elect Pro-Privatization

This is the 13th in a series of articles on suggestions to President-elect Lee Myung-bak. ― ED.

By Mauro Guillen

Director of Lauder Institute

State-owned enterprises should have a minimal presence in the market economy if consumer interests are to be protected and overall competitiveness is to be enhanced.

Until recently, economists and policymakers believed that certain infrastructure sectors were prone to becoming a ``natural monopoly'' because of the very large investments in fixed assets required in order to operate effectively.

Electricity, water, railways, postal services, and telecommunications, among others, were traditionally characterized as sectors in which one single firm would be able to offer the best service at the lowest cost. Until the 1980s, most countries around the world organized infrastructure sectors as statutory monopolies, with the state and/or privileged private business interests as owners and managers. In most cases, this led to inefficiencies and underinvestment at best, and mismanagement and corruption at worst.

Recent changes in production and in regulatory technologies have made it possible, however, to depart from the idea that such a thing as a natural monopoly really exists. The early experiences in privatization and deregulation in the United States, Britain and Chile ― the three key pioneers ― demonstrated that privatization and competition can work in infrastructure industries, assuming the right regulatory framework is put in place to avoid monopolistic or oligopolistic abuse. Moreover, depending on the method used to transfer ownership, privatization may have some beneficial spillover effects in terms of providing the government with windfall income and helping develop the local stock market.

Although not a pioneer, South Korea pursued privatization during the 1990s in sectors such as banking, tobacco and steel as well as in telecommunications. Except for banking, the transfer of these companies to the private sector has generally resulted in enhanced performance. Reforms in other sectors such as electricity and water followed, but they were thwarted by steep opposition. President Roh Moo-hyun (2003-2008) halted the privatization process, thus preventing South Korea from realizing its full potential in the global economy. President-elect Lee Myung-bak ran on a pro-privatization platform. His priority should be to privatize in the best possible way the engineering, shipbuilding and electronics units of Hyundai and Daewoo presently participated in by the state. He should then turn to the infrastructure sectors, whose lackluster performance is preventing South Korea from becoming the economic champion that it deserves to be.

Korean manufacturing firms have demonstrated that they can be among the very best, if not the best, in a variety of industries, ranging from steel and shipbuilding to electronics and appliances. The global economy, however, is a service economy, including both financial services and infrastructure activities. No rich country can afford to be good at manufacturing but not at services. In fact, the service sector holds a lot of promise because it is a large employer of educated human capital and harbors a lot of potential in terms of improving productivity and enhancing technological development.

When it comes to privatization methods, several key considerations need to be made. First, the government needs to decide whether it wants the company to have concentrated or dispersed ownership. The former is perhaps most appropriate if the new owners can bring badly needed technology or if the capacity of the company to reinvent itself is limited. The latter is preferable if the company has enough resources from within to undertake a major self-transformation. Second, the government must decide whether to privatize the company all at once or in steps. Third, the government must consider whether it needs to deregulate and liberalize the sector at the same time that it is privatized. Deregulation entails removing rules and constraints on investment, pricing and other business decisions. Liberalization means opening up the sector to new entrants.

Finally, the government must ponder whether the previously mentioned decisions are likely to help the privatized company be internationally competitive, enabling it to enter foreign markets. European infrastructure companies have demonstrated that, under the right conditions, it is possible and profitable to become multinational corporations. It is important for the debate over privatization in South Korea to shift from discussing whether it should be undertaken or not in specific sectors to determining, after careful research and study, the best way of privatizing, deregulating and liberalizing.

The writer is director of the Lauder Institute at the Wharton School, University of Pennsylvania.