What did privatisation do for us?

Ryan  Bourne

by Ryan Bourne

This article is an excerpt from our Growth Bulletin, authored by Ryan Bourne and Tim Knox. To read the full article, click here. To sign up for our mailings, use the form on the left of our newsletter page.

With the sad death of Lady Thatcher, there has been much reflection on her personality, her achievements and her legacy. Perhaps the most significant example of the paradigm shift in economic management in the period of the Thatcher governments, however, was the range of denationalisation and privatisation of previously state-run industries. This has since been replicated in hundreds of countries around the globe, and is now broadly accepted across UK politics (remember that it was the Labour party that privatised the Air Traffic Control System).
 
The broad case for this action has been outlined as recently as 2006 by Lady T, who wrote in Reason magazine:
 
“Too many people and industries preferred to rely on easy subsidies rather than apply the financial discipline necessary to cut their costs and become competitive. Others preferred the captive customers that a monopoly can command or the secure job in an overmanned industry, rather than the strenuous life of liberty and enterprise. But we understood that a system of free enterprise has a universal truth at its heart: to create a genuine market in a state you have to take the state out of the market.”
 
The Centre for Policy Studies was one of the pioneers of privatisation.
 
In 1979 it established a nationalised industries Study Group to explore ways of introducing greater competition and private capital into state monopolies such as telecommunications, rail, the electricity supply industry and coal.
 
The CPS then played a key role in formulating and proposing policies for the transfer of state owned businesses and activities such as BL, British Steel, the Property Services Agency, Associated British Ports, The Forestry Commission and the London Tube to the private sector.
 
Up until the early 1990s, however, there had been little in the way of hard, factual evidence of the effects which privatisation had had. To fill that void, the Centre for Policy Studies commissioned, by competitive tender, a range of studies on the performance of privatised industries. National Economic Research Associates won the contract, and produced four studies, analysing the safety records, finance, efficiency and prices and service quality of the performance of eight major public corporations or sectors which have been denationalised since 1979: Associated British Ports, British Steel, BAA, British Telecom, British Airways, the regional electricity companies, British Gas, the water and sewerage companies (33 companies in total).
 
Safety
 
Safety issues were cited as a matter of public policy concern. Opponents of privatisation argued that commercial pressures on newly-privatised companies would lead to cuts in expenditure on safety programmes.
 
It can be argued that such fears were naive – no private company wants to risk its reputation as a reliable employer or a safety-conscious provider of goods or services.  The important question is whether they were justified.
 
The conclusions of the Executive Summary were clear:

  • In terms of employee safety, in five out of the seven industries reviewed, the privatised enterprises concerned were said to ‘…have performed [in terms of safety] as well as or better than the performance of the economy as a whole since they were privatised.’ In four of these industries – gas, electricity, water and steel – there has been a marked fall in the number of non-fatal major injuries (the steel industry displays this trend to a less consistent extent), as well as industrial injuries which necessitated more than 3 days off work since the companies were privatised.
  • The performance of the privatised companies in relation to the safety of consumers and the general public improved very significantly. In the gas industry, for example, they found there had been a prolonged downward trend in the number of serious explosions involving natural gas; which had become more evident in the post privatisation period.

Finance
 
When the Conservatives came to power in 1979, the major nationalised companies were receiving large sums of taxpayers’ money. NERA’s report revealed that in the year to March 1980, the 33 companies it examined were contributing nothing to the exchequer: in fact they absorbed a total of £483 million between them, including £1.2 billion in loan finance. British Steel was one of the worst companies requiring £1.0 billion in the financial year 1980/81 on a turnover of just under £3 billion (thereby earning itself a place in the Guinness Book of Records).
 
This dismal state of affairs was shown to have been reversed. In 1987, the 33 companies examined by NERA contributed £8.4 billion to the exchequer. Net contributions then continued right up until 1995:



In its detailed study NERA found that:

  • The sale of shares in the 33 companies generated average net proceeds of £3.5 billion a year between 1984/85 and 1994/95.
  • In addition, from 1986/87 onwards, the Government received further net receipts (from taxation, dividends etc.) of between £3.3 billion and £5.8 billion a year from these 33 companies. As the chart above shows, these companies, taken as a whole, were net recipients of public sector funds in the early 1980s.

NERA concluded that this remarkable turn-round is attributable to three main factors:

  • ‘a dramatic improvement in the profitability of the companies, which has led to significantly higher corporation tax receipts’;
  • ‘dividend receipts in respect of the Government’s residual shareholdings, particularly for companies (such as BT, National Power and PowerGen) in which the Government initially retained a substantial shareholding’;
  • ‘continued interest receipts and repayments in respect of Government debt (including that owed by privatised companies)’.

The precise extent of the tax contribution made by these 33 companies is revealed in the chart below. Note that all but the electricity and water companies had been privatised by the end of 1988, when tax contributions began to soar. By mid-1991 both the electricity and the water industries had been privatised. The rising trend in tax paid can be attributed to the considerable improvement in corporate profitability brought about by improved efficiency and the private sector’s ability to identify and meet consumer needs.

 
Efficiency
 
In the third study of the series, NERA pointed out that there had been a lack of serious work done on the productivity performance attained by companies which had been freed from state ownership. To a large extent, this was because of the problems of quantifying productivity performance across a wide range of industries. In particular, there was a problem of specifying what the researchers term a ‘counterfactual’: what would the efficiency trend have been if the industry had remained in state ownership?
 
NERA’s study on efficiency revealed that the most impressive labour productivity performance was achieved by companies such as Associated British Ports, British Airways, British Steel and BT which were privatised in the 1980s and operated in competitive markets, or markets which were opened up to competition following the transfer of nationalised industries to the private sector.
 
Four points are highlighted, namely:

  • each of the three most comprehensive studies of productivity concluded that in most of the firms concerned there was a significant increase in the annual rate of growth of labour productivity, not only in absolute terms but relative to labour productivity growth economy-wide. In some cases, notably British Steel, British Coal, British Telecom, Associated British Ports and NFC (National Freight Consortium), the improvement was quite dramatic.
  • the improvement in labour productivity outstripped the improvements in total factor productivity performance, although there have been some striking improvements in total factor productivity growth post–privatisation, especially in British Airways and Associated British Ports, the latter no doubt linked in part to the abolition of the Dock Labour Scheme.
  • the prospect of privatisation began to affect conduct and performance well in advance of the privatisation date; impressive improvements in labour productivity in the period leading up to privatisation were recorded in British Airways, British Steel, Jaguar, NFC and Associated British Ports.
  • the improvement in labour productivity has been associated with a rapid reduction in employment in the publicly owned firms, whether or not these firms were privatised.

Prices and Service Quality
 
In the most thorough study of prices and service quality across the regulated industries ever undertaken, the evidence overwhelmingly showed that privatisation benefited the customer – in terms of both lower prices and improved levels of service.
 
NERA’s research team concludes that, in real terms by 1995:

  • industrial gas prices fell by nearly 50% since privatisation;
  • domestic gas prices fell by nearly 25% since privatisation;
  • electricity prices fell by 2 - 2.5% p.a. since privatisation;
  • telecoms fell by over 40% since privatisation;
  • prices charged by BAA declined in real terms after privatisation, with prices falling more noticeably after the first regulatory price review.

Only in the water industry did prices rise. These price increases were driven by the need to renew the water and sewerage infrastructure, originally built in the Victorian era, and much in need of an overdue investment programme to meet the much stricter environmental standards demanded by the regulatory authorities. NERA’s analysis showed that higher prices for water and sewerage services led to considerable improvement in water purity and consistent advances in the task of cleaning up sewage disposal. The percentage of the population at risk of water shortage dropped dramatically following privatisation, a reality running counter to popular perceptions.

 

This article is an excerpt from our Growth Bulletin, authored by Ryan Bourne and Tim Knox. To read the full article, click here. To sign up for our mailings, use the form on the left of our newsletter page.

 

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