Meaning of Privatisation

It means a transfer of ownership, management, and control of public sector enterprises to the private
sector.
Privatization can suggest several things including migrating something from the public sector into the
private sector. It is also seldom used as a metonym for deregulation when a massively regulated
private firm or industry becomes less organised. Government services and operations may also be
(denationalised) privatized; in this circumstance, private entities are tasked with the application of
government plans or execution of government assistance that had earlier been the vision of state-
run companies. Some instances involve law enforcement, revenue collection, and prison
management.
Privatisation of the public sector companies by selling off part of the equity of PSEs to the public is
known as disinvestment.

Objectives of Privatisation:
Providing strong momentum to the inflow of FDI

 Privatisation aims at providing a strong base to the inflow of FDI.

 Increased inflow of FDI improves the financial strength of the economy.
Improving the efficiency of public sector undertaking (PSU’s)

 The efficiency of PSU’s was improved by giving them the autonomy to make decisions.
 Some companies were given a special category of Navratna and Mini-Ratna.

Privatization in India

In 1991 India made some major policy changes in their economic

ideologies. There were stagnation and slow growth in the economy.

To tackle these problems the, then Finance Minister Dr. Manmohan

Singh introduced some major economic reforms. Now, we call it the
liberalization of the Indian Economy and the LPG reforms.

Privatization has a very broad meaning in economics. Everything that

ranges from the introduction of private capital to selling government-
owned assets to transitioning to a private economy.
As the definition of privatization is so very diverse let us take a look at
the three main features of privatization.

1. Ownership Measures: The ownership of all public enterprises

ultimately shifts to private owners. The denationalization can be
complete or partial.

2. Organizational Measures: This is where we limit the control of the

state in public companies. Some methods include holding company
structuring, leasing. restructuring of the enterprises etc.

3. Operational Measures: Public organizations and companies were

running into huge losses. So the efficiency of these companies was
to be increased.
Conceptualization of Privatization in India

1] Delegation: Here via a contract or franchise or lease or grant etc. the

government keeps the ownership and the responsibility of an enterprise.

But the private company will handle the daily activities and deliver the
product or service. The state will remain an active participant in this
process.

2] Divestment: The government will sell a majority stake of the

enterprise to one or more private companies. It may keep some
ownership but will be a minority stakeholder in the enterprise.
3] Displacement: The first step here will be deregulation. This will
allow private players to enter the market. And slowly and gradually the
private company will displace the public enterprise.

Here the private sector will compete with public companies and
ultimately outperform them, causing the public enterprise to be
displaced.

4] Disinvestment: Directly selling a portion or whole of a public

enterprise to private parties.

FORMS OF PRIVATIZATION

Name the various forms of

Privatization and which form of
privatization can be more acceptable
to the people.
Total De-nationalization:
This implies complete transfer of ownership of a public enterprise to private hands.
Some examples of total de-nationalization are : Allwyn Nissan-was handed over to
Mahindra, Manfalore Chemical and Fertilizers to LAB Group and Maharashtra. scooters
to Bajaj Auto (India).

Joint Venture :
This implies partial induction of private ownership from 25 to 50 per cent or even more
in a public sector enterprise depending upon the nature of the enterprise and state
policy in this’ regard.
Workers’ Co-operative:
Transfer of ownership of a loss-making concern to the workers is another form of
privatization. The ‘basic logic of the proposal is that workers besides receiving wages
for work, would also be entitled to a share in ownership dividend. Since workers’
personal interest is linked to the interest of the enterprise, the workers are likely to work
hard to increase productivity so that they can earn more. Such schemes were
introduced in Kamani Tubes, Central Jute and Mewar textiles, etc.

Token Privatization:
The sale of 5 per cent to 10 per cent shares of a profit-making public sector enterprise
in the market is known token privatization. The objective of such privatization is to
obtain revenue to reduce budget deficit.

Out of the various forms of privatization, the most acceptable is the joint venture in
which the share of the private sector is kept at either 49 per cent or 74 per cent. But
simply a change of ownership is not sufficient to increase productivity and profitability.
For this purpose, other measures like linking wages to productivity, changing promotion
policy based on the efficiency of the workers is needed so that a competitive
environment is created in which efficiency pricing becomes a norm.

Privatisation and India economy growth

Privatization, described as the transfer of state owned enterprises (SOEs) to the

private owners, has become a common economic policy tool around the globe.
The trend toward privatization is debatable issue. Indeed, the debate between
the superiority of the private and public sectors has been going on for the past
four to five decades. The discussion initially focused on how the size of public
sector measured by the size of government consumption affected economic
growth (Rubinson, 1977).
Findings of many studies demonstrated that privatization did not contribute to
growth but helped to reduce income inequality, inflation contributed negatively to
both economic growth and income equalization. On the other hand, several
economists stated that Privatization, a method of reallocating assets and
functions from the public sector to the private sector play vital role for economic
growth. Recently, privatization has been adopted by many different political
systems and has spread to every region of the world. The process of privatization
can be successful way to bring about fundamental structural change by
formalizing and establishing property rights, which directly creates strong
individual incentives. A free market economy mainly depends on well-defined
property rights in which people make individual decisions in their own interests.
According to experts, privatization may improve efficiency, provide financial relief,
boost wider ownership, and increase the availability of credit for the private
sector.

Major causes of privatization are:

- To reduce the burden on Government

- To strengthen competition

- To improve Public finances

- To fund infrastructure growth

- Accountability to shareholders

- To reduce unnecessary interference

- More disciplined labour force.

The private sector have effective policies in solving the problem of externalities,
through costless bargaining, driven by individual incentives. According to the
Coase Theorem, individual parties will directly or indirectly take part in a cost-
benefit analysis, which will eventually result in the most efficient solution
(Mankiw, 2001).

When comparing with public sector, the private sector responds to incentives in
the market. On the other hand, public sector often has non-economic goals. The
public sector is not highly driven to maximize production and allocate resources
effectively, causing the government to run high cost, low-income enterprises.
Privatization directly shifts the focus from political goals to economic goals, which
leads to development of the market economy (Poole, 1996). The downscaling
aspect of privatization is an important one since bad government policies and
government corruption can play a large, negative role in economic growth
(Easterly, 2001). Through privatizing, the role of the government in the economy
is condensed, thus there is less chance for the government to negatively impact
the economy (Poole, 1996).

Privatization may have a positive impact on a country's economic situation.

Privatization should not be used to finance new government expenditures and
pay off future debts. Instead, privatization enables countries to pay a portion of
their existing debt, thus reducing interest rates and raising the level of
investment. By reducing the size of the public sector, the government reduces
total expenditure and begins collecting taxes on all the businesses that are now
privatized. This process can help bring an end to a vicious cycle of over-
borrowing and continuous increase of the national debt (Poole, 1996).

Nations around the world have adopted different methods of privatizing state
assets depending on the initial conditions of the country's economy and the
economic principles of the political party in charge.

Major method of privatization is the sale of state-owned enterprises to private

investors. The state would simply decide which institutions should be privatized
and through the use of market mechanism, private investors are able to buy
shares of each organization. Advantage of this method of privatization is that it
creates badly needed revenues for the state while putting privatized firms in the
hands of investors who have the incentives and the means of investing and
reformation.

Other method of privatization is called voucher privatization. The government

universally distributes vouchers to its eligible citizens, which can be sold to other
investors or exchanged for shares in other institutions being privatized. Although
this method does not create profits for the state, it does privatize state-owned
firms in a short period of time.

Next method of privation is called internal privatization, also known as "employee

or management buyout". State-owned enterprises are sold to managers (for an
extremely low price) who are already familiar with the particular firm and its
structure, but there are minimal revenues created for the state. This method
creates some incentives but the incentives are much stronger when firms are
sold to strategic investors. Furthermore, new owners often do not have the
resources to invest and restructure, which is badly needed in a large percentage
of state-owned firms in underdeveloped countries (Stirbock, 2001).

One of the noticeable feature of privatization is the improved competitive

characteristics it provides to the enterprises which prove to be fruitful for the
business as well as the country. Nonetheless, privatization contracts are greatly
influenced by merger variables and even global issues and are structured on the
basis of manipulation of the government and the private actors along with the
administering jurisdiction.

Privatization can be categorized in to three parts:

- Delegation: Government keeps hold of responsibility and private enterprise
handles fully or partly the delivery of product and services.

- Divestment: Government surrenders the responsibility.

- Displacement: The private enterprise expands and gradually displaces the

government entity.

Privatization certainly is beneficial for the progress and sustainability of the state-
owned enterprises.

The advantages of privatization can be apparent from both microeconomic and

macroeconomic impacts that privatization exerts.

Microeconomic advantages:
1. State owned enterprises generally are outdone by the private enterprises
competitively. When compared the latter, it shows better results in terms of
 profits and efficiency and productivity. Therefore, privatization can provide the
necessary push to the underperforming PSUs.
2. Privatization brings about fundamental structural changes providing
momentum in the competitive sectors.
3. Privatization leads to implementation of the global best practices along with
management and motivation of the best human talent to foster sustainable
competitive advantage and improvised management of resources.

Macroeconomic advantages:
1. Privatization has a positive impact on the financial growth of the sector which
was previously state dominated by way of decreasing the deficits and debts.
2. The net transfer to the State owned Enterprises is lowered through
privatization.
3. It helps in escalating the performance benchmarks of the industry in general.
4. It can initially have an undesirable impact on the employees but progressively
in the long term, shall prove advantageous for the growth and prosperity of the
employees.
5. Privatized enterprises provide better and quick services to the clients and help
in improving the overall infrastructure of the country.

Though privatization offers numerous advantages,

it has many disadvantages:
1. Private sector mainly focuses more on profit maximization and less on social
objectives dissimilar to public sector that initiates socially viable adjustments in
case of emergencies and criticalities.
2. There is lack of clearness in private sector and stakeholders do not get the
complete information about the functionality of the enterprise.
3. Privatization has provided the unnecessary support to the corruption and
unlawful ways of accomplishments of licenses and business deals amongst the
government and private bidders. Lobbying and bribery are the common issues
corrupting the practical applicability of privatization.
4. Privatization loses the mission with which the enterprise was established and
profit maximization programme encourages malpractices like production of
lower quality products, elevating the hidden indirect costs, price escalation etc.
5. Privatization results in high employee turnover and a lot of investment is
required to train staff and even making the existing manpower of PSU abreast
with the latest business practices.
6. There can be a conflict of interest amongst stakeholders and the management
of the buyer private company and initial resistance to change can impede the
performance of the enterprise.
7. Privatization intensifies price inflation in general as privatized enterprises do
not get government subsidies after the deal and the burden of this inflation
affects the common man.

Analysis of private Sector with reference to the

Indian Economy:
Government of India chose for a mixed economy in which both public and private
sectors were permitted to operate. The private sector had to operate within the
provisions of the Industries (Development and Regulation) Act. 1951 and other
relevant legislations. In this framework, the Industrial Policy Resolution 1956
stated, Industrial undertakings in the private sector have necessarily to fit into the
framework of the social and economic policy of the State and will subject to
control and guideline in terms of the Industries (Development and Regulation)
Act and other relevant legislation. The Government of India recognizes that it
would be desirable to allow such undertakings to develop with as much freedom
as possible, consistent with the targets and objectives of the national plan.

Reports indicated that in spite of speedy progress of the public sector in the
period of planning, private sector is the principal sector in the Indian economy.

Since many decades, numerous modern industries have been established in the
private sector. Important consumer goods industries were set up in the pre-
Independence period itself. Examples include cotton textile industry, sugar
industry, paper industry and edible oil industry. These industries were set up in
response to the opportunities offered by the market forces. They were highly
suitable for private sector since they ensured good returns and required less
capital for establishment. Though the engineering industries were not established
in the pre-Independence period, yet Tata had initiated in the field of iron and steel
industry at Jamshedpur. After Independence, a number of consumer goods
industries were set up in the private sector. Presently, India is practically self-
reliant in its requirements for consumer goods. According to the 1956 resolution,
"industries producing intermediate goods and machines can be set up in the
private sector." As a result, chemical industries like paints, varnishes, plastics
etc. and industries manufacturing machine tools, machinery and plants, ferrous
and non-ferrous metals, rubber, paper, etc. have been set up in the private
sector.
In India, there is a need of privatization of companies to enhance economic
status. Though the PSUs have contributed a lot to develop the industrial base of
the country, they continue to suffer from a number of inadequacies such as;

Many PSUs have been incurring and reporting losses on a continual basis.
Consequently, a large number of PSUs have already been referred of loss giving
units.

Multiplicity of authorities to whom the PSUs are accountable. Delay in

implementation of projects leading to cost escalation and other consequences.

There is Ineffective and extensive inefficiency on management.

Many PSUs are over-staffed resulting in lower labour productivity, bad industrial
relations.

There are many examples of privatization of

companies in India such as:
- Lagan Jute Machinery Company Limited (LJMC)

- Videsh Sanchar Nigam Limited (VSNL)

- Hindustan Zinc Limited (HZL)

- Hotel Corporation Limited of India (HCL)

- Bharat Aluminium Company limited (BALCO)

Privatisation in infrastructure sector started with the modification of relevant

legislation to permit private enterprises to enter power generation in October
1991. Reforms have been much successful in telecommunications sector. Value
added services were opened to private sector in 1992, followed by the
enunciation of the National Telecom Policy in 1994-95 which opened up basic
telecom services to competition. Foreign equity participation up to 49% was
permitted in case of a joint venture between an Indian and a foreign firm.

The Telecom Regulatory Authority of India (TRAI) was established in 1997. In

order to separate the service-providing function of publicly owned telecom
enterprises and policy-making function, both of which were initially with the
Department of Telecommunications, a separate Department of Telecom Services
was set up in 1999- 2000. The two public sector service providers were
corporatised in 2000-01. International long-distance business, which was a public
sector monopoly, was opened to unrestricted entry in 2002-03.

In roads sector, there are also infrastructure reforms. Major reform was the
creation of a major new source of funding for national, state and rural road
construction, called the Central Road Fund (CRF) under the Central Road Fund
Act of2000. The National Highway Development Project funded by the CRF is
one of the largest single highway projects in the world. It includes the nearly
6,000 km of Golden Quadrilateral (GQ) connecting the four metropolitan cities of
Chennai, Delhi, Kolkata and Mumbai and 7,300 km of North-South and East-
West Corridor.

Major impact of Privatisation on Indian Economy

are as under:
It frees the resources for a more productive utilisation.
- Private concerns tend to be profit oriented and transparent in their functioning
as private owners are always oriented towards making profits and get rid of
sacred cows and hitches in conventional bureaucratic management.

- Since the system becomes more transparent all fundamental corruption are
minimised and owners have a free reign and incentive for profit maximisation so
they tend to get rid of all free loaders and vices that are inherent in government
functions.

- Gets rid of employment inconsistencies like free loaders or over employed

departments reducing the strain on resources.

- Lessen the government's financial and administrative load.

- Effectively minimises corruption and optimises output and functions.

- Private firms are less tolerant towards capitulation and appendages in

government departments and hence tend to right size the human resource
potential befitting the organisations needs and may cause resistance and
disgruntled employees who are accustomed to the benefits as government
functionaries.

- Permit the private sector to contribute to economic development.

- Development of the general budget resources and diversifying sources of

income.

In short, privatization is the process of transfer of ownership, can be of both

permanent or long term lease in nature, of a once upon a time state-owned or
public owned property to individuals or groups that intend to utilize it for private
benefits and run the entity to generate revenues. Privatization is overriding
process to enhance productivity and competitiveness, as well as attracting
foreign direct investment.