D. Sclar
Cornell
University Press 184 pages.
Review by
Edward Herman
This
book by Elliott Sclar, a professor of Urban Planning at Columbia University,
is essential reading for anyone who wants to understand the bases and
consequences of the still powerful drive to privatize. The mainstream media
and most writers on the subject have been naively or calculatedly apologists
for privatization. Sclar is a critic, but he is relatively unbiased,
uses economic and organization theory with a sure hand, and his work is based
on serious original research.
Sclar does not
condemn privatization, but shows that while it has a definite place in the
arsenal of public management, it has real and sometimes overwhelming
deficiencies. One of his most compelling themes is that the standard model
used in support of privatization, which assumes contracting for a simple
product in a competitive market, is very often inapplicable to the public
sector. Many public services are complex, and the frequently detailed
contracting agreement and need to monitor its implementation are a far cry
from buying a good or simple service in a spot market. Furthermore, the
markets for such complex products are usually not very competitive, and they
become less so after contracts are let.
He uses as one
example the management of the 2,700 motor vehicles owned and previously
maintained in-house by the city of Albany, but contracted out to a number of
retail repair shops in the early 1990s. How do you fix contract terms that
create proper incentives and prevent contractor padding of bills for this
complex arrangement? In a case like this privatization brings with it built-in
“principal-agent” and “moral hazard” problems, because the agents
(private repair shops) have interests that conflict with those of the
principal (the public authority) and there is a hazard that they will abuse
their position if they can get away with it (overcharging, undermaintaining).
This threat is exacerbated by the fact that there is “asymmetric
information,” with the contractor knowing much more about the actual work
and its costs than the public authority.
This situation
was made more difficult in Albany because the in-house operation had never
developed a very good cost accounting system, which made monitoring more
difficult. The problems involved here cannot be solved by contract terms,
which have to leave much open to take account of uncertain future maintenance
demands. But this means that continuous monitoring is required to protect the
city’s interests, which adds significantly to the costs of contracting
out—and gives public ownership and management a built-in efficiency
advantage. If these “transactions costs” (of contracting and monitoring)
are skimped on the agent’s abuses can make privatization costlier still.
Sclar shows that in Albany the system worked badly and the city suffered
substantial net losses from privatization.
In the ideology
and standard model of privatization all such problems will be solved because
competition will drive costs down to minimum levels. Sclar argues convincingly
that this model is frequently inapplicable to real world cases. For complex
products like management of a large automotive fleet, a prison system, road
building and highway maintenance, a welfare system, or school food services,
there are usually only a modest number of initial bidders. Sometimes these
bidders collude with one another. On other occasions the low bidder makes a
below-cost offer because of desperation to get the business, often hoping to
raise the price after landing the contract. This was a classic procedure in
military contracting known as “buy now, get well later.” Sclar notes how
readily this can be used by the contractor, because once the contract is let
rival bidders are often acquired or otherwise disappear, and with the
contractor investing in fixed assets and cultivating public managers and
legislators, public officials may have little incentive or even abiity to
contest contractor demands. He notes that New York City pays a huge price to
its privatized school bus system because nobody could take it over easily,
including the city itself, which no longer owns the buses.
Another factor
that makes the protective and disciplinary role of competition weak or
non-existent is that under privatization a primary form of competition is
buying, lobbying, and manipulating regulators and legislators. This perverse
development is completely “natural” as this is an entirely logical and
very effective route to getting contracts on favorable terms and preventing
effective monitoring. This perversity is reinforced by the fact that the
politicians favoring privatization are often supported by (and virtual agents
of) businesspeople seeking public assets and contracts, and they are also
sometimes privatization ideologues.
Sclar describes
in detail Massachusetts Governor William Weld’s privatization of a segment
of the state’s highway maintenance operation after his election in 1990, and
promise to establish “entrepreneurial government.” Here again the product
was complex and the costs of negotiating and monitoring a contract would be
very substantial, if done properly. Contracting out was also not justified by
any deficiencies in in-house maintenance, but was based on Weld’s links to
business interests with a stake in privatization, along with his seeming
ideological fervor and belief in the inherent beneficence of privatization.
There were not many bidders, and there were none that did all the kinds of
work that had been done by the state’s maintenance operation. The
road-building contractor who won the contract presented the usual moral hazard
problems, including the fact his firm did private work that competed with
carrying out his state road contract work responsibilities. Sclar shows that
the moral hazard problems were realized—the work was done haphazardly, much
of the work supposedly privatized was carried out by state workers, and there
was strong evidence that “entrepreneurial government” in this case cost
Massachussetts taxpayers a lot of money.
Thus, although
the drive toward privatization has been justified on grounds of supposed
efficiency improvements that will result from substituting the market for
bureaucrats, apart from the fact that a layer of monitoring bureaucrats is
still needed on top of any in the private sector, in reality privatization is
more menacingly “political” than in-house management. It is driven not
only by ideology but by interests who want to take over state activities, and
the principal-agent and moral hazard problems, combined with the regular
mobilization of political influence, makes for both diminished accountability
and higher levels of corruption than with state bureaucrats responsible to
elected officials. Sclar gives many illustrations of this politicization. He
also shows that although privatization can sometimes save money, this is far
from inevitable when the service (including monitoring and other
“transactions costs”) is properly costed and when account is taken of
contractors “getting well later.”
Sclar also
addresses the issue of “external effects,” regularly ignored by
privatization enthusiasts. These are societal costs and benefits that the
market fails to take into account, like the positive effects of free public
education on productivity and democratic citizenship, or the negative impact
of the commercialization of broadcasting on program quality. Sclar notes that
the U.S. Postal Service provides cheap local mail service to everybody,
whereas Federal Express and similar operations engage in “cream skimming,”
catering to business and the affluent. Similarly public schools and libraries
and public hospitals offer a democratized service, whereas their privatized
counterparts exclude large numbers unable to pay. Public transport also brings
external benefits, including not only cheaper transport for the less affluent
but also reductions in pollution and other negative effects of reliance on
private automobiles.
Sclar doesn’t
make this point, but one of the external benefits of public service is that
workers are more likely to be unionized and receive higher wages and benefits
and have more security. This would not justify feather-bedding and serious
over-payment, but the decent treatment of the workforce adds to total
community welfare and is a positive feature of public service. Sclar may also
underrate the frequency with which claims of an efficiency advantage of
contracting out rest on the use of non-union, low wage, low benefit labor, and
the corollary diminution in the quantity and quality of service and social
welfare.
Ideologically
driven privatization in the supposed interest of efficiency can be very costly
to society. In his 1996 drive to slash public budgets, right-wing premier of
Ontario, Canada, Mike Harris, closed down the government’s water-testing
laboratories, privatized water testing, and did not require testing results to
be sent to any public authorities. This resulted in a lag in warning the
public of E.coli bacteria in the drinking water of Walkerton that resulted in
7 deaths and hospitalization of 2,000. Harris has put his plans for further
privatization of municipal services on at least temporary hold.
Although Sclar
stresses the ideological basis of efforts to privatize, he may not give
sufficient weight to the importance of the interests eager to capture formerly
public business for themselves —like the security dealers pressing for
privatization of Social Security—who are served by and promote that
ideology. He may also give less than its proper weight to the deeper political
basis of the privatization drive. British Prime Minister Margaret Thatcher was
very explicit that her selling off of state-owned housing and other state
assets to the working class was to wean them away from the Labor Party and
left by making them into property owners. She has not been alone in
deliberately using privatization as a means of weakening popular forces and
consolidating the power of capital. The West’s support of Yeltsin’s
privatization program, hugely corrupt and beggaring the population, was also
based on the desire to make the transformation to capitalism irreversible.
Western
leaders, the IMF, and privatization ideologists recognize and exploit
privatization’s political dimension. Governments can be mobilized to serve
ordinary citizens and enact legislation threatening corporate welfare; so
shrinking governments’ civil functions, making them more dependent on the
private sector, reducing the size of unions in government service, and
strengthening the corporate community by transferring to it the ownership or
management of public properties, significantly increases the power of
capital— economically, socially, and politically. Privatization in the
United States, as elsewhere, is an important part of the corporate and
right-wing effort to undermine the democratic gains of the past half century
and weaken democracy.
Sclar contends,
nevertheless, and persuasively, that there is a place for contracting out, and
that where it can improve efficiency it should be part of the arsenal of
public management. But he shows that in practice it has been used far more
often than real efficiency would dictate, at a substantial social cost. He
also shows that reform can come from within publicly managed bodies where
workers can improve efficiency without any threat from privatization, when
freed from political constraints and allowed to perform as they see fit.
Sclar’s book
is a work of enlightenment, that taken seriously in dealing with questions of
public management and privatization would help advance both efficiency and
democracy. It should be studied closely by anybody with a serious interest in
these important issues.
Z
Edward
Herman is an economist, media analyst, and author of numerous works on
politics and the media.