Gamekeeper As Poacher

A government without a coherent economic vision. Open season for lobbyists and special interest groups. D.R. Mehta, chairman of SEBI, has already fired his first salvo. He wants the new government to adopt a "Thatcherite" model of privatisation—selling big stakes in state-owned companies to small investors. This, according to him, would revive India's moribund equity market and make the public sector "really and truly owned by the public". Given the current state of bankruptcy in economic policy thinking, people in power may well believe Mr Mehta. That would be unfortunate, even dangerous. Here's why.

Mr Mehta is wrong about British privatisation, which was not about equity sales to small investors. Some of the more successful privatisations involved no sales of shares at all. A good example of this is the privatisation of the Royal Naval Dockyards. These were leased out to private consortia who operated them according to private sector principles for a fixed time period, after which the lease was scrutinised by public audit and then renewed.

Similarly, many other successful British privatisations involved not merely open market sales but consortium bids, often in the form of MEBOs (management-employee buy-outs). MEBOs were often offered discounted shares. The advantage of a MEBO was that it retained continuity in management while at the same time forcing through a change in management style and strategy by bringing in new players through consortia. Hence the discounts.

But Mr Mehta wants discounts for anyone who wants to buy into a privatised company. This makes no sense for anyone without a stake in Dalal Street.

The economic success of the Thatcher experiment was that some previously loss-making companies like British Airways, British Aerospace and British Steel were able to restructure operations and become viable, profitable companies following pri-vatisation. At the same time, other companies—like British Coal, the regional water companies, the National Bus Company, and British Gas—did not do as well following privatisation. They either made monopoly profits at the expense of the customer or downsized into oblivion.

The key difference was not the manner of the companies' flotation but rather the extent to which the newly privatised companies operated in a competitive environment, their aptitude at maintaining their core business and the effectiveness with which they were regulated. The equity markets were either incidental or negative in their influence on the success of these privatisations. They were negative when the pressure for dividend payouts led to poor corporate governance.

The political success for Mrs Thatcher was that she could use privatisation proceeds to run a profligate government with tax cuts ensuring her re-election. The rhetoric she used to sell her message to the general public was that of a "property owning democracy", which Mr Mehta is parroting like well brought up ex-colonials worldwide.

Clearly, there is a difference between the economic and political lessons from British privatisation. The economic lesson is simple: privatisation is not a general panacea, any more than nationalisation is.

Let's take two examples from the Indian context. There is an immediate case for privatising Air-India. Its finances are a mess, its management amateurish and political interference in its functioning rife. There is no reason for the public exchequer to finance its losses. At the same time, there is no immediate case for privatising the railways. They are a natural monopoly, they serve an important public interest function, and experiences with rail privatisation in countries like the United Kingdom have been disastrous. On the other hand, it is possible to get private finance—and even management—in to improve the quality of rail services. The railways already do this, by "contracting out" a substantial part of their catering services. Leasing initiatives are possible, to enhance private involvement in station maintenance and rolling stock upgradation. All these things have to be looked at on a case by case basis.

But, for Mr Mehta, privatisation is good, because it is good for the stockmarket! In Britain, the financial success of some of the privatisations was in large measure because the London equities market is a world leader, attracting capital from the entire developed world. In India, the reverse is true. India has a Mickey Mouse stockmarket, which Mr Mehta wants to stimulate, through privatisation. Exactly the opposite of the British experience.

Stockmarket profiteers on Dalal Street are also eyeing what Mr Mehta calls the "hidden reserves" of Indian public sector enterprises. In Britain too, financial reserves helped boost many a company's post-privatis-ation balance-sheet. But what happened next? An outcry in Parliament, stringent regulation of prices and profits and, in extreme cases, a recent "windfall tax" on the profits of public sector utilities. All this was possible because government retained considerable control over corporate governance in the post-privatisation environment, often through retention of a "golden share" that gave it a say in the boardroom. It maintained intensive public sector audit of privatised companies and their regulators (I wonder, has SEBI ever been subjected to a public audit?). In our current political and institutional mess—and given the scam-tainted history of our private investors—can any sensible person see their way to such an effective regulatory framework? I certainly cannot.

So what then of this glorious property (or rather equity) owning Elysium that Mr Mehta dreams of? The public sector is owned by the government and, therefore, certainly not by those who have no public policy influence. But privatised companies? Who would own their shares? Does Mr Mehta seriously propose that 300 million or so Indians are to be shareholders? With a per capita income of $340 as opposed to $18,000 in Britain? No, the equity owning democracy will be for Dalal Street and those who profit from it. Now why, of all people, does the head of SEBI consider that to be good for the economy?