s not the government’s job to run businesses. It should act as a regulator and facilitator. Over the years successive governments have dumped hundreds of millions of Rupees just to prop up loss making state-run corporations and as a result increased our public debt many times over.

Why they fail?

Governments usually fail in business because politicians, not business executives, run governments. Politicians can only make political decisions, not economic ones. They are, after all, first and foremost in the re-election business. Because of the need to be re-elected, politicians are always likely to have a short-term bias. What looks good right now is more important to politicians than the long-term consequences, even when those consequences can be easily foreseen. Most politicians therefore tend to favor parochial interests over sound economic sense while markets, will always deal efficiently with shortages and gluts. Politicians as we all know too well need big headlines; but letting the market work doesn’t produce favorable headlines and, indeed, often produces the opposite. Then, governments use other people’s money to run businesses. Companies have to manage with their own money. Generally, cost management does not work well with bureaucracies. Indeed, when cost efficiencies are inescapable, bureaucracies often make cuts that inconvenience the public, generating political pressure thereafter to reverse the cuts.

Freedom to operate

Usually, the CEO of a private sector company has the power to manage independently. He decides company policy, recruits the right people, and allocates resources very much as he thinks best to achieve the set objectives for the year. The board of directors, generally does nothing more than reviewing the strategy, the risks, challenge some of the initiatives of the CEO and then ratify his moves, and will certainly fire him, if he fails to deliver the promised results. This allows a company to act quickly when needed. The next issue is the government is regulated by the government. It is the government’s job to make and enforce the rules that allow a society to function effectively. But it has a dismal record of regulating itself. Therefore, while we all know capitalism isn’t perfect. Indeed, to paraphrase Winston Churchill’s famous description of democracy, it’s the worst economic system except for all the others. But the inescapable fact is that often it is the profit motive and competition that help to keep enterprises lean, efficient, innovative, encourage meritocracies and stay customer-oriented.

Regulator

For example take the five big loss makers which were once categorized as the ‘biggest monsters’ by a former Minister of Finance, they have made operating losses amounting to billions of Rupees. This is however not new for Sri Lanka. Many public enterprises continue to make big losses and get away with total impunity. For instance, the two transport enterprises, Railways and SLTB, have made operating losses year after year since 2000 amassing cumulative losses of billions of Rupees. If a private company ran them, they would have been rendered bankrupt many years ago.. However, all these enterprises have been able to continue their business because the taxpayers have been forced to fund these institutions. Either way, it is the public who has to bear the burden of such losses eventually.

Therefore when state enterprises make losses it is undoubtedly ‘bad news’ for all Sri Lankan. This is why many people these days do not want the government to run businesses, simply because, they are not good at doing that. Instead they want them to act as a regulator and as a facilitator and leave commercial enterprise for the private sector to manage.
http://www.island.lk/index.php?page_cat=article-details&page=article-details&code_title=122088

Thanks Ajith.

Thanks Ajith Agreed.

Crowding out effect is what we say above in economics

However I like to request the young generation to consider Keynesian economics and how they emerged after USA failed in state is not in business policy

Pls study different countries like Malaysai, Total Arabian Peninsuala and China

What Capitalists Should Know About State-Owned Enterprises


The face of state-owned companies in Russia, China, and other countries has changed dramatically over the last several decades, says professor Aldo Musacchio. In this article by Michael Blanding, which first appeared on the HBS Working Knowledge website, Musacchio discusses what capitalists need to know about these increasingly powerful competitors.

Once upon a time, there were two kinds of businesses. On the one hand, there were public and privately owned companies such as those that existed in Western-style democracies, which had boards of directors and accountability to shareholders, and competed openly in the free market.

On the other hand state-owned enterprises (SOEs) such as those in the Soviet Union and China, which were tightly controlled by government, packed with party apparatchiks, and stifled honest competition by introducing all kinds of inefficiencies into the market.

Never mind whether this was ever truly so black and white—Western countries certainly had their share of state-owned businesses back in the 1970s—but what is clear is that times have changed. Liberalization of markets in many former Communist countries has fundamentally changed how companies operate and how government invests in them.

And yet, the business world has been slow to catch up to these changes, says Associate Professor Aldo Musacchio, a member of the Business, Government, and the International Economy Unit at Harvard Business School. No longer can Western companies afford to write off these firms as noncompetitive threats or unworthy partners on the global business stage.


“There is still a lot of apprehension about state-owned enterprises,” says Musacchio. “The debate is very polarized. Either you are the United States or you are the Soviet Union, when in reality the world has many shades of gray.”


Over the past several decades, thousands of companies have been privatized in both the developed world and emerging markets. While every company in the former Soviet Union was once state-owned, now only several thousand businesses fit that description. China has gone from hundreds of thousands of state-owned businesses down to around 20,000. Meanwhile, developed countries including Australia, Canada, France, Japan, and the UK have each gone from hundreds to dozens of companies that are either completely or partially controlled by government.

More than just the decline in the number of state-owned companies, however, is the way they are structured.

“Some of the largest state-owned enterprises are becoming almost like private corporations,” says Musacchio. “They are traded in stock exchanges and have boards of directors, maybe even with external managers. We haven’t always understood these changes.”

Leviathan in business
In a new working paper, Leviathan in Business: Varieties of State Capitalism and Their Implications for Economic Performance, Musacchio and colleague Sergio G. Lazzarini of the Insper Institute of Education and Research in São Paulo, Brazil, attempt to tease out some of the distinctions that exist in SOEs today, and propose under what circumstances they might be advantageous or even desirable in the marketplace.

In their paper—an advance treatment for a more in-depth book on the reinvention of state capitalism due out next year—Musacchio and Lazzarini make the distinction between companies that are majority-owned by government, and those in which the government has a minority position, a situation that has become increasingly more common over the past few decades.


Within the latter category, they further identify many different types of minority stakes, from partially privatized firms, to those with minority investments by state-holding companies, to those receiving favorable loans from state-owned banks

What they found is that while the number of state-owned firms has decreased overall, the number of truly important state-run companies, such as oil and telecom firms, has remained steady. Moreover, while private companies may work well in countries with well-developed capital markets, countries without a robust sector for private investment can actually benefit from state investments, providing certain conditions are met.

“In Western markets that had more thorough privatization programs, the stock markets developed more, and it became less necessary for government to prop up companies financially. In most emerging markets, however, the failure in capital markets persists, so the government is trying to correct that market failure by investing in minority stakes in private companies or lending at subsidized rates to such firms.”

At the same time, many Communist and former Communist countries have gone to great lengths to overcome the agency problems that have formerly vexed state-owned enterprises, where directors’ private interests diverged from the interest of the firms they managed.

“In the past, managers of SOEs were sometimes selected according to political interests, and there was no transparency,” says Musacchio. “You see a more careful selection now, sometimes even based on merit.”

In addition, businesses in which the government is a majority shareholder may be more suitable for countries that recognize a “double bottom line” where compelling social interests—such as energy security, economic development, or job creation—are recognized to be just as important as profit. There’s a trade-off, however, as it can open the door to minority investors taking a hit, say as when a government-owned company holds down the price of gasoline in order to benefit voters, but depresses profits for the shareholders of the national oil company.

In the case of minority state investment in businesses, the problem isn’t so much agency issues within the firm as much as it is public cronyism, with companies jockeying to curry favor with government for preferential investments or loans based on political connections.

“In that case, government investments may lead to better outcomes when you have certain institutions to control cronyism, such as an independent judiciary and rule of law,” says Musacchio. “When a government body is investing in companies it should be very independent in how it makes those decisions.”

Interestingly, in further research in Brazil, Musacchio and Lazzarini found that companies that received direct government investment, as opposed to subsidized loans, tended to have better performance overall, a phenomenon they attribute to increased accountability and oversight.

“A company may ask for a subsidized loan just to lower expenses even it doesn’t really need it,” Musacchio says, “while it seems like equity investments only come in when a company really needs it, and when a government becomes an equity shareholder, it tends to monitor more.”

Private practice
Not to leave out private companies, the researchers posit that they work best when three separate conditions are met: capital markets are well developed; companies recognize a single bottom line (such as profitability or sales); and governments are able to institute effective regulation. That last condition, says

In emerging markets, it’s very hard to regulate,” he says. “Big companies are large enough to lobby and capture elected and government officials.” While in some minds that description might also include developed Western democracies, Musacchio says there is no comparison. “I don’t play that card that often,” he says. “Compared to Nigeria, regulation in the United States is amazing.”

In all these discussions, Musacchio hopes to make clear that it’s not so much a question of whether state investment in business is good or bad; on the contrary, there is much more nuance involved in thinking about state ownership of companies—both in theory and on a practical level for those competing against them around the world.


“It’s wrong to think of these state-owned enterprises as the dinosaurs of the past,” he says. “It’s very important for firms to understand these nuances, because you are not competing against the Soviet companies, you are competing against the champions of Brazil and China and Russia.”

In other words, it’s not enough anymore to write off these companies as inefficient leviathans stuck in a hand-out mindset. “They have also learned to leverage the power of government,” says Musacchio. “But they have also learned the rules of the market.”