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PRIVATIZATION

01. INTODUCTION:

Privatization is the incidence or process of transferring ownership of a business, enterprise,

agency or public service from the public sector (the state or government) to the private

sector (businesses that operate for a private profit) or to private non-profit organizations. In a

broader sense, privatization refers to transfer of any government function to the private sector

- including governmental functions like revenue collection and law enforcement.

The term "privatization" also has been used to describe two unrelated transactions. The first is

a buyout, by the majority owner, of all shares of a public corporation or holding company's

stock, privatizing a publicly traded stock, and often described as private equity. The second is

ademutualization of a mutual organization or cooperative to form a joint stock company.

This article attempts to clarify the meaning of privatization as an idea, as theory and rhetoric,

and as a political practice. In the process I hope to explain why I generally oppose

privatization, even though I favor some specific proposals that privatization covers. But apart

from this political judgment, I take privatization seriously as a policy movement and as a

process that show every sign of reconstituting major institutional domains of contemporary

society.

02. HISTORY:

A long history of privatization dates from Ancient Greece, when governments contracted out

almost everything to the private sector. In the Roman Republic private individuals and

companies performed the majority of services including tax collection (tax farming), army

supplies (military contractors), religious sacrifices and construction. Perhaps one of the first

ideological movements towards privatization came during China's golden age of the Han

dynasty. In Britain, the privatization of common lands is referred to as enclosure significant

privatizations of this nature occurred from 1760 to 1820, coincident with the industrial

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revolution in that country. Significant privatization of state owned enterprises in Eastern and

Central Europe and the former Soviet Union was undertaken in the 1990s with assistanced

from the World Bank.

03. TYPES:

There are four main methods of privatization:

1. Share issue privatization (SIP) - selling shares on the stock market.

2. Asset sale privatization - selling an entire organization (or part of it) to a strategic

investor, usually by auction or by using the Treuhand model.

3. Voucher privatization - distributing shares of ownership to all citizens, usually for

free or at a very low price.

4. Privatization from below - Start-up of new private businesses in formerly socialist

countries.

04. VIEWS ON PRIVATIZATION:

4.1. SUPPORTING

Studies show that private market factors can more efficiently deliver many goods or service

than governments due to free market competition. Over time this tends to lead to lower

prices, improved quality, more choices, less corruption, less red tape, and/or quicker delivery.

The basic economic argument given for privatization states that governments have

few incentives to ensure that the enterprises they own are well run. One problem is the lack of

comparison in state monopolies. Another is that the central government administration, and

the voters who elect them, have difficulty evaluating the efficiency of numerous and very

different enterprises. A private owner, often specializing and gaining great knowledge about a

certain industrial sector, can evaluate and then reward or punish the management in much

fewer enterprises much more efficiently. Also, governments can raise money by taxation or

simply printing money should revenues be insufficient, unlike a private owner.

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If private and state-owned enterprises compete against each other, then the state owned may

borrow money more cheaply from the debt markets than private enterprises, since the state

owned enterprises are ultimately backed by the taxation and printing press power of the state,

gaining an unfair advantage.

Proponents of privatization make the following arguments:

Performance. State-run industries tend to be bureaucratic. A political government may

only be motivated to improve a function when its poor performance becomes politically

sensitive, and such an improvement can be reversed easily by another regime.

Increased efficiency. Private companies and firms have a greater incentive to produce

more goods and services for the sake of reaching a customer base and hence increasing

profits. A public organization would not be as productive due to the lack of financing

allocated by the entire government's budget that must consider other areas of the

economy.

Specialization. A private business has the ability to focus all relevant human and

financial resources onto specific functions. A state-owned firm does not have the

necessary resources to specialize its goods and services as a result of the general products

provided to the greatest number of people in the population.

Improvements. Conversely, the government may put off improvements due to political

sensitivity and special interests—even in cases of companies that are run well and better

serve their customers' needs.

Corruption. A state-monopolized function is prone to corruption; decisions are made

primarily for political reasons, personal gain of the decision-maker rather than economic

ones. Corruption in a state-run corporation affects the ongoing asset stream and company

performance, whereas any corruption that may occur during the privatization process is a

one-time event and does not affect ongoing cash flow or performance of the company.

Accountability. Managers of privately owned companies are accountable to their

owners/shareholders and to the consumer, and can only exist and thrive where needs are

met. Managers of publicly owned companies are required to be more accountable to the

broader community and to political "stakeholders". This can reduce their ability to

directly and specifically serve the needs of their customers, and can bias investment

decisions away from otherwise profitable areas.

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Civil-liberty concerns. A company controlled by the state may have access to

information or assets which may be used against dissidents or any individuals who

disagree with their policies.

Goals. A political government tends to run an industry or company for political goals

rather than economic ones.

Capital. Privately held companies can sometimes more easily raise investment capital in

the financial markets when such local markets exist and are suitably liquid. While interest

rates for private companies are often higher than for government debt, this can serve as a

useful constraint to promote efficient investments by private companies, instead of cross-

subsidizing them with the overall credit-risk of the country. Investment decisions are then

governed by market interest rates. State-owned industries have to compete with demands

from other government departments and special interests. In either case, for smaller

markets, political risk may add substantially to the cost of capital.

Security. Governments have had the tendency to "bail out" poorly run businesses, often

due to the sensitivity of job losses, when economically, it may be better to let the business

fold.

Lack of market discipline. Poorly managed state companies are insulated from the same

discipline as private companies, which could go bankrupt, have their management

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removed, or be taken over by competitors. Private companies are also able to take greater

risks and then seek bankruptcy protection against creditors if those risks turn sour.

Natural monopolies. The existence of natural monopolies does not mean that these

sectors must be state owned. Governments can enact or are armed with anti-trust

legislation and bodies to deal with anti-competitive behavior of all companies public or

private.

Concentration of wealth. Ownership of and profits from successful enterprises tend to

be dispersed and diversified -particularly in voucher privatization. The availability of

more investment vehicles stimulates capital markets and promotes liquidity and job

creation.

Political influence. Nationalized industries are prone to interference

from politicians for political or populist reasons. Examples include making an industry

buy supplies from local producers (when that may be more expensive than buying from

abroad), forcing an industry to freeze its prices/fares to satisfy the electorate or

control inflation, increasing its staffing to reduce unemployment, or moving its

operations to marginal constituencies.

Profits. Corporations exist to generate profits for their shareholders. Private companies

make a profit by enticing consumers to buy their products in preference to their

competitors' (or by increasing primary demand for their products, or by reducing costs).

Private corporations typically profit more if they serve the needs of their clients well.

Corporations of different sizes may target different market niches in order to focus on

marginal groups and satisfy their demand. A company with good corporate

governance will therefore be incentivized to meet the needs of its customers efficiently.

Job gains. As the economy becomes more efficient, more profits are obtained and no

government subsidies and less taxes are needed, there will be more private money

available for investments and consumption and more profitable and better-paid jobs will

be created than in the case of a more regulated economy.

4.2.OPPOSING

Opponents of certain privatizations believe that certain public goods and services should

remain primarily in the hands of government in order to ensure that everyone in society has

access to them .Likewise, private goods and services should remain in the hands of the

private sector.

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Many privatization opponents also warn against the practice's inherent tendency toward

corruption.

Some would also point out that privatizing certain functions of government might hamper

coordination, and charge firms with specialized and limited capabilities to perform functions

which they are not suited for.

Although private companies will provide a similar good or service alongside the government,

opponents of privatization are careful about completely transferring the provision of public

goods, services and assets into private hands for the following reasons:

Performance. A democratically elected government is accountable to the people through

a legislature, Congress or Parliament, and is motivated to safeguarding the assets of the

nation. The profit motive may be subordinated to social objectives.

Improvements. the government is motivated to performance improvements as well run

businesses contribute to the State's revenues.

Corruption. Government ministers and civil servants are bound to uphold the highest

ethical standards, and standards of probity are guaranteed through codes of conduct and

declarations of interest. However, the selling process could lack transparency, allowing

the purchaser and civil servants controlling the sale to gain personally.

Accountability. The public does not have any control or oversight of private companies.

Civil-liberty concerns. A democratically elected government is accountable to the

people through a parliament, and can intervene when civil liberties are threatened.

Goals. The government may seek to use state companies as instruments to further social

goals for the benefit of the nation as a whole.

Capital. Governments can raise money in the financial markets most cheaply to re-lend

to state-owned enterprises.

Strategic and Sensitive areas. Governments have chosen to keep certain

companies/industries under public control because of their strategic importance or

sensitive nature.

Cuts in essential services. If a government-owned company providing an essential

service (such as the water supply) to all citizens is privatized, its new owner could lead

to the abandoning of the social obligation to those who are less able to pay, or to regions

where this service is unprofitable.

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Natural monopolies. Privatization will not result in true competition if a natural

monopoly exists.

Concentration of wealth. Profits from successful enterprises end up in private, often

foreign, hands instead of being available for the common good.

Political influence. Governments may more easily exert pressure on state-owned firms to

help implementing government policy.

Downsizing. Private companies often face a conflict between profitability and service

levels, and could over-react to short-term events. A state-owned company might have a

longer-term view, and thus be less likely to cut back on maintenance or staff costs,

training etc., to stem short term losses. Many private companies have downsized while

making record profits.

Profit. Private companies do not have any goal other than to maximize profits. A private

company will serve the needs of those who are most willing (and able) to pay, as opposed

to the needs of the majority, and are thus anti-democratic. The more necessary a good is,

the lower the price elasticity of demand, as people will attempt to buy it no matter the

price. In the case of price elasticity of demand is zero (perfectly inelastic good), demand

part of supply and demand theories does not work.

Privatization and Poverty. It is acknowledged by many studies that there are winners

and losers with privatization. The number of losers —which may add up to the size and

severity of poverty—can be unexpectedly large if the method and process of privatization

and how it is implemented are seriously flawed (e.g. lack of transparency leading to state-

owned assets being appropriated at minuscule amounts by those with political

connections, absence of regulatory institutions leading to transfer of monopoly rents from

public to private sector, improper design and inadequate control of the privatization

process leading to asset stripping.

Job Loss. Due to the additional financial burden placed on privatized companies to

succeed without any government help, unlike the public companies, jobs could be lost to

keep more money in the company.

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05. A BRIEF HISTORY OF PRIVATIZATION IN

PAKISTAN:

The concept of privatisation is not new to the policy makers of this country. It may be traced

as back as in 50s, when Pakistan Industrial Development Corporation (PIDC) was established

in 1952 to boost up the industrial development in the country. This premier Corporation

established over 50 industrial undertakings in the length and breadth of the country and after

their successful operation and management, these units were transferred from the public to

the private sector. The tide of nationalisation, which swept the whole economy in the first

half of 70s, was reversed in 1977. The privatisation of State Owned Enterprises (SOE)

became an important instrument of economic policy of the government in late 80s. However,

it was in 1991 that privatisation process in Pakistan became effective.

Privatisation of SOEs is a multi-faceted, complicated as well as politically and socially

sensitive process. A well-devised privatisation plan of SOEs essentially takes care of all the

stakeholders, which include labour, consumers, investors, government and the economy. It

helps to promote capital, goods and labour markets in the country. The privatisation process

in Pakistan has passed through different phases and it has been very instrumental to redefine

the relationship of private and public business with the government institutions. The

following paragraphs elaborate the history and evolution of privatisation process in Pakistan.

5.1.PRIVATISATION POLICY DURING LATE 1970s

The nationalisation policy of the early 70s increased the size of the public sector to an

unmanageable extent. The nationalisation process also failed to deliver what was expected

from it. In July 1977, the new government introduced the policies of denationalisation,

disinvestment and decentralisation to restore the confidence of private investors. As a part of

these policies, the government announced denationalisation of around 2000 Agro-based

industries, in September, 1977. Apart from that, the government offered a number of SOEs

on Management Contract and introduced performance signaling system, in order to improve

their performance and bring efficiency in operation and management.

In September 1978, Transfer of Managed Establishment Order, was promulgated, which

empowered the Federal Government to offer to the former owners of nationalised industries,

the shares or proprietary interest in acquiring their establishments. This Order explicitly

recognised the pre-emptive right of the previous owners for transferring management.

However, in case there was no positive response from former owners, the government was

free to transfer the management and control to any other party on whatever terms it

considered fit. The Order also envisaged the transfer of management of profit making units.

Due to limited scope of disinvestment policy of the government and lack of any legal and

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institutional framework not much headway was made and only two industrial units were

returned to their former owners, during this period.

5.2.PRIVATISATION POLICY IN 1988 - 90

In December 1988, the new government appointed a British firm M/s N.M. Rothschild in

April 1989, as consultants, to undertake a study on privatisation strategy and selection of

prospective candidates. The consultants submitted their report to the government in May

1989, namely ―Privatisation and Public Participation in Pakistan.‖

The report recommended privatisation on widespread ownership basis as an appropriate

strategy for Pakistan. By "Wide Spread Ownership" the consultants meant development of

Pakistan's capital markets by bringing hundreds of thousands of small savers into share

ownership for the first time. The report, however, warned that wide spread participation

strategy should be carefully structured so as to avoid over ambition on price or size

(particularly at the start), inadequate preparation, inappropriate regulation, insufficient

marketing and lack of communication with the workers. After analysis of more than 50

companies, the consultants short-listed seven companies as potential first candidates for

widespread offers. These included Habib Bank, Muslim Commercial Bank Pakistan National

Shipping Corporation (PNSC), Pakistan International Airlines Corporation (PIAO). Pakistan

State Oil (PSO), Sui Southern Gas Company (SSGC) and Sui Northern Gas Pipelines Ltd

(SNGPL).

On the basis of detailed analysis, SSGC was recommended as the first candidate for

widespread offering. In addition, the report recommended that for further seven companies, a

minority stake could be divested during the five-year programme to the consortia of workers

and private sector parties. The first three such disinvestments were recommended to be in

respect of Pak Saudi Fertilizers, Pak Suzuki and National Refinery.

The consultants also suggested that a new department should be established under the

Ministry of Finance, to co-ordinate the complex transactions involved in wide spread offers.

The establishment of the new department was also recommended on the grounds that it would

be helpful in implementing future privatisation programme of the Government. The report

also indicated the need of financial restructuring of the units identified for privatisation, in

order to make them an attractive proposition. The report further suggested the need of

adopting special techniques, new procedures and incentives to attain wide dispersal of offers

both within the country as well as abroad.

The Government, following the advice of the consultants, first made efforts to privatise

SSGC that was recommended as a leading candidate. However, after having done all the

spade work, the proposal to privatise Sui Southern was abandoned. Instead, it was decided by

the Government in January, 1990 to disinvest 10% shares of PIAC, amounting to Rs 274

million, 30-40% shares of Pak Saudi Fertilizer and 60% shares of Muslim Commercial Bank

(MCB) (Later reduced to 49%) shares). The decision, however, could not be implemented in

full. Only ten percent shares of PIAC were disinvested in May 1990 at par value. Again due

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to lack of institutional framework, legal and other complications the privatisation programme

could not make any headway.

5.3.PRIVATISATION POLICY IN 1991 - 93

Soon after assuming power in November 1990, the then government declared privatisation as

its primary economic policy objective. The agenda of privatisation announced by the

Government covered a wide spectrum of fields like industries, banks, development finance

institutions, tele-communications and infrastructure facilities.

As a first step towards privatisation, a Committee on Dis-investment and De-regulation was

formed. The Committee in its preliminary report, submitted to the government in January

1991, recommended the disinvestment of 118 industrial units, which included 45 nationalized

units taken over during the period 1972-74. The government approved this disinvestment

plan and announced the creation of a Privatization Commission on 22nd

January 1991 to

implement the disinvestment programme within theshortest possible time. The birth of

Privatisation Commission institutionalised privatisation efforts in Pakistan. At the same time,

a Cabinet Committee on Privatisation (CCOP), with the Minister for Finance and Economic

Affairs as its Chairman, was constituted to approve the recommendations of Privatization

Commission.

NOW HIGHLIGHTING THE NEW ERA OF PAKISTAN PRIVATIZATION

5.4. NAWAZ SHARIF PRIVATIZATION.

As Chief Minister Punjab, Nawaz Sharif presided over the liquidation/ privatization of

several units of Punjab Industrial and Development Board (PIDC) like Pasrur Sugar Mills,

Samundri Sugar, Rahwali Sugar, Paras Textile, Harapa Textile and Ghazi Textile. How and

on what prices these units were sold is still a secret but according to Company Review in the

daily DAWN in May 1991, Pasrur Sugar Mills was sold to United Sugar Mills of United

group for a " token price of Rs one only".

Samundri Sugar Mills was sold to Monoos and Rahwali Sugar to a Muslim League politician

Sheikh Mansoor, following single line advertisement in newspapers under the caption, " Bids

invited for Rahwali Sugar Mills". The recklessness and favoritism shown in privatization of

the PIDB units by Chief Minister Nawaz Sharif was to become the hallmark of his

privatization as Prime Minister.

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British Prime Minister from 1979-90 Margaret Thatcher carried out one of the most

successful privatization programme under which nearly four dozen govt. entities including

British Steel, British Airways, the telephone system, water, electric and gas companies, the

coal mines and the railroads were sold for nearly 100 billion dollars. Her promise to " roll

back the frontier of the State" got the fancy of many world leaders. Both Benazir who ruled

Islamabad as prime minister in 1988 and Nawaz Sharif who was the uncrowned King of

Punjab during Bhutto's rule started peddling privatization as the linchpin of their economic

agenda.

In April 1989, within four months of coming into power, Benazir govt. employed

N.M.Rothschild & Sons to undertake study of privatization strategy and selection of projects

suitable for privatization. The consultants who submitted report on 22nd May, 1989

suggested a strategy of widespread ownership and identified 14 units for privatization in two

phases. These units were Muslim Commercial Bank, Habib Bank, PIA, PSO, Sui Northern

Gas Pipeline, Sui Southern, Pakistan National Shipping, Pak-Saudi Fertilizer, National

Refinery, Pak-Suzuki Motors, Gharibwal Cement, Al-Ghazi Tractors, Millat Tractors adn

Mustehkam Cement.

In its first term, Benazir govt. tried to privatize Sui Southern Gas Company and engaged a

British Consultant Morgan Grenfell who were paid US $ 39,431 and a Pakistani Consultant

Sidat Hyder Aslam was paid Rs 4,20,000. However after considerable spade work, proposal

to privatize Sui Southern was dropped and it was decided that 10% shares of PIA, 30-40%

shares of Pak-Saudi Fertilizer and 60% shares of MCB will be privatized. The govt. however

could not carry out the proposed plan and only 10% shares of PIA were divested before

Benazir was dismissed on August 5,1990 giving way to the first Nawaz Sharif government.

Nawaz Sharif was a reaction to Zulfikar Ali Bhutto and like Bhutto's nationalization his

privatization was swift. He lacked Bhutto's chrisma but he countered Bhutto's idealogy, by

imitating him. In many ways he imitated Bhutto better than Bhutto's own daughter Benazir.

Within Six weeks of coming into power he privatized Muslim Commercial Bank (MCB) to a

national group of 12 leading industrialists led by Mian Mansha of Nishat . A Privatization

Commission was set up under the chairmanship of General Saeed Qadir who sold off the

State enterprises as hearily as he had poured billions of tax payer's money into building them

as Minister for Production under Zia ul Haq.

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The Commission invited bids for 25 units between March and July 1991 but the results were

not encouraging since no bid was received for nine units and the response for the remaining

units was also poor. In August 1991 the Commission invited bids for 100 units and the

national newspapers described it as the world's single biggest lot offered for privatization. A

total of 235 bids for 81 units were received for which 26 bids were accepted by the govt. In

addition to Privatization Commission of Saeed Qadir, govt. set up a Commission for

Privatization of WAPDA headed by former Secretary Abdul Rahim Mahsud, a committee for

privatization of Pakistan Telecommunication under Deputy Chairman Planning Commission

A G N Kazi and another for privatization of banks headed by Governor State Bank. Completely diverse and independant procedures were worked out for privatization of units of

these four entities.

Nawaz Sharif had earmarked 115 units for privatization and when his government was

dismissed on April 18,1993, he had privatized two banks, 68 industrial units and 10% Shares

of Sui Northern Gas Pipeline for a consideration of Rs 12,018 million. As opposition leader,

Benazir hounded his privatization with charges of corruption and leading to concentration of

wealth in few hands. So widespread were the charges of concentration of wealth that his

government was forced to set up a committee headed by former Finance Secretary H U Beg

to investigate into it. The report of the committee never saw the light of the day.

A committee was also set up in the Monoply Control Authority to look into the allegations

that cement prices have escalated in the market because of the monoply created by the

privatization of five cement factories to Mian Mansha and his associates. Out of 88 industrial

units privatized to date, 19 were vegetable ghee units and 16 roti plants and rice-husking units

while 20 bigger units accounted for more than half of the privatized assets and it were these

units which were privatized to the big business.

Mansha and his associates walked away with MCB and five cement plants, Schon group got

Pak-China Fertilizer and National Fibre, Takakkal got Baluchistan Wheels adn Naya Daur

Motors while Bibojee group of Habib Ullah Khattak got back the National Motors

(Originally Gandhara Motors). An unknown person Sikandar Jatoi was successful in bidding

for Metropolitan Steel, Zeal Pak Cement and Shikarpur Rice.

When Nawaz was dismissed on April 18,1993, the Dissolution Order listed " the lack of

transparency in the process of privatization and in the disposal of public/ govt. properties" as

one of the grounds for dismissal. The Attorny General in his written reply and arguments

before the Supreme Court charged that the process of privatization lacked transparency, the

reference prices were changed, methodology for fixing the reference prices was not made

within the stipulated time and the mode of transfer of management enabled the new owners to

pay the balance from windfall profits.

Although Nawaz government was restored by Supreme Court, three judges found its

privatization to be faulty and in conflict with the provisions of the constitution. The

dissenting Justice Sajjad Ali Shah found corruption in privatization as a valid ground for

dismissal of the government.

5.5. BAYNAZEER BHUTO PRIVATIZATION (1993-96) Benazir Bhutto summed up the corruption in Nawaz Sharif's privatization when she told the

workers of Larkana Sugar Mills in August 1996 that " Ab karkhana sahi keemat per bikey ga

aur sahi aadmi ko meelay ga, (Now the factories will be sold to right people, at right price)".

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Her choice of words conveyed that she was fully aware that under Nawaz Sharif, units had

been privatized to front men at throwaway prices. But instead of plugging the loopholes in

the privatization procedures used by her predecessor she capitalized on them. Though, being

an amateur in corporate matters, and because of poor craftiness of Naveed Qamar as

compared to his predecessor, her bids to privatize United Bank (UBL), Pak-Saudi Fertilizer,

Oil and Gas Development Corporation (OGDC) and sale of Pakistan Petroleum Limited

(PPL) to front men and favorites were aborted by the hue and cry raised by the opposition,

labour unions, press and presidential intervention.

One of her first move, on coming to power, for the second term was to reconstitute

Privatization Commission, merging into it the other three committees dealing with

privatization of WAPDA, Pakistant Telecommunication and banks, appointing Naveed

Qamar, a close friend of her husband Asif Ali Zardari, as its chairman.

Privatization in Pakistan, policy and programme published in January 1994 said that the new

government has carried out a review of the privatization work of Nawaz Sharif and was

preparing to implement its own new mandate.

About Nawaz Sharif's privatization it simply said that " the policy pursued in recent past,

both in its concept and implementation specifically suffered from poor and hasty planning

and a naive assumption taht a complex procedure could be reduced to the level of ordinary

auction. The failure was compounded by weak legal arrangements adn inconclusive labour

issues.

"All this deprived the nation of the fruits of privatization, which were well within reach" it

lamented and went on to identify what PPP government felt was a meaningful privatization

and what ought to be its objectives.

" In many countries, benefits of privatization have trickled down to the consumers, workers,

investors as well as government. Large investments were made by new owners, subsequent to

privatization to expand and diversify production. As a result domestic welfare improved. This

we intend to replicate in Pakistan. The privatization policy envisages the creation of a

mechanism for the reduction of debts so that our children inherit an industrialized, not a

bankrupt nation", the document declared.

" The govt. believes that one of the principal benefits to the nation from privatization of its

public assets is by way of reduction of our public sector debt burden. The burden of domestic

and international debt can be reduced from the sale of those very assets for which the debt

was partially created", it said.

In her second term, Benazir privatized 20 industrial units, one financial institution, Kot Addu

Power Plant and 12% shares of Pakistan.

06.ACCORDING TO THE OFFICIAL REPORT THE

PRIVATIZATION DONE IN THE LAST 20

YEARS IS AS FOLLOW

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AND ACCORDING TO THE WORLD BANK STATISTICS

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07. Modes of privitization in Pakistan:

Public enterprises may be liquidated or divested partially or completely, and the

divestiture may take different forms including flotation of shares in the stock exchange

market, sales through financial institutions and equity tap and outright auction.

7.1• Liquidation: Public enterprises making losses due to a number of factors such as

inappropriate location, poor technology, etc. cannot be divested, and as such they

are prime candidates for liquidation and not divestiture. However, losses due to

poor management may be overcome through transfer of management and control

with or without transfer of the assets.

7.2• Sale of Assets: The divestiture of public enterprises may be pursued through

following four methods.

(a) Flotation of Shares: The shares of public enterprises are floated in the Stock

Exchange Market, and government progressively reduces its share holding in

such enterprises. Such flotation has three distinct features. First, induction of

private capital may result in higher levels of productivity. Second, government

retains sufficient control if the firm is of strategic importance. Third, gradual

divestiture would not have an adverse impact on the prices of the shares.

(b) Equity Tap: The only difference in equity tap and floatation of shares is that

the amount of shares being offered is not restricted. Whatever the demand,

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shares would be automatically supplied by the government.

(c) Sales through Financial Institutions: Since capital markets in many developing

countries are quite limited, it is feared that off-loading of shares in a big way

may significantly depress the share prices. With a view to alleviating such fears, financial

institutions may be appointed underwriters to avoid a run on the share prices.

(d) Auction: Auction may be done through sealed bidding or open bidding.

Similarly, bidding may be done for a part of the shares or for the entire company.

7.3• Privatization: By-passing the Sale of Divestiture: Besides liquidation and

sale of

assets through any of the four methods, the public sector may take certain measures

to realize the intended objectives without selling the assets.

(a) Franchising: Government may offer a franchise to private sector, but control

the prices.

(b) Repealing Monopoly: Government may remove the restrictions on entry of the

private sector in all activities.

(c) Contracting out: Instead of carrying out certain services in the public sector,

private contractors may be hired to do the specified work.

(d) Leasing: Public assets are leased to the private sector with a view to improving

productivity.

Following are the six different modes through which public enterprises in Pakistan

were divested until 1997:

(i) Divestiture through bids;

(ii) Sale of suitable amounts of shares through the stock exchange;

(iii) Sale to Workers’ Management Group on the basis of an evaluation of assets,

liabilities and net worth and matching the maximum bid received;

(iv) Sale to modaraba companies, working on the Islamic profit-and-loss sharing

principle, which raise funds for purchasing shares;

(v) Management contracts with modaraba companies, leasing or contracting of

management to private entrepreneurs for a specified period; and, finally,

(vi) Lease management contract with the workers for a specified period to enable

them to buy out the enterprises they have been working in.

The privatization policy of 1998 outlines following four modes for privatization:

• Total disinvestment through competitive bidding

• Partial disinvestment with management control

• Partial disinvestment without management control

• Sales/Lease of assets and property

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These measures may be grouped into:

(i) Sale of assets through bidding to individuals, to workers-management groups, and

to modaraba companies (those working on the profit and loss sharing principle);

and

(ii) Sale of assets through the floatation of shares in stock exchange and leasing.

Liquidations have rarely been used; probably the roti corporation units are the only

ones so far liquidated. Privatization Commission insisted that the units should be operated

after the take over. Nevertheless, a large number of loss making units have been converted

into

essentially real estate.

In the eighties, government appointed financial institutions as underwriters but no unit

could be divested. Similarly shares have not been put on tap. A limited number of shares

of Pakistan International Airlines (PIA) and Pakistan Telecommunications have been offered

for sale. PIA divested 10 per cent of the shares through the stock exchange, and Pakistan

Telecommunications divested 12 per cent of its shares. Twenty six per cent shares of Kot

Addu thermal power station have been divested with the change in management as well.

Profitability in these organizations have increased sharply after the divestiture but not

necessarily through improvements in efficiency.

The principal method of divestiture in Pakistan has been sealed bidding. Where bid

was below the fixed price, the open bidding has been used. Sales have been generally to

individuals or groups of individuals, but in nine specific cases sales have been made to the

worker- management groups. On average the manufacturing units taken over by the

workermanagement

groups have outperformed the units taken over by other private sector groups.

In the banking sector, however, the performance of worker-management group has been

inferior to the other divested bank.

Leasing, franchising, liquidation and other possible modes of privatization have been

used only sparingly. A couple of railway sectors were offered to the private sector for

operation but with not much success. Similarly there was a proposal to let private sector run

the goods trains against the payment of track charges, but the experience has not been very

successful. An exercise for unbundling of both WAPDA and railways was carried out but

so far not much has resulted from such exercise.

The methods employed to privatise the public assets and their valuation, cost of disposal,

and sources and timings of cash flows, and post-privatization capital structure play an

important role in the realisation of various objectives of privatization. For example, the bid

price offered by the prospective buyer depends on the perceptions regarding the net future

benefits. In the absence of complete information, the expected profits are randomly

distributed

with subjective probabilities. The shape of probability distribution varies across individuals;

risk averters would under-bid and risk plungers would overbid. Withholding the information

has also serious implications for the levels of productivity. The firms, which is able to buy

the unit at a price lower than the reserve prices,1 may feel as if its operations are efficient

but in fact they may not be, and as such may develop inertia to improving productivity. The

over-bidders, on the other hand, may run into losses and cash flow problems with the result

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that unit may close down and overall productivity of the economy may fall.

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09. WHY PRIVATIZATION IS NECESSARY FOR

ECONOMIC GROWTH IN PAKISTAN?

Privatization contributes to economic growth through productivity gains,

efficient utilization of resources, better governance and expansion in output and

employment. Profit making enterprises under the public sector may be making profits due to

the unique market structure such as monopoly or other privileges or concessions

conferred upon them by the government but it does so at the expense of the consumer

who has to pay higher than market price for the product or the services. The ordinary

consumer gets a benefit only through competition among private sector firms in form of

lower prices and better services as has been demonstrated in the cases of banking,

telecommunications and, more recently, air travel.

In a deregulated market environment, public ownership becomes a serious

constraint as the rule – bound procedures and the rigidity in the structure do not allow

public sector companies the flexibility to respond promptly to dynamic market

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conditions. Furthermore, the government’s role as a regulator and neutral umpire

becomes questionable once it is itself a participant in the game through its own company.

This stifles competition and subverts expansion and growth by the private sector

companies.

Objectives of privatization at different points in time have varied. During the period

1988-90, privatization was pursued to divest 14 loss making manufacturing units and raise

funds by selling shares of profit making units for retiring public debt and thus reducing debt

servicing (See Rothschild, 1990). Privatization Commission in 1991 did not explicitly spell

out the basic rationale for privatization. Nevertheless four major objectives that could be

discerned from various statements issued by the government are:

• Improvements in the level of efficiency in the production processes;

• Reduction in the debt burden of the government and fiscal deficit;

• Broad-basing equity capital; and

• Releasing resources for the physical and social infrastructures.

Whereas in the initial stages of its establishment Privatization Commission did not

spell out the objectives of privatization, it has recently come up with a very clear Mission

Statement contained in the Privatization in Pakistan (1998):

“Privatization is envisaged to foster competition, ensuring greater capital

investment, competitiveness,

and modernisation, resulting in enhancement of employment and provision of

improved quality of

products and services to the consumers and reduction in the fiscal burden”.

The objectives of privatization outlined in the publication cited above are:

• Creation of market based economy

• Promoting the expansion and efficiency of private sector enterprises

• Encourage competition, specially by abolishing the monopolies and promote

integration of the domestic economy into the world economy

• Support wider capital ownership and encourage employee owner relationship

• Establish and develop capital markets for mobilization of domestic savings

• Reverse the flight of capital abroad and repatriate capital already transferred

• Mobilization of private sector resources for future investments

• Promote economic flexibility

• Maintain or create employment

• Improve the quality of goods and services

• Maximise receipts from privatization to pay off public debt and reduce the public

sector deficit

• Substantially reduce the size and scope of the public sector

• Substantially reduce the financial drain of public enterprises on the government

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• Decrease the opportunities for misuse and corruption of public property by government

officials and public sector managers.

These objectives are indeed laudable but quite ambitious. Though, privatization is

neither necessary nor sufficient for realization of some of these. For example, mobilization

of savings, reversing the flight of capital and promotion of savings and investments do not

need privatization and they can not be achieved just by pursuit of privatization. In the

following we examine the arguments that privatization lead to reduction in fiscal deficit,

improvement in the efficiency levels, broad base the ownership and higher level of

investment

in the physical and social infrastructures.

9.1.Reduction in fiscal deficit Privatization in a perfectly competitive market with complete foresight may have no

impact on fiscal deficit because the expected sale price determined as the reserve price of

assets would be exactly equal to the discounted flow of net benefits. If the private sector

offers higher prices than the reserve price, fiscal deficit situation would improve. However,

the private sector’s willingness to do so, of course, depends upon the assessment of profits

in the post-privatization period and willingness to share the expected higher profits with the

public sector.

9.2.Increase in the efficiency levels While private producers are forced to reduce their cost to minimum for their survival,

public firms may not make sufficient efforts to reduce production costs as they are under no

compulsion to ensure an acceptable return to the equity holders. Similarly, private managers

have more flexibility in taking the decisions than the public sector firms. Moreover, public

investments may be influenced by political considerations, thus adversely affecting the

allocative efficiencies. While in a competitive framework, privatization would always help

in realising allocative efficiency, X-efficiency and non-market efficiency gains, in a

monopolistic framework this is not necessarily true. The cost in public monopoly at

equilibrium

point may not be minimal unless it is effectively regulated. Whether privatization would

result in higher level

of efficiency or not is an empirical question. For conflicting evidence see Stigler (1975);

Wolf (1979), Baumol (1996) and Kemal (1996).

9.3.Releasing the resources for physical and social infrastructures A well functioning and profit making public enterprises can also be divested for releasing

the resources for development of infrastructures if the resources for infrastructure are not

available.

9.4.Broad-basing of ownership of equity capital Broad-basing the ownership of equity capital is for the reasons of distributive justice.

But it presupposes that small investors have sufficient investible funds to buy the shares of

public industrial enterprises and that unless the public enterprises are divested shares are not

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available to them. Both of these assumptions may not always be valid. Moreover, the

assumption is that allocating a part of the shares at face value for the workers would result

in improvement in the welfare for these workers.

Observe the effects of privatization over years

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