Reality Check: The Distributional Impact of Privatization is edited by John Nellis and Nancy Birdsall (Center for Global Development, 2005).

Who benefits from privatization? In Reality Check: The Distributional Impact of Privatization in Developing Countries, editors John Nellis and Nancy Birdsall provide a simple and concise framework for evaluating the extent to which privatizations in a large range of countries managed to achieve improvements in both efficiency and equity. Because most developing countries have not reached the production possibility frontier, modest improvements in the performance of firms and institutions can contribute to both objectives. Thus in theory the privatization process has great potential. In practice its outcomes were much more mixed.

The editors­—and the papers they selected for the volume—examine the set of privatizations and conclude that from an economic perspective, the process yielded net gains. Virtually across the board, firm performance, as measured by profits, output, dividends, and investment, improved. However, the economy-wide effects, such as on fiscal revenues, growth, and employment, are less clear-cut. There was some fiscal benefit in most instances, due as much to the termination of support to revenue-losing enterprises as to the revenues from the enterprise sales.

The editors conclude that although distributional outcomes in transition economies were largely negative and economic outcomes were often far from optimal, the long-run efficiency gains in countries making painful steps to establish nascent markets were worth the costs. In Latin America, by contrast, markets were already established although characterized by high levels of inequality and poorly performing public sectors. In most instances, Latin America saw economic efficiency gains from privatization, but distributional outcomes were mixed. The process often posed trade-offs. The gains for new and often poor consumers that gained access to services at better prices (given that they either lacked access or were often paying well above the market price on the black market) were counter-balanced by losses for middle-income consumers who had previously benefited from subsidized public services that were either curtailed or eliminated. Meanwhile, wealthy consumers and new firm owners usually gained.

The distributional effects of the reforms on other fronts in transition economies are more difficult to evaluate. While some argue that laid-off, low-income workers have paid the price of the reforms, the evidence suggests that these effects are limited: privatized firms rehire workers, and long-run employment gains result from better functioning economies. The fiscal effects of the reforms are modest but most likely provide a net benefit. The effects in terms of prices and access were also mixed. The editors conclude that, with the exception of the few reform efforts that paid particular attention to spreading the gains and incorporating the participation of low-income groups, the benefits will take a long time to trickle down to the poor.

Even in the case of proactive and creative initiatives, such as a Czech voucher scheme and Bolivia’s recent capitalization program, positive distributional efforts were limited in their effect as the poorest participants were the most likely either to sell off their shares or to fail to participate altogether, due to information constraints, risk aversion, and other factors that typically limit the poor’s capacity to participate fully in markets. That said, more attention to distributional concerns in the design and initial implementation of a larger number of privatization programs would have certainly enhanced the potential for gains in this arena, as well as developed a knowledge bank of experience from which future reformers could build. Ultimately, the absence of attention to equity issues—both real and rhetorical—is a simple detail that bedeviled political support for the process in many countries.

The editors highlight two additional and more general problems in evaluating the effects of privatization: timing and endogeneity. The time frame available to evaluate the process is both short and varied. Thus some reforms that were initially seen as successes, such as Bolivia’s, took a turn for the worse due to political regime changes, Others that were heavily criticized mid-way through the process, such as the Czech voucher scheme, have gradually stumbled along to improved industrial performance.

Even more challenging, though, is the absence of a counter-factual scenario to help disentangle what would have happened to trends such as employment, distribution, and growth in the absence of the reforms. While that is a well-known challenge to those who deal with econometrics on a daily basis and a common issue with economic analysis in general, it is hardly one that translates into an easily marketable message for the public.

The difficulty of evaluating the process makes it unsurprising that privatization has acquired an undeservedly negative public image. An underlying theme of the book is that the bottom line on privatization “depends on the context” and that “the devil is in the details.” A message that the outcome stems from the details of implementation and the quality of the regulatory structures is hardly one that will generate much positive support amongst any polity, much less a polity skeptical of its public institutions or concerned about distributional justice. At the same time, the details of privatization’s successes and failures are numerous and technical and not readily accessible to the average citizen. In contrast, there are a few failures that are much simpler and have unfairly received wide attention from international media outlets.

Another issue, less explicitly addressed by the editors, is that privatization stands out among market-oriented reforms in that it hinges on the transfer of a large volume of assets from public to private hands. Policies along these lines raise major public debate even in societies where capitalism is king (witness the debate on social security in the United States). Because, as the case studies show, privatization has been implemented primarily where there are high levels of inequality (Latin America) or very weak regulatory structures and limited experience with market mechanisms (the transition economies), the margin for error is very high, making public skepticism of the process even greater.

The editors persuasively argue that despite all this, the counterfactual scenario of hemorrhaging public enterprises and limited access to key public services is usually far worse than that of imperfect privatization with clear if limited efficiency gains.