1. Keeping competitive neutrality

Keeping competitive neutrality

State has to ensure its ownership doesn't give PSUs an undue advantage

By: | New Delhi | Published: July 15, 2015 12:03 AM

Competitive neutrality is important in an economy where critical infrastructure and service sectors are dominated by the public sector. In India, even after 24 years of liberalisation, sectors like airports, banking, insurance, mining, power, ports, postal system, railways, shipping, etc remain largely under the public sector.

Moreover, it appears that the government is now relying more on the public sector to push its developmental and other agendas, as the private sector has turned a hesitant investor, preferring to wait and watch than opening up the cash chests. Competitive neutrality becomes a concern when the role of the public sector enlarges in the economy.

Competitive neutrality implies that no business entity is advantaged (or disadvantaged) solely because of its ownership. An OECD working paper, titled Competitive Neutrality and State-Owned Enterprises: Challenges and Policy Options, deals with the issue at length.

It is tempting for governments to depart from competitive neutrality, since public sector enterprises are viewed as an extended government arm and are expected to behave differently from private entities. But the question is whether the state’s objectives can be pursued in a manner that does not impair the competitive landscape?

The paper says evidence from developed countries suggests at least three main reasons why governments may sometimes make a conscious decision to depart from competitive neutrality.

o Maintaining public service obligations: The most commonly heard rationale for protecting PSUs from “excessive” competition is these companies’ public service obligations – such as maintaining postal services in outlying areas, providing essential utilities at affordable rates, etc. However, this does not imply that these companies must remain in the public domain as these objectives could be similarly met through targeted subsidies.

But public planners often see it as easier to provide public services through fully controlled entities. Moreover, continued state ownership also provides an opportunity for cross-subsidisation– e.g. by charging excessive revenues in certain “lucrative” areas to fund the public service obligations elsewhere. In addition to their effects on the competitive landscape, such practices also fall short of commonly agreed standards of transparency.

On numerous occasions, opening up a segment in network industries to market competition has given rise to accusations of unfair “cherry picking” by the private entrant. (Network industries include sectors like telecom, airlines, railroads, roads,shipping, postal, broadcasting, television, banks, financial exchanges, clearing houses, etc) Taken literally, this does seem to indicate that the activities concerned were previously used to generate extraordinary profits that could be used to cross-subsidise other activities.

PSUs as a tool for industrial policy: Many developing countries still assign a pro-active industrial policy role to their PSU sectors —such as, for example, obligations to develop certain capabilities or pursue knowledge and technologies in the broader national interest. Even in developed countries, governments often aim to maintain companies alive and in state hands because of fears of no longer having a national champion in certain economic sectors. Some of the considerations motivating the internationalisation of PSUs point in that direction.

Several governments encourage foreign operations of state-owned incumbents in the network industries “to protect their revenue streams” from increased domestic competition. This motivation makes sense only in a context where the state attaches societal value to the maintenance of a state-owned company.

o Protecting fiscal revenues: Some PSUs provide consistently large profits (or in some cases revenues) on which the national treasury comes to depend. This has most frequently been the case in the extractive industries, but is also not uncommon in the utilities sectors. From a competition viewpoint this may be particularly problematic, because not only does it imply that the government has a strong incentive to shield such PSUs from competition, the high revenue stream itself may depend on monopoly rents.

Policy-makers sometimes feel they need to protect PSUs because of pressures from interest groups or the general public. For instance, PSUs remain a major source of employment. Also, PSUs are often seen as offering civil service status or higher paid jobs–especially for blue collar employees–and generous retirement arrangements. Any failure of the state to shield its enterprises from competition could expose politicians to strong public pressures.

Whilst formally related to democratic accountability, such mechanisms have the potential to be used by rent-seeking insiders to stifle competition. Freed from concerns about corporate failures, managers may feel freer to pursue “aggressive” strategies. Even for commercially-oriented PSUs, the presence of actual or perceived government guarantees may have qualitatively similar effects. The trend towards increasing corporatisation and stock-market listing of PSUs has contributed to greater competitive neutrality, while not removing the problem entirely.

The paper says recent experience in some countries even points to examples where a strong reliance by the national treasury on the high revenues generated by a few PSUs has to some extent shielded these enterprises’ management from scrutiny of their aggressive overseas expansion plans.

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