WHAT ARE THE CAUSES OF PRIVATISATION?? OBJECTIVES OF PRIVATISATION ?

MEASURES OF
PRIVATISATION?

The transfer of state owned enterprises/properties to the private owners is called Privatization,
which has become a common economic policy tool around the globe. The trend towards
privatization is a debatable issue. Indeed, debate between the superiority of the private and
public sectors has been going on for the past four to five decades. The discussion initially focused
on how the size of public sector measured by the size of government consumption affected
economic growth .

Findings of many studies demonstrated that privatization did not contribute to growth but
helped to reduce income inequality, inflation contributed negatively to both economic growth
and income equalization. On the other hand, several economists stated that Privatization, a
method of reallocating assets and functions from the public sector to the private sector play vital
role for economic growth. Recently, privatization has been adopted by many different political
systems and has spread to every region of the world. The process of privatization can be
successful way to bring about fundamental structural change by formalizing and establishing
property rights, which directly creates strong individual incentives. A free market economy
mainly depends on well-defined property rights in which people make individual decisions in
their own interests. According to experts, privatization may improve efficiency, provide financial
relief, boost wider ownership, and increase the availability of credit for the private sector.

Major causes of Privatization are:

– To reduce the burden on Government

– To strengthen competition

– To improve Public finances

– To fund infrastructure growth

– Accountability to shareholders
– To reduce unnecessary interference

– More disciplined labour force.

The private sector have effective policies in solving the problem of externalities, through costless
bargaining, driven by individual incentives. According to the Coase Theorem, individual parties
will directly or indirectly take part in a cost-benefit analysis, which will eventually result in the
most efficient solution .

When comparing with public sector, the private sector responds to incentives in the market. On
the other hand, public sector often has non-economic goals. The public sector is not highly
driven to maximize production and allocate resources effectively, causing the government to run
high cost, low-income enterprises. Privatization directly shifts the focus from political goals to
economic goals, which leads to development of the market economy . The down-scaling aspect
of privatization is an important one since bad government policies and government corruption
can play a large, negative role in economic growth . Through privatizing, the role of the
government in the economy is condensed, thus there is less chance for the government to
negatively impact the economy .

Privatization may have a positive impact on a country’s economic situation. Privatization should
not be used to finance new government expenditures and pay off future debts. Instead,
privatization enables countries to pay a portion of their existing debt, thus reducing interest
rates and raising the level of investment. By reducing the size of the public sector, the
government reduces total expenditure and begins collecting taxes on all the businesses that are
now privatized. This process can help bring an end to a vicious cycle of over-borrowing and
continuous increase of the national debt .

Nations around the world have adopted different methods of privatizing state assets depending
on the initial conditions of the country’s economy and the economic principles of the political
party in charge.

Major method of privatization is the sale of state-owned enterprises to private investors. The
state would simply decide which institutions should be privatized and through the use of market
mechanism, private investors are able to buy shares of each organization. Advantage of this
method of privatization is that it creates badly needed revenues for the state while putting
privatized firms in the hands of investors who have the incentives and the means of investing
and reformation.

Other method of privatization is called voucher privatization. The government universally

distributes vouchers to its eligible citizens, which can be sold to other investors or exchanged for
shares in other institutions being privatized. Although this method does not create profits for the
state, it does privatize state-owned firms in a short period of time.

Next method of privation is called internal privatization, also known as “employee or

management buyout”. State-owned enterprises are sold to managers (for an extremely low
price) who are already familiar with the particular firm and its structure, but there are minimal
revenues created for the state. This method creates some incentives but the incentives are much
stronger when firms are sold to strategic investors. Furthermore, new owners often do not have
the resources to invest and restructure, which is badly needed in a large percentage of state-
owned firms in underdeveloped countries.

One of the noticeable feature of privatization is the improved competitive characteristics it

provides to the enterprises which prove to be fruitful for the business as well as the country.
Nonetheless, privatization contracts are greatly influenced by merger variables and even global
issues and are structured on the basis of manipulation of the government and the private actors
along with the administering jurisdiction.

Privatization can be categorized into three parts:

– Delegation: Government keeps hold of responsibility and private enterprise handles fully or
partly the delivery of product and services.

– Divestment: Government surrenders the responsibility.

– Displacement: The private enterprise expands and gradually displaces the government entity.

Privatization certainly is beneficial for the progress and sustainability of the state-owned
enterprises.

The advantages of privatization can be apparent from both microeconomic and macroeconomic
impacts that privatization exerts.

Microeconomic advantages:

State owned enterprises generally are outdone by the private enterprises competitively. When
compared the latter, it shows better results in terms of profits and efficiency and productivity.
Therefore, privatization can provide the necessary push to the underperforming PSUs.

Privatization brings about fundamental structural changes providing momentum in the

competitive sectors.

Privatization leads to implementation of the global best practices along with management and
motivation of the best human talent to foster sustainable competitive advantage and improvised
management of resources.

Macroeconomic advantages:

Privatization has a positive impact on the financial growth of the sector which was previously
state dominated by way of decreasing the deficits and debts.

The net transfer to the State owned Enterprises is lowered through privatization.

It helps in escalating the performance benchmarks of the industry in general.

It can initially have an undesirable impact on the employees but progressively in the long term,
shall prove advantageous for the growth and prosperity of the employees.

Privatized enterprises provide better and quick services to the clients and help in improving the
overall infrastructure of the country.

Though privatization offers numerous advantages, it has many disadvantages:

Private sector mainly focuses more on profit maximization and less on social objectives dissimilar
to public sector that initiates socially viable adjustments in case of emergencies and criticalities.

There is lack of clearness in private sector and stakeholders do not get the complete information
about the functionality of the enterprise.

Privatization has provided the unnecessary support to the corruption and unlawful ways of
accomplishments of licenses and business deals amongst the government and private bidders.
Lobbying and bribery are the common issues corrupting the practical applicability of
privatization.

Privatization loses the mission with which the enterprise was established and profit
maximization programme encourages malpractices like production of lower quality products,
elevating the hidden indirect costs, price escalation etc.

Privatization results in high employee turnover and a lot of investment is required to train staff
and even making the existing manpower of PSU abreast with the latest business practices.

There can be a conflict of interest amongst stakeholders and the management of the buyer
private company and initial resistance to change can impede the performance of the enterprise.

Privatization intensifies price inflation in general as privatized enterprises do not get government
subsidies after the deal and the burden of this inflation affects the common man.

Analysis of private Sector with reference to the Indian Economy:

Government of India chose for a mixed economy in which both public and private sectors were
permitted to operate. The private sector had to operate within the provisions of the Industries
(Development and Regulation) Act. 1951 and other relevant legislations. In this framework, the
Industrial Policy Resolution 1956 stated, Industrial undertakings in the private sector have
necessarily to fit into the framework of the social and economic policy of the State and will
subject to control and guideline in terms of the Industries (Development and Regulation) Act and
other relevant legislation. The Government of India recognizes that it would be desirable to
allow such undertakings to develop with as much freedom as possible, consistent with the
targets and objectives of the national plan.

Reports indicated that in spite of speedy progress of the public sector in the period of planning,
private sector is the principal sector in the Indian economy.

Since many decades, numerous modern industries have been established in the private sector.
Important consumer goods industries were set up in the pre-Independence period itself.
Examples include cotton textile industry, sugar industry, paper industry and edible oil industry.
These industries were set up in response to the opportunities offered by the market forces. They
were highly suitable for private sector since they ensured good returns and required less capital
for establishment. Though the engineering industries were not established in the pre-
Independence period, yet Tata had initiated in the field of iron and steel industry at Jamshedpur.
After Independence, a number of consumer goods industries were set up in the private sector.
Presently, India is practically self-reliant in its requirements for consumer goods. According to the
1956 resolution, “industries producing intermediate goods and machines can be set up in the
private sector.” As a result, chemical industries like paints, varnishes, plastics etc. and industries
manufacturing machine tools, machinery and plants, ferrous and non-ferrous metals, rubber,
paper, etc. have been set up in the private sector.

In India, there is a need of privatization of companies to enhance economic status. Though the
PSUs have contributed a lot to develop the industrial base of the country, they continue to suffer
from a number of inadequacies such as;

Many PSUs have been incurring and reporting losses on a continual basis. Consequently, a large
number of PSUs have already been referred of loss giving units.

Multiplicity of authorities to whom the PSUs are accountable. Delay in implementation of

projects leading to cost escalation and other consequences.

There is Ineffective and extensive inefficiency on management.

Many PSUs are over-staffed resulting in lower labour productivity, bad industrial relations.

There are many examples of privatization of companies in India such as:

– Lagan Jute Machinery Company Limited (LJMC)

– Videsh Sanchar Nigam Limited (VSNL)

– Hindustan Zinc Limited (HZL)

– Hotel Corporation Limited of India (HCL)

– Bharat Aluminium Company limited (BALCO)

Privatisation in infrastructure sector started with the modification of relevant legislation to
permit private enterprises to enter power generation in October 1991. Reforms have been much
successful in telecommunications sector. Value added services were opened to private sector in
1992, followed by the enunciation of the National Telecom Policy in 1994-95 which opened up
basic telecom services to competition. Foreign equity participation up to 49% was permitted in
case of a joint venture between an Indian and a foreign firm.

The Telecom Regulatory Authority of India (TRAI) was established in 1997. In order to separate
the service-providing function of publicly owned telecom enterprises and policy-making
function, both of which were initially with the Department of Telecommunications, a separate
Department of Telecom Services was set up in 1999- 2000. The two public sector service
providers were corporatised in 2000-01. International long-distance business, which was a public
sector monopoly, was opened to unrestricted entry in 2002-03.

In roads sector, there are also infrastructure reforms. Major reform was the creation of a major
new source of funding for national, state and rural road construction, called the Central Road
Fund (CRF) under the Central Road Fund Act of2000. The National Highway Development Project
funded by the CRF is one of the largest single highway projects in the world. It includes the
nearly 6,000 km of Golden Quadrilateral (GQ) connecting the four metropolitan cities of
Chennai, Delhi, Kolkata and Mumbai and 7,300 km of North-South and East-West Corridor.

Major impact of Privatisation on Indian Economy are as under:

It frees the resources for a more productive utilisation.

– Private concerns tend to be profit oriented and transparent in their functioning as private
owners are always oriented towards making profits and get rid of sacred cows and hitches in
conventional bureaucratic management.

– Since the system becomes more transparent all fundamental corruption are minimised and
owners have a free reign and incentive for profit maximisation so they tend to get rid of all free
loaders and vices that are inherent in government functions.
– Gets rid of employment inconsistencies like free loaders or over employed departments
reducing the strain on resources.

– Lessen the government’s financial and administrative load.

– Effectively minimises corruption and optimises output and functions.

– Private firms are less tolerant towards capitulation and appendages in government
departments and hence tend to right size the human resource potential befitting the
organisations needs and may cause resistance and disgruntled employees who are accustomed
to the benefits as government functionaries.

– Permit the private sector to contribute to economic development.

– Development of the general budget resources and diversifying sources of income.

In short, privatization is the process of transfer of ownership, can be of both permanent or long
term lease in nature, of a once upon a time state-owned or public owned property to individuals
or groups that intend to utilize it for private benefits and run the entity to generate revenues.
Privatization is overriding process to enhance productivity and competitiveness, as well as
attracting foreign direct investment.

Following objectives has been observed behind the process of privatization in the world:

To improve the operational efficiency of Public Enterprises.

To develop competitive efficiency in the industries.

To generate resources for a deficit budget.

For the globalization of domestic Industries.

To invite foreign capital.

To earn foreign currency through export promotion.

To exploit the natural resources of the country with efficiency

To emerge wide public ownership on the economic resources of the company country.

To create an environment for Rapid industrialization.

Accord priority to the Welfare activities by the government.

To operate public enterprise on commercial basis.

To free the government from The Loss-making Enterprises.

To protect the industrial peace

Privatization covers a sets of measures

i) Ownership Measures

These measures include transfer of ownership of public enterprises fully or partly. It may include
denationalization.

ii) Organisational measures

These measures limit state control. The state may limits its control at the holding company level
leaving subsidiaries autonamy in decision making. Alternately a public enterprise may be leased
out to a private bidder for a specified period of time. Or the company may be reconstructed.
Finally operational measures may be introduced to move towards privatization;they include
commercialization of public enterprises and granted autonamy to public enterprises in decision
making privatization also means disinvestment in public sector enterprises.