Privatization and Its Benefits: Theory and Evidence (original) (raw)

2003, CESifo Economic Studies

Privatization has been a key component of structural reform programs in both developed and developing economies. The aim of such programs is to achieve higher microeconomic efficiency and foster economic growth, as well as reduce public sector borrowing requirements through the elimination of unnecessary subsidies. Microeconomic theory tells us that i ncentive and contracting problems create inefficiencies due to public ownership, given that managers of stateowned enterprises pursue objectives that differ from those of private firms (political view) and face less monitoring (management view). Not only are the managers' objectives distorted, but the budget constraints they face are also softened. The soft-budget constraint emerges from the fact that bankruptcy is not a credible threat to public managers, for it is in the central government's own interest to bail them out in case of financial distress. Empirical evidence corroborates the theoretical implications, in the sense that privatization increases profitability and efficiency in both competitive and monopolistic sectors, though the effect is weaker in the latter. Full privatization has a greater impact than partial privatization and monopolistic sectors show an increase in profitability that is above the component explained by increases in productivity, which reflects their market power. This poses an important challenge for the designers of regulatory policies, especially in naturally monopolistic sectors. The change in employment at the firm level is ambiguous, though firms that are publicly traded show an actual increase in employment level after privatization. Based on the little available evidence, the distributive effects are shown to be sensitive to the market structure. From the macroeconomic perspective, no conclusive evidence can be drawn, but the trends are favorable in terms of public sector deficit, attraction of foreign direct investment, and stock market capitalization. Corporate governance issues after privatization, as well as legal changes for investor protection are among the main challenges for privatization to succeed.