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Professor Simon Hakim
hakim@temple.edu
1
Economics & Management of
Privatization
Lecture 1
2
Research Process and Paper
Contents
Definition: Political Science,
Economics
The Concept of Public Goods:
Adam Smith
Characteristics of Goods that
Require Intervention
The Research Process
1. Definition of the Problem
2. Significance of Problem
3. Choice of client, Research Questions, and/or Objectives of
Study
4. Description of Alternative
5. Evaluation of Alternatives
6. Selection of Preferred Alternative
3
Structure of paper
 Cover Page : Name, Course, Term, Contact information
 Abstract : Problem, Significance of Problem, Alternatives,
Major Findings.
 Introduction: Problem, Significance of Problem, the Client,
Research Questions or Objectives of Paper,
Review of Forthcoming Sections.
 Historical or Literature Review, Background
 Description of Alternatives. Include a summary table
 Evaluation of Alternatives. Costs and benefits to each
alternative. Include a summary table.
 Summary and Conclusions. The preferred alternative, rational
for selection, improvement of preferred alternative, policy
implications, future research.
 References.
4
Definitions—Public
Administration
5
1. Relying more on private institutions of society
and less on government to satisfy people’s
needs. Private institutions include businesses
operating in marketplace, voluntary
organizations (religious, neighborhoods, civic,
co-operatives and charities), individuals, family,
clan or tribe.
2. Act of diminished role of government or increased
role of private sector in an activity or in the
ownership of assets. It is a strategy to lower the
cost of government and achieve higher
performance and better outcomes for tax dollars
spent.
3. Act of transferring government enterprise or assets
to the private sector
4. Webster’s: Making private, especially changing
Public Administration: Economic
Definition
6
A move of an asset or activity from bureaucratic
government monopoly towards competitive
markets.
Public Goods: Adam Smith
7
 The need for national defense
 The duty of protecting every member of
society from injustice or oppression of
every other member of society
 Establish and maintaining highly
beneficial public institutions and public
works which are of negative profit nature
if supplied in small quantities
 The duty of meeting expenses of ruling
powers.
Public Intervention in
Marketplace
8
• Pure Public Good: Collective consumption (non-
divisible) with non-exclusion, and non-rivalry in
consumption. MC=0. Motivation for free
ridership.
• Externalities: Positive and negative; Production
and Consumption.
• Monopolistic Power.
• Asymmetric information between the consumers
and producers in the market
• Equity.
Pure Public
9
The case of MC=0 and constant is typical for
pure public good. A non-competitive provider
will produce at MR=MC and eliminate a
significant part of Consumers’ surplus.
Example, a road without congestion.
Degree of collective consumption VS. Size of
relevant interacting group.
Mapping of Public And Private Goods
10
EXCLUSIVE NON
EXCLUSIVE
RIVALRY Pure Private Common Pool
Public domain ponds, rivers.
Regulation by licensing,
contracting-out.
NON-RIVALRY Club
Swimming pools, toll roads,
country clubs. Membership,
tolls or users’ charges. Private
provision. contracting-out, and
vouchers.
Pure Public
11
Dichotomy of Goods & Services
Exclusion & Consumption Properties
of Goods & Services
12
Externalities
13
Definition: By-product of activities that escape
the price mechanism, and may be of positive
or negative nature. Government role is to
internalize externalities such that the price
includes it.
 In case of negative externalities the product is
overproduced and at a lower price than it should
(social).
 Positive externalities cause under production of
the good at a higher price than socially desired.
Natural Monopoly
14
A single provider in the market.
• Absence of competition may be the result of
significant economies of scale, technological
superiorities, and/or asymmetric information that
over time eliminated all competitors.
• Entry of new competitors to increase supply and
thereby lower prices is usually infeasible.
• Gov’t intervention
Natural Monopoly (cont.)
15
 Is aimed to control prices through regulation.
Examples include local utilities. Improved technology
increase availability of close substitutes and leads to
elimination of the need to regulate.
 Natural monopoly results of economies of scale,
technological superiority, asymmetric information.
Over time, one provider prevails. Consumers’ surplus
in the case of a monopoly is smaller than that results
in perfect competition. Government regulation sets
the price to be lower and as close as possible to that
of perfect competition. Action could be on the
quantity.
Asymmetric Information
16
 Examples: food contents, medicine, Enron,
corporate corruption
 Here the consumers have no knowledge
on the contents of their products while
learning about it requires very high cost.
Government needs to protect the
consumers.
Equity
17
Requires government
intervention.
Efficiency VS. Equity.
Shortcomings of perfect
competition.
Voluntary activities to reduce
inequity.
Progressive taxation.
History of Privatization
18
Peter Drucker suggested contracting out.
Milton Friedman.
Thatcher elected 1979. BP (79), British
Aerospace (81), National Freight Corp (82),
Cable and Wireless (83), Jaguar (84), British
Telecom (84), British Aerospace-final portion
of holdings (85), British Gas (86), British
Airways (87), Rolls Royce (87), British Airport
Authority (87), water utilities (89), electric
utilities (90), mandatory compulsory tendering
(compet. bidding) of local gov’t services (89).
History of Privatization
19
United States
 Little privatization by sale by Fed.
 Few state owned enterprise.
 Contracting out: data processing, food
services, building maintenance, guard
services.
 Local: waste collection, street cleaning,
ambulance service, park maintenance.
History of Privatization
20
World
 Late 1980’s: Mexico, Brazil, Chile, Argentina
elected presidents who adopted strong
privat. policies.
 China: Agriculture (78), eliminating state
owned and collective farms and allowing
private farming. In the 80’s: private sector
industrial and retail operations, multi
ownership, joint ventures.
 89: Collapse of socialist block.
Political historical Discussion
21
 Rise of Communism and greater state
involvement in marketplace: Eastern block
 Rise of Socialism in Western Europe
 Rise of Fascist regimes in South and Central
America
 Change of trend: Thatcher and Reagan
 Collapse of Eastern European block
 Liberalism in Western Europe and Americas
 The role of privatization
I. By Divestment A. Sale
B. Free Transfer
C. Liquidation
1.To Private Sector
2.To the Public
3.To Employees
4.To Users or Consumers
5.To Employees
6.To the Public
7.To Users or Consumers
8.To Prior Owner
II. By Delegation A.Contract
B.Franchise
C.Grant
D.Voucher
E.Mandate
1.Public Domain
(Concession)
2.Public Assets (Lease)
III. By Displacement A.Default
B.Withdraw
C.Deregulation
22
Forms of Privatization
Why Privatize?
 Cost Savings: Ranges from 20-50 percent.
 Access to Enterprise: Contracting gives access
as needed to unavailable expertise.
 Better quality: Competition brings best
performance. Bidders have incentives to offer
better quality in low prices.
 Improve risk management: Contractors, rather
than government, are responsible for delays,
overrun costs.
 Innovations: Competition yield cutting
esourcesdge solutions.
23
Why privatize?
 Meeting peak demand: Contracting out can
satisfy extra demand when public
resources are unavailable.
 Timelines: Private contractors can hire
part-time workers or temporarily rent
capital to meet deadlines, avoid penalties
or enjoy extra payments. This option is
often unavailable for government.
(Source: Gilroy Leonard and Adrian Moore,
“Privatization”, in The Patriot’s Toolbox, The
Heartland Institute, 2010).
24
Forms of Privatization
25
 Divestment: Shedding an enterprise or an asset.
One time affair. Sold or given away.
 Free transfer: Given away to employees, users,
customers, previous owners, or the public at large.
 Sale: to joint venture, private buyer, the public,
employees, users or customers. More than 100
airports were sold/privatized including Buenos
Aires, Frankfurt, Johannesburg, London, Madrid,
Paris, and Rome. The Empire State Development
Corp. sold the NY Coliseum, State parking lots,
armories, golf courses, State mental health
campuses. This generates, in addition, property tax
base that did not exist before.
Forms of Privatization
26
• Delegation: Requires a continuing active role
for gov’t. Remains responsible for overseeing
the results.
1. Contract: for part of service, for total
management. Solid waste collection, street
repair, street cleaning, snow removal, tree
maintenance, loan processing, data processing,
audio visual services, food, mail and filing
services.
2. Franchise (concession): exclusive right to sell a
service or product to the public.
a. Use of the public domain in the course of
carrying out their commercial activities– use of
the public domain: airwaves, air space,
underground space. Examples, broadcasting,
airlines, bus and taxi co.'s, electric, gas, water,
Forms of Privatization
27
Delegation (continued)
b. A lease. Government owned tangible property is
used by a private lessee to engage in a commercial
enterprise. Chicago leased for $1.15B its downtown
meters system in 2009, and earlier 4 downtown
parking garages for $563M.
3. Grant: private entity does the work-subsidy, grants for
public transit, low income housing, maritime shipping.
To run a bus service, to do research, to promote the
arts. Contracts are more specific.
4. Mandate: Gov’t requires private companies to provide
services at their expense. Ex. Unemployment
Compensation. Replacing Gov’t by mandatory indiv
retirement accts.
5. Vouchers: subsidize eligible consumers instead of
producers to purchase services in the market. Used for
food, housing, education, health, day care,
Forms of Privatization
28
• Displacement: Passive process as markets
develop to satisfy needs.
 By default: Gradually the public looks for the private
sector. Ex. Municipal tennis courts and other rec.
facilities. Commercial ventures, voluntary groups
like charitable, social, philanthropic and community
org. Ex. Police is replaced by private guards. In
transportation: gypsy cabs, commuter vans, minibus
systems and other unofficial or technically illegal
trans. Providers emerge as public means are
inadequate. Private co.'s finance, build, operating,
owning roads, bridges, prisons. Ex. tunnel
connecting England and France.
Forms of Privatization
29
 By Withdrawal: Gov’t shuts down failing
public enterprise or accommodates private
sector private sector expansion.
 By deregulation: State monopoly vs.
competition. Privatization if the private sector
challenges a gov’t monopoly and even
displaces it. Packages and express mail.
Delegation: Contracting Out
30
 Most common in the US (28% of all
services).
 Mandatory for municipal services in the
UK.
 Managed competition: bidding for
contracting out that includes the gov’t
agency.
 Goldsmith: “A city could run with its
mayor, a police chief, a planning
director, a purchasing agent, and a
handful of contract monitors”.
Contracting Out
31
 Success in waste management: collection,
disposal, extracting energy and recyclables
from the waste stream, and to treat hazardous
wastes.
 Principal-agent problem: The principal bears
1. the cost of providing incentives to
encourage the agent to pursue the goals of
the principal. 2. the cost of obtaining
information and monitoring the agent to
reduce opportunistic behavior. 3. the cost of
any residual opportunistic behavior by the
agent.
 A gov’t with budget problems is a good
candidate for contracting out. Loss of hospital
accreditation by the State, court’s order the
Contracting Out
Since 2005, 5 cities in metropolitan Atlanta, GA
contracted with private firms to deliver all its
non-safety related services (required under
state constitution to be provided by gov’t
entities). Sandy Spring’s residents
incorporated as an independent city. CH2M-
Hill OMI overseas and manages daily city
operations. Sandy Spring maintains
ownership of assets, and setting service
levels. Contractor is responsible for staffing
and all operations. Contract value is just
above half of what Fulton County charged in
32
Contracting Out: Steps
1. Consider the idea of contracting out.
2. Select the service
3. Conduct a feasibility study
4. Foster competition
5. Request expression of interest or
qualifications
6. Plan the employee transition
7. Prepare bid specifications
8. Initiate a public relations campaign
9. Engage in “managed competition”
10. Conduct a fair bidding process
11. Evaluate the bids and award a contract
12. Monitor, evaluate, and enforce contract
33
Contracting Out: Actual Process
34
Wastewater treatment plants in Indianapolis, 1993.
1. Mayor creates Review Committee (6 mayoral appointees, and
2 from City Council)
2. Review Committee issues RFQ to 28 Cos.
3. 7 Responses are received including one from the current
managers of plant
4. Committee reviews and cuts down to 5
5. City provides $15K for consultants to help existing managers:
Cost estimate and preparation of RFP
6. RFP are issued to 5 qualified teams
7. Teams of all 5 qualifiers visit separately the plant
8. 5 qualifiers submit proposals and prices
9. A technical and financial consultants are hired to help the
Committee
10. 3 of 5 including existing management are rejected
11. Each finalist briefs the Review Committee
12. Review Committee visits plants operated under contract by 2
finalists
13. Review Committee picks the winner
Contracting Out:
2. Select the Service Criteria
35
 Service with no legal or contractual impediments to
contracting
 Easy to carry out competitive contracting
 Hard services for which easy to write enforceable
specifications
 Stand-alone service
 Can be segmented by location into 2+ contracts
 Services that have been successfully contracted out
elsewhere
 “Yellow pages test”. Enough, responsible and experienced
bidders
 Services for which part timers can be used. Significant
savings since gov’t cannot readily employ part timers
 Services where gov’t operation is overstaffed, poorly
managed or could be re-engineered.
 Services that are subject to public complains
 Services where employees and union resistance can be
Contracting Out:
3. Feasibility Study
36
 Establish current cost to establish a baseline against which to
compare prices
 Assess quality of current operation—complaints, measuring
performance, conducting surveys
 Public cost relies on published budget. Need for ABC
accounting which includes:
1. Capital expenditures which often are not included in
operating budgets
2. Interest costs on capital expenditures
3. Costs of supplies- fuel for vehicles that appear in a different
category of budget
4. Fringe benefits
5. Budgetary pensions
6. Cost of labor borrowed from other agencies or hired
seasonally and are not included in the analyzed budget.
E.g. hierarchical and hidden costs. Or, many attorneys
budgeted by the DOJ work full time defending the Bureau of
Prisons against suits brought by litigating prisoners.
7. Foregone property tax and OC of building and land used by
the activity
Contracting Out: 4. Foster
Competition
37
It is best to have multiple competitors. However, when there are
marginal competitors it is best to negotiate bids with handful of
clearly eligible contractors after the qualifying round. Best for
contractors of hospitals, prisons, social and professional
services. Often due to bureaucratic behavior of gov’t there are
only few bidders and/or high bids to compensate for it.
To foster competition–
1. divide the geographical area to smaller units as long as econ of scale
are not adversely affected.
2. give a long lead time to bidders
3. publicize and use the web for the bidding
4. provide sufficient information
5. award enough contracts and permit a large number of bidders to get
contracts.
6. Minimize “incumbent advantage” to encourage new contractors to bid.
Philadelphia did just that by including in the bid for the maintenance of
street lighting detailed information on equipment and practices used by
the incumbent contractor
7. Avoid request for sensitive non-essential business information to the
procurement like profits, wages of managers/employees
8. Avoid restricted contracts for nonprofit organizations but keep it open for
all. Such restrictions are often used for local political patronage (e.g.
social foster care agencies)
5. Contract out: Express Interest or
Qualifications (RFEI)
38
When initially considering privatization, gov’t may
be unsure about the exact nature of the proposed
contract. So, it announces RFEI to prospective
bidders, pre-bid conference to discuss the issues,
checking the submission of the firms, prepare a
list of firms to which RFP or an invitation to bid is
issues.
Contracting Out:
6. Plan the Employee Transition
39
Biggest problem is how to handle with redundant
workers and the prospect of labor unrest. Surveys
showed that most workers are hired by the private
contractor, followed by early retirement, severance
pay, attrition, redeployment in other public
agencies. Only few are fired.
Contracting Out:
7. Prepare bid specifications
40
• Contract wording should be in ordinary language,
accurate and unambiguously.
• The contract should not specify exactly how the work
should be done but merely the output quantitative
specifications.
• Gov’t should allow freedom of contractor to employ
the people at salaries and in procedures that achieve
the contract specified outputs.
• “Hard” services that involve tangible and visible
physical results are easier to write specifications in
output and lend themselves to contracting out.
• “Soft” services that involve social workers are more
amenable for contracting out.
Contracting Out:
8. Initiating Public Relations
Campaign
41
Strong opposition is almost certain to surface by
public employee unions, private firms that
want to avoid competition, or special interest
groups.
Aggressive campaign in support of privatization
should include a coalition of civic associations
for better gov’t, neighborhood groups
dissatisfied with poor services, minority
businesses that see opportunity in providing
such services etc.
Contracting Out:
9. Managed Competition
42
1. Effective for short term contract or where capital
expenditures are required
2. Allows the management to work with its labor force
3. Improves employees’ morale and builds community
support
4. Reduces the possibility of collusion among private
providers
5. Induces private firms to submit better bids
Mandatory competitive bidding by gov’t agencies for routine
functions was introduced in the UK. Also, requirement
of gov’t agencies to maintain separate accounts of
income and expenditures and to achieve a prescribed
rate of return on the capital equipment they employ.
(Local Gov’t Act, 1988). Included refuse collection,
street cleaning, cleaning of public buildings, vehicle and
ground maintenance, and food services. Result: Many
services were won by in-house departments with
savings of 20% and reduction in manpower of 20-30%.
Contracting Out:
10. Fair Bidding Process
43
 Widely advertise the RFP
 Allow enough time between announcement and due
date
 Hold a bidders’ conference to address questions
 Use internal team and an outside consultant to
evaluate proposals using clear criteria and an agreed
upon score system
 Avoid asking for too many bid prices. (e.g. price for
year 1, year 2…) This will create favoritism.
Reasons for Privatization:
Political Science View
44
 Pragmatic: Greater efficiency in the
production of G & S. Dissatisfaction with gov’t
performance.
 Ideology: Less gov’t. Gov’t plays a smaller
role than the private sector.
 Commercial: To do more work at profit.
 Populist: Better society by giving people
greater power through the marketplace while
diminishing the power of large public
bureaucracies.
Reasons for Privatization:
The Economist View
45
1. Improve economic efficiency
2. Strengthen the share of the private sector
in the economy
3. Reducing the role of government in the
marketplace
4. Improve the financial stance of the public
sector
5. Develop better capital markets
6. Use the revenues generated by the
privatization for other social, security or
infrastructure purposes.
Reasons for privatization varies by
economies
46
The relative importance of the reasons depends
upon the characteristics of the economy in
question. In a nation where capital markets
are weak– reason 5 dominates. In a nation
that changes its structure (from Communism)
then reasons 2, 3, and 5 are central. In a
developed economy where the private sector
is strong and so are capital markets then
reason 1 applies.
Keys for Success (in Declining
Importance)
47
 Having committed political leader (s) to champion
the initiative. E.g. a governor, mayor, or several
legislators. Flexibility in adjusting strategies when
problems arise in the implementation. Maintenance
of momentum.
 Establishing an organizational and analytical
structure to implement the initiative.
 Enacting legislative changes and/or reducing
available resources to encourage greater exposure
to competition. Signaling managers and employees
that the restructuring efforts are real.
 Developing reliable Activity Based Costing (ABC)
accounting to determine performance of the gov’t
agency and the feasibility of private sector provision
of service. Cost data on individual activity and not
the traditional agency wide accounting system.
Keys for Success (Cont.)
48
• Involving employees and local unions in the privatization
process. Unions concerns and political influence led to
legislation that made privatization in MA more difficult. In
Indianapolis, employees are involved from early stage.
Workers trained in ABC and allowed to compete. Front
line workers were given decision-making power. Some
supervisory jobs were eliminated, training to workers
responding to RFP, safety net for displaced workers.
• A 1989 National Commission on Employment Policy
survey showed that 24% of contracted out public services
were transferred to other gov’t jobs. 58% went to work for
the private contractor, 7% retired, and only 3% laid off.
• A monitoring body should be established by gov’t to
assure compliance with the designated contractual terms.
2nd key: Council on Efficient Gov’t
 Single independent decision-making body to
manage initiatives. Good example, Florida
Council on Efficient Gov’t. 2004-2010: $550M in
cost savings through 130 privatization initiatives.
The council should get the authority:
 Develop a process for identifying & implementing
competitive sources.
 A feasibility study of alternatives.
 Develop performance-based contracting: focus
on outputs not inputs when choosing whether to
privatize
 Conduct an periodical inventory of gov’t activities
49
Problems with Traditional Contract
Out Model
50
Infrastructure controlled by gov’t:
1. Separate contracts with private agencies
2. Labor disputes
3. Disputes between the planners and the
contractor
4. Lowest bidder contractor performs low-quality
workmanship
5. Concealed or unforeseen conditions
6. Huge task of renewing the public
infrastructures, and insufficient funds.
Public Private Partnerships
(PPP)
51
Definition: PPP is an arrangement of roles and relationships in which
2+ public and private entities coordinate in a complementary way to
achieve their separate objectives through the pursuit of common
objectives (s).
 Private design, finance, construction, maintenance and operation of
a project for public use for a specific period of time. When time
expires, title reverts to gov’t.
 The private sector aids gov’t in identifying new private financed
profit-making facilities, and seek out new projects that otherwise
have to wait until public funding becomes available.
 The public sector investigates feasibility of project, execute the
contract, choose the private partner, regulate prices, establish and
monitor performance standards.
 BOT is a general term for PPP. A concession is granted to a
contractor to design, finance, operate and maintain for 10-30 years.
Contractor charges tolls for the use of the facility.
Forms of PPP From mostly Public to mostly private
52
 Fully public
 DB: Design Build
 DBFO: Design, Build, Finance, Operate
 BOT: Build. Operate, Transfer
 BTO: Build, Transfer, Operate
 BOOT: Build, Own, Operate, Transfer
 BOO: Build, Own, Operate
 Fully Private
Forms of PPP
53
 DB: A contract with a private contractor to provide
architecture/engineering design and construction services
 DBFO: Contractor responsible for these services and is
compensated by specific service payment by gov’t during life of
project. No actual tolls are collected by private contractor. Here
payments by gov’t—cost to taxpayer. Still efficient since
construction & operation by a private entity
 BOT: A concession is granted to a contractor to design, finance,
operate, and maintain for 10-30 years. Contractor charges tolls
for the use of facility.
 BTO: Build, Transfer, Operate. The gov’t then leases the facility
back to developer under a long term lease.
 BOOT: Build, Own, Operate, Transfer. Ownership with the
contractor until the end of the concession period and is
transferred free to the gov’t.
 BOO: Outright privatization without a transfer of ownership to
gov’t. At the end of the concession, the original agreement can
be renegotiated.
 Wraparound addition: The private developer constructs an
addition to an existing public facility and then operates the entire
Reasons for PPP
54
 Greater efficiency in the use of public
resources. State and local gov’ts save 10-
40 percent
 PPP are means of increasing investment in
infrastructure particularly utilities and
transportation
 Needs for social infrastructure– hospitals,
prisons, schools, housing
Advantages for Gov’t of PPP
55
 Profit oriented businesses identify new projects that
otherwise wait till gov’t funds are available
 Private sponsors and commercial lenders assure
financial and tech feasibility of project
 Private sector can access private capital markets to
substitute hard to get gov’t sources
 Private sector builds faster and more cost effective
than gov’t. Less bureaucracy and procurement rules
 Private sector operates facilities more efficiently due
to profit motives
 Private firms provide more tax revenues
 Private sector shares or accepts risks otherwise
borne by public sector
 Private sector transfers technology and provides
training to gov’t workers
6 Keys for Success of PPP
56
1. Statutory and Political Environment:
A successful partnership can result only if there is commitment from "the
top". The most senior public officials must be willing to be actively involved
in supporting the concept of PPPs and taking a leadership role in the
development of each given partnership. A well-informed political leader can
play a critical role in minimizing misperceptions about the value to the
public of an effectively developed partnership. Equally important, there
should be a statutory foundation for the implementation of each
partnership.
2. Public Sector’s Organized Structure:
Once a partnership has been established, the public-sector must remain
actively involved in the project or program. On-going monitoring of the
performance of the partnership is important in assuring its success. This
monitoring should be done on a daily, weekly, monthly or quarterly basis for
different aspects of each partnership (the frequency is often defined in the
business plan and/or contract).
3. Detailed Business Plan (Contract):
You must know what you expect of the partnership beforehand. A carefully
developed plan (often done with the assistance of an outside expert in this
field) will substantially increase the probability of success of the
partnership. This plan most often will take the form of an extensive, detailed
contract, clearly describing the responsibilities of both the public and private
Keys for Success of PPP (continued)
57
4. Guaranteed Revenue Stream:
While the private partner may provide the initial funding for capital
improvements, there must be a means of repayment of this investment
over the long term of the partnership. The income stream can be
generated by a variety and combination of sources (fees, tolls, shadow
tolls, tax increment financing, or a wide range of additional options), but
must be assured for the length of the partnership.
5. Stakeholder Support:
More people will be affected by a partnership than just the public
officials and the private-sector partner. Affected employees, the portions
of the public receiving the service, the press, appropriate labor unions
and relevant interest groups will all have opinions, and frequently
significant misconceptions about a partnership and its value to all the
public. It is important to communicate openly and candidly with these
stakeholders to minimize potential resistance to establishing a
partnership.
6. Pick Your Partner Carefully:
The "lowest bid" is not always the best choice for selecting a partner.
The "best value" in a partner is critical in a long-term relationship that is
central to a successful partnership. A candidate's experience in the
specific area of partnerships being considered is an important factor in
BOT Model
58
Usually a large project requiring consortium of
designers, builders, financiers and more.
Contractor enters into 4 agreements:
1. A concession agreement with host gov’t
2. A construction contract usually DB type. It may be
a member of the bidding consortium
3. An operation and maintenance agreement with
operator of facility. It may be a member of the
bidding consortium
4. Loan agreements. Funds flow through concession
co.
BOT Concession Agreement
59
Establishes concession rules and contractual rights
of parties. Issues Included:
1. Nature, length, scope of work, operation of
completed facility
2. Specification of what is provided
3. Extent of permitted variations to specification
4. Performance standards
5. Tolls, prices, payments to be charged
6. Concessionaire's rights if enabling legislation
changes
7. Provisions for termination of contract
8. Circumstances where grantor takes over the
concession.
BOT: Gov’t support
60
1. Creating appropriate legislation that enables
effective operation
2. Setting tolls to allow reasonable IRR given
level of risk
3. Protecting concession companies from
competition at early years
4. Helping concession co. to overcome
bureaucratic opposition
5. Develop a clear and effective program to
allow public participation in the planning.
BOT: Advantages
61
1. No or little cost to taxpayers
2. Little risk for gov’t. Sufficient bonds and
letters of credit that ensure completion if
private sponsor defaults
3. Private sector can move pre and
construction more rapidly than gov’t
4. Sponsors must operate and maintain facility
for 20+ years
5. General taxes are unaffected and revenue
bonds are unnecessary
6. Only users of BOT facilities pay tolls. Thus,
costs are borne by beneficiaries and not by
public at large
BOT: Risks
62
 LDC: Long term political instability
 Cost overruns. Project could come to
halt
 Currency devaluations causing payback
loans with devalued revenue
 Drastic changes in demographics over
the concession period may affect
revenues.
PPP in Highways
63
Problem: Maintenance of existing roads is short
$20B than available Federal, State and Local
budgets. If we wish to accommodate expected
economics growth then the shortage expands to
$40B than what public budget will be available.
PPP: Highways
64
 Impetus: Intermodal Surface Transportation
Efficiency Act (ISTEA), 1991. Expanded toll
facilities eligibility for Federal aid for construction
(re), resurfacing, rehabilitation, conversion to toll
roads. Allowed also State funding and shared
responsibility with private sector. Exception:
Interstate system.
PPP Highways: Principles
65
 Always PPP where ownership shifts to public
entities
 Always existence of non-toll alternative road
 Toll roads and private highways have been built in
many Asian, European, and Latin American
countries. Since 2005, gov’t run toll roads have
been contracted out in Colorado (Northwest
Parkway), Illinois (Chicago Skyway), Indiana
(Indiana Toll Road), and Virginia (Pocahontas
Parkway).
Rt. 91 in Ca.
66
Description: 10 miles 91 express 4-lanes within the
median area of SR 91. Connecting 55 Freeway
near Anaheim to run east-west to the border of
Riverside County. Affluent local population, 8%
annual increase in traffic—high congestion.
Rt. 91: Ca. Nature of PPP, Operation
67
 BTO. CPTC built, cedes ownership to State in
exchange for 35 years lease to operate the road. Toll
charged and 50% discount for 3+ people in car.
 Demand sensitive pricing by time of day and distance.
 Guaranteed 65 MPH otherwise money back
 Fully automated operation
 Immediate removal of non-operating vehicles.
 Results: Profitable from first year. Average occupancy
1.65 where 20% of which are carpoolers (3+)
Dulles Greenway
68
 Built as BOT in 1995 in Virginia. 15 miles from Dulles
Intern’l Airport to Leesburg. 4 lanes and 250 ft. right of
way. Private consortium financed, built, and operates it.
Connecting the Beltway near D.C. (I-495) with Dulles
Airport.
 Special legislation to establish prerequisites for
construction & operation of a private toll road
 A commission was set up to regulate applicants,
supervise, control operators, and approve/revise prices.
 Total estimated cost $326M. $68M initial investment by
partners; of which $22 equity and $46M guarantee
against project risk. $202M by consortium of 10 lending
institutions.
 http://americancityandcounty.com/mag/government_making_inroads_private/
 http://americancityandcounty.com/mag/government_making_inroads_private/
Greenway: Features
69
 BOT. Transferred to State (VI) after 40 years.
Subjected to utility style regulation. Targeted
return 21%.
 Prices fixed for all day and all 7 interchanges.
In 1995 price $1.75 ridership 10K vs.
anticipated 30K. In 1996, price lowered to
$1– ridership grew to 17K. In 1997, price
increased to $1.15. Toll collection below
anticipation.
Lessons learned
70
 Drivers are reluctant of paying tolls that do not vary by
distance and time of day. Demand sensitive pricing
(discriminatory prices) also assure higher revenues, and
avoidance of congestion.
 Private toll road companies face difficulties in land
acquisition and managing environmental concerns. Rt. 91
had no land acquisition while the Greenway suffered
additional cost related to delay in land purchase. DOT
enjoys eminent domain provision in assembling land.
Timely land acquisition added to the cost of the Greenway.
 Private companies unlike public entities cannot finance
using tax exempt securities. Thus, private companies pay
higher interest.
 Private companies unlike public entities do not enjoy
sovereign immunity. Full liabilities for accidents adding in
case of BOT additional operating cost.
 Toll roads should enjoy existing demand and not be
subjected to induced development that will produce travel
demand. The initial cost of toll roads includes high land
Lessons learned (Continued)
71
 Metropolitan roads that serve peak time traffic
(e.g. Rt. 91) are more financially viable than
intercity roads (e.g. the Greenway).
 Most private investments have alternative use in
case of failure. No alternative use for failed toll
road which raises uncertainty and higher financial
costs.
 Success requires one company to build and
operate the toll road for a long period of time.
 Success requires simple and immediate land
acquisition
 Success requires a committed political champion
Problems with Dulles Greenway
72
 Fixed price for tolls. Demand sensitive prices over
distance traveled, time of day, weekday-weekend
 Excessive regulation by state/lenders for toll
restructuring, change of speed
 Real cost of regulation in time and expenses
 No tax exempt securities raising developer’s interest
payments
 Accidents and other liabilities absent for public roads
that enjoy sovereign immunity
 No eminent domain provision to acquire necessary
land. Negotiations for land took time and additional
resources adding to cost
 Expensive project that is contingent upon stimulation
of land use or induced traffic in the remote future with
high risk
BOT Tunnel in Hong Kong
73
Feb 1988, the HK Gov’t granted a 30 year franchise to a
private consortium. Longest road in HK 4 KM twin
tube 4 lanes tunnel and approaching lanes.
Completed 2 months ahead of schedule at TC of
$276.5M
1. Financed completely by private sector
2. Shareholders contributed equity 1 to 2.6 debt
3. Risk for non-completion ran for just 18 months
construction period. Risk was low because the tunnel
method used was well known. Good reputation of
contractor, and $400K per day penalty
4. Cost overrun risk was overcome by several guarantees
of shareholders. To ensure project quality, a 10 year
performance bond to address performance risk was put
up by contractor
5. Post completion risks ran for 12 year loan period.
Shareholders purchased i.r. cap. Cash flow risk was
mitigated by HK gov’t approval to increase tolls.
PPP for public schools
74
• PPP adopted to upgrade schools facilities
at lower costs and less time than gov’t.
• PPP are unbounded by regulations that
govern public sector bond offering, voter
approval, and review of competitive bids.
• A PPP school in Fl was built in less than 9
months compared with 5 years by Fl gov’t.
PPP for Schools
75
 Nova Scotia 41 schools constructed under
Built-Lease-Transfer-Maintain (BLTM).
Private sector designs, finances, and
constructs. Leased back to Gov’t for
predetermined period of time at a pre-agreed
rent. When the lease starts, the school is
operational.
 Advantages: speed of upgrade, and 15
percent savings on lease. The school leases
the facility for 20 years at rent lower than the
capitalized construction and furnishing cost.
Developer uses the facility when not used;
other time of the day, weekends, summer
holidays. Activities are predetermined like
vocational education, meeting space for civic
PPP for Public school: Pembroke
Pines Charter Fl.
76
 Haskell Educational Services (HES) designed
and built the school between 22 and 34
percent less cost than other public schools in
Fl. Unlike the previous case, here Gov’t owns
and leases the facility to the private entity.
 Public tax exempt bonds financed the
building, owns it, and leases it back to HES.
HES operates it as charter school and offers
additionally fee-based after-school programs:
daycare, enrichment, and student services.
Conclusions for PPP
77
 The traditional model of Gov’t contracting separately a
construction co (bid) and a designer has not been
successful. Often, the lower bidder uses low quality
material where possible. Also, the fragmented
relationship and responsibilities among the gov’t, the
designer and the construction co. is a source of
problems where the gov’t plays a mediation role. In
PPP, the construction co. has vested interest in high
quality construction since it will operate the facility
upon completion.
 DB is preferred to traditional model since a single
organization exists for both avoiding conflicts.
Conclusions for PPP (Continue)
78
 BOT, and DBFO are used for major infrastructure
projects like roads, and power generators. Attract
new private investment without recourse to gov’t
funding. BOT reduces the common cost overruns
experienced by gov’t. Only the users of BOT facilities
pay tolls. In DBFO services charges are paid by
public sector; no user charges.
 Hospitals and schools use BLMT (Build, Lease,
Maintain, Transfer). Facility is leased back to gov’t.
PPP can be used to acquire many different types of
facilities with various contractual arrangements.
Privatizing Adoption @ Foster Care
Services: The Problem
79
Higher incidents of criminal behavior when
growing up without family ties and lack of
permanency.
 90% of Rochester NY who endured 5+
family transitions became delinquent.
 17% of all local jail inmates are former
foster care children.
 Annual pubic cost of per child foster care is
$17,500
Privatizing Adoption @ Foster Care
Services: Background
80
 400,000 in foster care in 1991, increasing annually by 4%.
542,000 in 2001.
 1.5 million children or 2% of all children
 Average age 10.1 in 2001 and the average child remains in fc
44 months
 Special subsidy is available for special needs children:
Emotional and Physical problems, siblings, age, and ethnic
belonging.
 International adoption becomes common. 20K in 2002; 40%
of50,000 children adopted in 2002. 50% of int’l adoptions are
infants while only 2% from foster care. Cost $7K - 25K.
 Private adoptions in the US include expenses for the birth
mother, agency and court, and could exceed $30K.
 Minorities in fc and awaiting adoption comprise a greater %
than their respective share in the population. Blacks are 17% of
population, 49% of adopted and 55% of those awaiting
adoption.
 Number of children is foster care rises, length of time in pipeline
Privatizing Adoption @ Foster Care
Services: Objectives
81
 Reduce the number of children in fc and
increase permanency
 Reduce the period of time in pipeline
 Federal Adoption and Safe Family Act (ASFA)
offers incentive payments to States that
increases adoption from fc above the national
standards. Incentives appeared effective in
raising the rate of adoption.
Privatizing Adoption @ Foster
Care Services in Michigan
82
 Six months exclusivity for the State agency, family
independent agency or fc provider to place an eligible
child in adoption. Within 3 months, the adopting
parents need to be identified. If not, the child is
publicly listed.
 Once publicized, the 53 licensed private agencies can
compete. These companies provide both fc and
adoption services.
 Fixed prices are paid for placing children based on
outcome, time, and the difficulty of the case.
 The State imputes estimated cost for 8 prototype
cases and adds an incentive component. The
adoptive family can act as a fc family for the child for
up to 150 days.
 Private agencies handle 60% of adoption services
and the rest are managed by the state agency.
Privatizing Adoption @ Foster Care
Services in Michigan
83
No obvious success to the privatization efforts:
1. 1991-99: total number of children adopted higher by
83%. However, number of children available for
adoption increased 116%. Ranked 5 lowest among the
50 states.
2. Advantages: introduced some competition to the
process and dissemination of information on Internet.
Private companies have an incentive to search for high
quality and many adoptive parents. Greater choice to
prospective parents now than before when a state
agency ran the program.
3. Shortcomings: Prices set by the State and are not
market sensitive. The State provides identical services
for the private providers that compete with it. The cost
per child for the State is of no concern; thus no
managed competition features. No justification for the 6
months exclusivity awarded to the company. Immediate
competition of all agencies could reduce time to
adoption with no cost to the child.
Privatizing Adoption @ Foster Care
Services in Kansas: Description
84
Privatization started in 1996 to benefit the children
and save resources following a suit by Civil
Liberties Union. Description:
1. The State was divided into 5 regions for fc. Bidding in each for 1
contractor for 4 years period and prices negotiated. Important
that the child remains close to biological parents for possible
visitation and reunification.
2. Foster Care: Fixed amount per child and ranged among regions
$12,860 and $15,504. Over time, prices were changed and
adapted for children with special needs.
3. Adoption: Bidders compete for a statewide contract. Lutheran
Social Services had 12 sub-contractors throughout the State.
4. Kansas Dept. of Social & Rehab Services established
performance standards that will be used for contract renewal or
subsequent bidding. FC Standards include max 3 placement
moves and 65% achieve permanency within 12 months of initial
referral.
5. Adoption standards require 70% are placed within 180 days of
referral and 90% of adoptions be intact for 18 months from
finalization.
Privatizing Adoption @ Foster Care
Services in Kansas: Evaluation
85
 During 4 first years, Kansas paid foster care contractors $105.1M
above the $178.7 contracted, and to adoption providers $31.4M
above the $37.4 contracted.
 Adoption provider lost $5.5M in the first 2 years
 As a result, revision of contracts to $1,958-$2,200 a month per
child for 1st year. The initial contract was unrealistic. Children in
foster care more than 6 months yield loss to contractors since
32% remain in fc 1-2 years.
 Privatization led to better data collection of cost and performance
for both fc and adoption. Quality of both services has improved
with 178% rise of budget.
 Number of adopted children rose on the 1st year by 55% and
over the 4 years by 78%. Ranked lowest 7th among the 50
states.
 Improved service: case workers available 24/7 and 71% of fc
children were now in their own or continuous county. % children
in fc home rather than group homes and institutions grew from
67 to 85%. Unsuccessful adoptions were 2.4% compared with
12% nationally. Social workers can spend more time
investigating leading to an increase uncovering child abuseng
Privatizing Adoption @ Foster Care
Services in Kansas: Conclusions
86
 Fixed fee contract failed due to unknowable medical
costs and delays by judicial procedures outside the
contractors’ control. Changed to a per month fee
which lacks incentives for prompt placement.
Performance, however, is still a base for renewal of
contract.
 Separation of the many fc providers and the one
adoption provider creates inefficiency in the care of
the children that experience a shift in their contact
social worker. Allowing integration of both services
could raise competition.
 Longer contracts increase incentives to compete for a
contract, leading to lower bid prices and/or better
service. Longer contracts leads to more resources
provided by contractors to improve efficiency.
However, longer contracts enable contractors to
exercise monopolistic power and reduce service.
Privatizing Adoption @ Foster Care
Services in Illinois: Background
87
 Illinois had the highest number and
rate of children in fc. Number of
children in fc per 1,000 was 17.2
compared with 6.9 for the nation as a
whole, 1996.
 Social worker’s caseload was 60
compared with 25 nationwide.
 The median of length of time in fc grew
from 8 months in 1986 to 40 in 1996.
Privatizing Adoption @ Foster Care Services in
Illinois: Privatizing Adoption @ Foster Care
Services in Illinois: Description
88
 Contracting started in 1997 to reduce fc population and
achieve permanency.
 Case confined to Cook County which comprised 75% of
the state cases.
 Private agencies paid $394 per case
 The private agency was expected to move 24% to
permanency
 The 24% standard was aimed to reduce the average
stay in fc from 56 to 48 months; a 25% exit from fc each
year
 If more than 24% of its cases, paid still the same per
child and receive more children. In non-Cook County,
bonus of $2000 for all children adopted above standard
 If placement less than 24%, funding is the same for a
larger number of children under the agency’s care and
the State did not provide the agency additional children
Privatizing Adoption @ Foster Care
Services in Illinois: Evaluation
89
 The FC caseload diminished from 51,000 in 97 to
22,000 in 03 (-57%)
 Adoptions increased from 1600 in 97 to 3100 in 03
(+94%)
 In the 9 years pre 97, 2-4% reached permanency.
In the 5 years post 97, 12-23% reached
permanency. In the first year it grew 200% and
reached 300% in the 3rd year. Eventually, the rate
declined due to the “hard core” of the difficult
cases.
Privatizing Adoption @ Foster Care
Services in Illinois: Evaluation (Cont.)
90
 Median duration in FC diminished from 40
months in 96 to 25 in 02.
 Total nominal funding declined in 03
compared with 96 by 3.5%.
 In 97 there were 42 private agencies and 3
state offices, In 03, only 26 private
agencies and one state office: exit of
inefficient providers and more adoptions.
Illinois was ranked near the top states in
achieving permanency.
Privatizing Adoption and FC in Illinois:
Lessons Learned
91
Effective performance contracting brought good results:
 More children achieved permanency
 Lower caseload to social workers leading to better services
for children remaining in FC
 Growth of better performing private agencies and
elimination of inefficient providers.
 Realization of economies of scale.
 The system where private agencies provide both FC and
adoption services led to economies of scope, and
avoidance of duplicating services and disruption to
children.
 Elimination of 2 public agencies and transfer of service to
private providers.
Adoption Services: An Economic
Auction Model
92
Problems:
 Lack of resources for adequate FC of older, disabled,
minority children.
 Shortage of healthy infants leading to black markets and/or
queuing for 7 years. Surplus of children with less desired
attributes.
 Public system is inadequate and inefficient while partial
privatization does not resolve the above two problems.
 Gov’t management is inefficient and does not address
special needs due to lack of market signals. Privatization
partially improves the delivery of children. However, still
greater efficiency could be achieved with ubiquity of
information, and allowing prices to better match children
and adopting families.
Auctioning of Wives: Herodotus in Ancient Greece 5th
Century BC
93
“In every village once a year all the girls of marriageable age
were collected together in one place, while the men stood
around them in circle; an auctioneer then called each one in
turn to stand up and offered her for sale, beginning with the
best looking and going on to the second best as soon as the
first had been sold for a good price. Marriage was the object
of the transaction. The rich men who wanted wives bid
against each other for the prettiest girls, while the humbler
folk, who had no use for good looks in a wife, were actually
paid to take the ugly ones. The money came from the sale of
the beauties, who in this way provided dowries for their ugly
or misshapen sisters. It was illegal for a man to marry his
daughter to anyone he happened to fancy, and no one could
take home a girl he had bought without first finding a backer
to guarantee his intention of marrying her. In case of
disagreement between husband and wife the law allowed the
An Economic Auction Model: Objective
94
 To increase quality of matching between
adopted children and adopting families.
 To produce resources that will improve
quality of life for children that are difficult
to adopt and remain in FC.
 Adoption is not a vehicle to improve
equity of adopting families.
An Economic Auction Model: Background
95
 The three states that partially privatized the service
introduced economic incentives to private entities that
do nor exist in the public sector to fasten the service
and/or improve the permanency of placement.
 The privatization, however, does not increase the
exposure of the children to more potential families and
retains the excess supply/shortage of children.
 Adoption of market forces could improve the matching
of children, increase the number of participants, and
prevent excess supply/shortage.
An Economic Auction Model: Method
96
 Auctioning is used by economists as a welfare
maximization for the buyer and seller. It is applied for
first time sale, thinly traded goods and services.
Generally auctions are designed to best match and at
the same time to clear the market. A fix price, like is
currently experienced, causes years of waiting for the
most desired children, black markets of children, and
losses for families that withdraw from the process.
 Potential parents are attributed by wealth which is
observable and fitness which is only known to the
parents. A test needs to be conducted in order to
determine the condition of the baby. If potential
parents have no test results and obtain an unhealthy
baby then potential parents will be reluctant to adopt.
An Economic Auction Model
97
1. Make a health test of each child and make results
available to potential parents.
2. Make a national market to increase the number of
children and potential parents; improves matching.
3. Bid all children at one time. Sequential bidding leads to
more conservative bidding at the beginning since the
attributes of later children are unknown. Simultaneous
bidding leads to more aggressive bidding of less
desirable units.
4. Ascending prices bidding. Capped prices induces more
participation of lower income families. Lowe income will
bid higher in case of a capped price.
5. For the market to be most efficient, it should provide
incentives that will reduce the other markets of private
agencies and individual adoption.
Privatization of Adoption:
Lessons Learned
98
 Partial contracting out of adoption service delivery in MI, KS,
IL, and FL increased efficiency compared to Gov’t monopoly.
However, the terms of the contract causes biases in the
outcome.
 In all 3 states increased the rate of permanency and reduced
the time children spend in FC.
 Kansas system of fixed price per child failed because of
uncertainty in court procedure and medical expenses. The
revised system of per month payment led to disincentive for
prompt placement. It also created unnecessary monopolies.
 Illinois’ performance contracting was highly successful in
achieving permanency. It reduced time spent in FC,
eliminated inefficient providers, and allowed more efforts in
the hard to adopt children. It also raised competition between
the public and private sectors.
Privatization of Adoption: Lessons learned
99
 All 3 privatization efforts still allowed large number of
hard to place children to remain in FC.
 The auctioning model a-la the ancient bride market in
Greece assures market clearance. It is efficient in
preventing shortage/excess children. It is claimed to
be a slave market for kids; but the end result is
preferred to the kids. It reduces gov’t involvement,
simplifies the process by reducing the role of
intermediaries, and generates resources for adoption
of the difficult cases. Since all potential adopting
parents are still screened, the quality of the adoption
does not deteriorate.

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Economics__Management_of_Privatization5-17.ppt

  • 2. Lecture 1 2 Research Process and Paper Contents Definition: Political Science, Economics The Concept of Public Goods: Adam Smith Characteristics of Goods that Require Intervention
  • 3. The Research Process 1. Definition of the Problem 2. Significance of Problem 3. Choice of client, Research Questions, and/or Objectives of Study 4. Description of Alternative 5. Evaluation of Alternatives 6. Selection of Preferred Alternative 3
  • 4. Structure of paper  Cover Page : Name, Course, Term, Contact information  Abstract : Problem, Significance of Problem, Alternatives, Major Findings.  Introduction: Problem, Significance of Problem, the Client, Research Questions or Objectives of Paper, Review of Forthcoming Sections.  Historical or Literature Review, Background  Description of Alternatives. Include a summary table  Evaluation of Alternatives. Costs and benefits to each alternative. Include a summary table.  Summary and Conclusions. The preferred alternative, rational for selection, improvement of preferred alternative, policy implications, future research.  References. 4
  • 5. Definitions—Public Administration 5 1. Relying more on private institutions of society and less on government to satisfy people’s needs. Private institutions include businesses operating in marketplace, voluntary organizations (religious, neighborhoods, civic, co-operatives and charities), individuals, family, clan or tribe. 2. Act of diminished role of government or increased role of private sector in an activity or in the ownership of assets. It is a strategy to lower the cost of government and achieve higher performance and better outcomes for tax dollars spent. 3. Act of transferring government enterprise or assets to the private sector 4. Webster’s: Making private, especially changing
  • 6. Public Administration: Economic Definition 6 A move of an asset or activity from bureaucratic government monopoly towards competitive markets.
  • 7. Public Goods: Adam Smith 7  The need for national defense  The duty of protecting every member of society from injustice or oppression of every other member of society  Establish and maintaining highly beneficial public institutions and public works which are of negative profit nature if supplied in small quantities  The duty of meeting expenses of ruling powers.
  • 8. Public Intervention in Marketplace 8 • Pure Public Good: Collective consumption (non- divisible) with non-exclusion, and non-rivalry in consumption. MC=0. Motivation for free ridership. • Externalities: Positive and negative; Production and Consumption. • Monopolistic Power. • Asymmetric information between the consumers and producers in the market • Equity.
  • 9. Pure Public 9 The case of MC=0 and constant is typical for pure public good. A non-competitive provider will produce at MR=MC and eliminate a significant part of Consumers’ surplus. Example, a road without congestion. Degree of collective consumption VS. Size of relevant interacting group.
  • 10. Mapping of Public And Private Goods 10
  • 11. EXCLUSIVE NON EXCLUSIVE RIVALRY Pure Private Common Pool Public domain ponds, rivers. Regulation by licensing, contracting-out. NON-RIVALRY Club Swimming pools, toll roads, country clubs. Membership, tolls or users’ charges. Private provision. contracting-out, and vouchers. Pure Public 11 Dichotomy of Goods & Services
  • 12. Exclusion & Consumption Properties of Goods & Services 12
  • 13. Externalities 13 Definition: By-product of activities that escape the price mechanism, and may be of positive or negative nature. Government role is to internalize externalities such that the price includes it.  In case of negative externalities the product is overproduced and at a lower price than it should (social).  Positive externalities cause under production of the good at a higher price than socially desired.
  • 14. Natural Monopoly 14 A single provider in the market. • Absence of competition may be the result of significant economies of scale, technological superiorities, and/or asymmetric information that over time eliminated all competitors. • Entry of new competitors to increase supply and thereby lower prices is usually infeasible. • Gov’t intervention
  • 15. Natural Monopoly (cont.) 15  Is aimed to control prices through regulation. Examples include local utilities. Improved technology increase availability of close substitutes and leads to elimination of the need to regulate.  Natural monopoly results of economies of scale, technological superiority, asymmetric information. Over time, one provider prevails. Consumers’ surplus in the case of a monopoly is smaller than that results in perfect competition. Government regulation sets the price to be lower and as close as possible to that of perfect competition. Action could be on the quantity.
  • 16. Asymmetric Information 16  Examples: food contents, medicine, Enron, corporate corruption  Here the consumers have no knowledge on the contents of their products while learning about it requires very high cost. Government needs to protect the consumers.
  • 17. Equity 17 Requires government intervention. Efficiency VS. Equity. Shortcomings of perfect competition. Voluntary activities to reduce inequity. Progressive taxation.
  • 18. History of Privatization 18 Peter Drucker suggested contracting out. Milton Friedman. Thatcher elected 1979. BP (79), British Aerospace (81), National Freight Corp (82), Cable and Wireless (83), Jaguar (84), British Telecom (84), British Aerospace-final portion of holdings (85), British Gas (86), British Airways (87), Rolls Royce (87), British Airport Authority (87), water utilities (89), electric utilities (90), mandatory compulsory tendering (compet. bidding) of local gov’t services (89).
  • 19. History of Privatization 19 United States  Little privatization by sale by Fed.  Few state owned enterprise.  Contracting out: data processing, food services, building maintenance, guard services.  Local: waste collection, street cleaning, ambulance service, park maintenance.
  • 20. History of Privatization 20 World  Late 1980’s: Mexico, Brazil, Chile, Argentina elected presidents who adopted strong privat. policies.  China: Agriculture (78), eliminating state owned and collective farms and allowing private farming. In the 80’s: private sector industrial and retail operations, multi ownership, joint ventures.  89: Collapse of socialist block.
  • 21. Political historical Discussion 21  Rise of Communism and greater state involvement in marketplace: Eastern block  Rise of Socialism in Western Europe  Rise of Fascist regimes in South and Central America  Change of trend: Thatcher and Reagan  Collapse of Eastern European block  Liberalism in Western Europe and Americas  The role of privatization
  • 22. I. By Divestment A. Sale B. Free Transfer C. Liquidation 1.To Private Sector 2.To the Public 3.To Employees 4.To Users or Consumers 5.To Employees 6.To the Public 7.To Users or Consumers 8.To Prior Owner II. By Delegation A.Contract B.Franchise C.Grant D.Voucher E.Mandate 1.Public Domain (Concession) 2.Public Assets (Lease) III. By Displacement A.Default B.Withdraw C.Deregulation 22 Forms of Privatization
  • 23. Why Privatize?  Cost Savings: Ranges from 20-50 percent.  Access to Enterprise: Contracting gives access as needed to unavailable expertise.  Better quality: Competition brings best performance. Bidders have incentives to offer better quality in low prices.  Improve risk management: Contractors, rather than government, are responsible for delays, overrun costs.  Innovations: Competition yield cutting esourcesdge solutions. 23
  • 24. Why privatize?  Meeting peak demand: Contracting out can satisfy extra demand when public resources are unavailable.  Timelines: Private contractors can hire part-time workers or temporarily rent capital to meet deadlines, avoid penalties or enjoy extra payments. This option is often unavailable for government. (Source: Gilroy Leonard and Adrian Moore, “Privatization”, in The Patriot’s Toolbox, The Heartland Institute, 2010). 24
  • 25. Forms of Privatization 25  Divestment: Shedding an enterprise or an asset. One time affair. Sold or given away.  Free transfer: Given away to employees, users, customers, previous owners, or the public at large.  Sale: to joint venture, private buyer, the public, employees, users or customers. More than 100 airports were sold/privatized including Buenos Aires, Frankfurt, Johannesburg, London, Madrid, Paris, and Rome. The Empire State Development Corp. sold the NY Coliseum, State parking lots, armories, golf courses, State mental health campuses. This generates, in addition, property tax base that did not exist before.
  • 26. Forms of Privatization 26 • Delegation: Requires a continuing active role for gov’t. Remains responsible for overseeing the results. 1. Contract: for part of service, for total management. Solid waste collection, street repair, street cleaning, snow removal, tree maintenance, loan processing, data processing, audio visual services, food, mail and filing services. 2. Franchise (concession): exclusive right to sell a service or product to the public. a. Use of the public domain in the course of carrying out their commercial activities– use of the public domain: airwaves, air space, underground space. Examples, broadcasting, airlines, bus and taxi co.'s, electric, gas, water,
  • 27. Forms of Privatization 27 Delegation (continued) b. A lease. Government owned tangible property is used by a private lessee to engage in a commercial enterprise. Chicago leased for $1.15B its downtown meters system in 2009, and earlier 4 downtown parking garages for $563M. 3. Grant: private entity does the work-subsidy, grants for public transit, low income housing, maritime shipping. To run a bus service, to do research, to promote the arts. Contracts are more specific. 4. Mandate: Gov’t requires private companies to provide services at their expense. Ex. Unemployment Compensation. Replacing Gov’t by mandatory indiv retirement accts. 5. Vouchers: subsidize eligible consumers instead of producers to purchase services in the market. Used for food, housing, education, health, day care,
  • 28. Forms of Privatization 28 • Displacement: Passive process as markets develop to satisfy needs.  By default: Gradually the public looks for the private sector. Ex. Municipal tennis courts and other rec. facilities. Commercial ventures, voluntary groups like charitable, social, philanthropic and community org. Ex. Police is replaced by private guards. In transportation: gypsy cabs, commuter vans, minibus systems and other unofficial or technically illegal trans. Providers emerge as public means are inadequate. Private co.'s finance, build, operating, owning roads, bridges, prisons. Ex. tunnel connecting England and France.
  • 29. Forms of Privatization 29  By Withdrawal: Gov’t shuts down failing public enterprise or accommodates private sector private sector expansion.  By deregulation: State monopoly vs. competition. Privatization if the private sector challenges a gov’t monopoly and even displaces it. Packages and express mail.
  • 30. Delegation: Contracting Out 30  Most common in the US (28% of all services).  Mandatory for municipal services in the UK.  Managed competition: bidding for contracting out that includes the gov’t agency.  Goldsmith: “A city could run with its mayor, a police chief, a planning director, a purchasing agent, and a handful of contract monitors”.
  • 31. Contracting Out 31  Success in waste management: collection, disposal, extracting energy and recyclables from the waste stream, and to treat hazardous wastes.  Principal-agent problem: The principal bears 1. the cost of providing incentives to encourage the agent to pursue the goals of the principal. 2. the cost of obtaining information and monitoring the agent to reduce opportunistic behavior. 3. the cost of any residual opportunistic behavior by the agent.  A gov’t with budget problems is a good candidate for contracting out. Loss of hospital accreditation by the State, court’s order the
  • 32. Contracting Out Since 2005, 5 cities in metropolitan Atlanta, GA contracted with private firms to deliver all its non-safety related services (required under state constitution to be provided by gov’t entities). Sandy Spring’s residents incorporated as an independent city. CH2M- Hill OMI overseas and manages daily city operations. Sandy Spring maintains ownership of assets, and setting service levels. Contractor is responsible for staffing and all operations. Contract value is just above half of what Fulton County charged in 32
  • 33. Contracting Out: Steps 1. Consider the idea of contracting out. 2. Select the service 3. Conduct a feasibility study 4. Foster competition 5. Request expression of interest or qualifications 6. Plan the employee transition 7. Prepare bid specifications 8. Initiate a public relations campaign 9. Engage in “managed competition” 10. Conduct a fair bidding process 11. Evaluate the bids and award a contract 12. Monitor, evaluate, and enforce contract 33
  • 34. Contracting Out: Actual Process 34 Wastewater treatment plants in Indianapolis, 1993. 1. Mayor creates Review Committee (6 mayoral appointees, and 2 from City Council) 2. Review Committee issues RFQ to 28 Cos. 3. 7 Responses are received including one from the current managers of plant 4. Committee reviews and cuts down to 5 5. City provides $15K for consultants to help existing managers: Cost estimate and preparation of RFP 6. RFP are issued to 5 qualified teams 7. Teams of all 5 qualifiers visit separately the plant 8. 5 qualifiers submit proposals and prices 9. A technical and financial consultants are hired to help the Committee 10. 3 of 5 including existing management are rejected 11. Each finalist briefs the Review Committee 12. Review Committee visits plants operated under contract by 2 finalists 13. Review Committee picks the winner
  • 35. Contracting Out: 2. Select the Service Criteria 35  Service with no legal or contractual impediments to contracting  Easy to carry out competitive contracting  Hard services for which easy to write enforceable specifications  Stand-alone service  Can be segmented by location into 2+ contracts  Services that have been successfully contracted out elsewhere  “Yellow pages test”. Enough, responsible and experienced bidders  Services for which part timers can be used. Significant savings since gov’t cannot readily employ part timers  Services where gov’t operation is overstaffed, poorly managed or could be re-engineered.  Services that are subject to public complains  Services where employees and union resistance can be
  • 36. Contracting Out: 3. Feasibility Study 36  Establish current cost to establish a baseline against which to compare prices  Assess quality of current operation—complaints, measuring performance, conducting surveys  Public cost relies on published budget. Need for ABC accounting which includes: 1. Capital expenditures which often are not included in operating budgets 2. Interest costs on capital expenditures 3. Costs of supplies- fuel for vehicles that appear in a different category of budget 4. Fringe benefits 5. Budgetary pensions 6. Cost of labor borrowed from other agencies or hired seasonally and are not included in the analyzed budget. E.g. hierarchical and hidden costs. Or, many attorneys budgeted by the DOJ work full time defending the Bureau of Prisons against suits brought by litigating prisoners. 7. Foregone property tax and OC of building and land used by the activity
  • 37. Contracting Out: 4. Foster Competition 37 It is best to have multiple competitors. However, when there are marginal competitors it is best to negotiate bids with handful of clearly eligible contractors after the qualifying round. Best for contractors of hospitals, prisons, social and professional services. Often due to bureaucratic behavior of gov’t there are only few bidders and/or high bids to compensate for it. To foster competition– 1. divide the geographical area to smaller units as long as econ of scale are not adversely affected. 2. give a long lead time to bidders 3. publicize and use the web for the bidding 4. provide sufficient information 5. award enough contracts and permit a large number of bidders to get contracts. 6. Minimize “incumbent advantage” to encourage new contractors to bid. Philadelphia did just that by including in the bid for the maintenance of street lighting detailed information on equipment and practices used by the incumbent contractor 7. Avoid request for sensitive non-essential business information to the procurement like profits, wages of managers/employees 8. Avoid restricted contracts for nonprofit organizations but keep it open for all. Such restrictions are often used for local political patronage (e.g. social foster care agencies)
  • 38. 5. Contract out: Express Interest or Qualifications (RFEI) 38 When initially considering privatization, gov’t may be unsure about the exact nature of the proposed contract. So, it announces RFEI to prospective bidders, pre-bid conference to discuss the issues, checking the submission of the firms, prepare a list of firms to which RFP or an invitation to bid is issues.
  • 39. Contracting Out: 6. Plan the Employee Transition 39 Biggest problem is how to handle with redundant workers and the prospect of labor unrest. Surveys showed that most workers are hired by the private contractor, followed by early retirement, severance pay, attrition, redeployment in other public agencies. Only few are fired.
  • 40. Contracting Out: 7. Prepare bid specifications 40 • Contract wording should be in ordinary language, accurate and unambiguously. • The contract should not specify exactly how the work should be done but merely the output quantitative specifications. • Gov’t should allow freedom of contractor to employ the people at salaries and in procedures that achieve the contract specified outputs. • “Hard” services that involve tangible and visible physical results are easier to write specifications in output and lend themselves to contracting out. • “Soft” services that involve social workers are more amenable for contracting out.
  • 41. Contracting Out: 8. Initiating Public Relations Campaign 41 Strong opposition is almost certain to surface by public employee unions, private firms that want to avoid competition, or special interest groups. Aggressive campaign in support of privatization should include a coalition of civic associations for better gov’t, neighborhood groups dissatisfied with poor services, minority businesses that see opportunity in providing such services etc.
  • 42. Contracting Out: 9. Managed Competition 42 1. Effective for short term contract or where capital expenditures are required 2. Allows the management to work with its labor force 3. Improves employees’ morale and builds community support 4. Reduces the possibility of collusion among private providers 5. Induces private firms to submit better bids Mandatory competitive bidding by gov’t agencies for routine functions was introduced in the UK. Also, requirement of gov’t agencies to maintain separate accounts of income and expenditures and to achieve a prescribed rate of return on the capital equipment they employ. (Local Gov’t Act, 1988). Included refuse collection, street cleaning, cleaning of public buildings, vehicle and ground maintenance, and food services. Result: Many services were won by in-house departments with savings of 20% and reduction in manpower of 20-30%.
  • 43. Contracting Out: 10. Fair Bidding Process 43  Widely advertise the RFP  Allow enough time between announcement and due date  Hold a bidders’ conference to address questions  Use internal team and an outside consultant to evaluate proposals using clear criteria and an agreed upon score system  Avoid asking for too many bid prices. (e.g. price for year 1, year 2…) This will create favoritism.
  • 44. Reasons for Privatization: Political Science View 44  Pragmatic: Greater efficiency in the production of G & S. Dissatisfaction with gov’t performance.  Ideology: Less gov’t. Gov’t plays a smaller role than the private sector.  Commercial: To do more work at profit.  Populist: Better society by giving people greater power through the marketplace while diminishing the power of large public bureaucracies.
  • 45. Reasons for Privatization: The Economist View 45 1. Improve economic efficiency 2. Strengthen the share of the private sector in the economy 3. Reducing the role of government in the marketplace 4. Improve the financial stance of the public sector 5. Develop better capital markets 6. Use the revenues generated by the privatization for other social, security or infrastructure purposes.
  • 46. Reasons for privatization varies by economies 46 The relative importance of the reasons depends upon the characteristics of the economy in question. In a nation where capital markets are weak– reason 5 dominates. In a nation that changes its structure (from Communism) then reasons 2, 3, and 5 are central. In a developed economy where the private sector is strong and so are capital markets then reason 1 applies.
  • 47. Keys for Success (in Declining Importance) 47  Having committed political leader (s) to champion the initiative. E.g. a governor, mayor, or several legislators. Flexibility in adjusting strategies when problems arise in the implementation. Maintenance of momentum.  Establishing an organizational and analytical structure to implement the initiative.  Enacting legislative changes and/or reducing available resources to encourage greater exposure to competition. Signaling managers and employees that the restructuring efforts are real.  Developing reliable Activity Based Costing (ABC) accounting to determine performance of the gov’t agency and the feasibility of private sector provision of service. Cost data on individual activity and not the traditional agency wide accounting system.
  • 48. Keys for Success (Cont.) 48 • Involving employees and local unions in the privatization process. Unions concerns and political influence led to legislation that made privatization in MA more difficult. In Indianapolis, employees are involved from early stage. Workers trained in ABC and allowed to compete. Front line workers were given decision-making power. Some supervisory jobs were eliminated, training to workers responding to RFP, safety net for displaced workers. • A 1989 National Commission on Employment Policy survey showed that 24% of contracted out public services were transferred to other gov’t jobs. 58% went to work for the private contractor, 7% retired, and only 3% laid off. • A monitoring body should be established by gov’t to assure compliance with the designated contractual terms.
  • 49. 2nd key: Council on Efficient Gov’t  Single independent decision-making body to manage initiatives. Good example, Florida Council on Efficient Gov’t. 2004-2010: $550M in cost savings through 130 privatization initiatives. The council should get the authority:  Develop a process for identifying & implementing competitive sources.  A feasibility study of alternatives.  Develop performance-based contracting: focus on outputs not inputs when choosing whether to privatize  Conduct an periodical inventory of gov’t activities 49
  • 50. Problems with Traditional Contract Out Model 50 Infrastructure controlled by gov’t: 1. Separate contracts with private agencies 2. Labor disputes 3. Disputes between the planners and the contractor 4. Lowest bidder contractor performs low-quality workmanship 5. Concealed or unforeseen conditions 6. Huge task of renewing the public infrastructures, and insufficient funds.
  • 51. Public Private Partnerships (PPP) 51 Definition: PPP is an arrangement of roles and relationships in which 2+ public and private entities coordinate in a complementary way to achieve their separate objectives through the pursuit of common objectives (s).  Private design, finance, construction, maintenance and operation of a project for public use for a specific period of time. When time expires, title reverts to gov’t.  The private sector aids gov’t in identifying new private financed profit-making facilities, and seek out new projects that otherwise have to wait until public funding becomes available.  The public sector investigates feasibility of project, execute the contract, choose the private partner, regulate prices, establish and monitor performance standards.  BOT is a general term for PPP. A concession is granted to a contractor to design, finance, operate and maintain for 10-30 years. Contractor charges tolls for the use of the facility.
  • 52. Forms of PPP From mostly Public to mostly private 52  Fully public  DB: Design Build  DBFO: Design, Build, Finance, Operate  BOT: Build. Operate, Transfer  BTO: Build, Transfer, Operate  BOOT: Build, Own, Operate, Transfer  BOO: Build, Own, Operate  Fully Private
  • 53. Forms of PPP 53  DB: A contract with a private contractor to provide architecture/engineering design and construction services  DBFO: Contractor responsible for these services and is compensated by specific service payment by gov’t during life of project. No actual tolls are collected by private contractor. Here payments by gov’t—cost to taxpayer. Still efficient since construction & operation by a private entity  BOT: A concession is granted to a contractor to design, finance, operate, and maintain for 10-30 years. Contractor charges tolls for the use of facility.  BTO: Build, Transfer, Operate. The gov’t then leases the facility back to developer under a long term lease.  BOOT: Build, Own, Operate, Transfer. Ownership with the contractor until the end of the concession period and is transferred free to the gov’t.  BOO: Outright privatization without a transfer of ownership to gov’t. At the end of the concession, the original agreement can be renegotiated.  Wraparound addition: The private developer constructs an addition to an existing public facility and then operates the entire
  • 54. Reasons for PPP 54  Greater efficiency in the use of public resources. State and local gov’ts save 10- 40 percent  PPP are means of increasing investment in infrastructure particularly utilities and transportation  Needs for social infrastructure– hospitals, prisons, schools, housing
  • 55. Advantages for Gov’t of PPP 55  Profit oriented businesses identify new projects that otherwise wait till gov’t funds are available  Private sponsors and commercial lenders assure financial and tech feasibility of project  Private sector can access private capital markets to substitute hard to get gov’t sources  Private sector builds faster and more cost effective than gov’t. Less bureaucracy and procurement rules  Private sector operates facilities more efficiently due to profit motives  Private firms provide more tax revenues  Private sector shares or accepts risks otherwise borne by public sector  Private sector transfers technology and provides training to gov’t workers
  • 56. 6 Keys for Success of PPP 56 1. Statutory and Political Environment: A successful partnership can result only if there is commitment from "the top". The most senior public officials must be willing to be actively involved in supporting the concept of PPPs and taking a leadership role in the development of each given partnership. A well-informed political leader can play a critical role in minimizing misperceptions about the value to the public of an effectively developed partnership. Equally important, there should be a statutory foundation for the implementation of each partnership. 2. Public Sector’s Organized Structure: Once a partnership has been established, the public-sector must remain actively involved in the project or program. On-going monitoring of the performance of the partnership is important in assuring its success. This monitoring should be done on a daily, weekly, monthly or quarterly basis for different aspects of each partnership (the frequency is often defined in the business plan and/or contract). 3. Detailed Business Plan (Contract): You must know what you expect of the partnership beforehand. A carefully developed plan (often done with the assistance of an outside expert in this field) will substantially increase the probability of success of the partnership. This plan most often will take the form of an extensive, detailed contract, clearly describing the responsibilities of both the public and private
  • 57. Keys for Success of PPP (continued) 57 4. Guaranteed Revenue Stream: While the private partner may provide the initial funding for capital improvements, there must be a means of repayment of this investment over the long term of the partnership. The income stream can be generated by a variety and combination of sources (fees, tolls, shadow tolls, tax increment financing, or a wide range of additional options), but must be assured for the length of the partnership. 5. Stakeholder Support: More people will be affected by a partnership than just the public officials and the private-sector partner. Affected employees, the portions of the public receiving the service, the press, appropriate labor unions and relevant interest groups will all have opinions, and frequently significant misconceptions about a partnership and its value to all the public. It is important to communicate openly and candidly with these stakeholders to minimize potential resistance to establishing a partnership. 6. Pick Your Partner Carefully: The "lowest bid" is not always the best choice for selecting a partner. The "best value" in a partner is critical in a long-term relationship that is central to a successful partnership. A candidate's experience in the specific area of partnerships being considered is an important factor in
  • 58. BOT Model 58 Usually a large project requiring consortium of designers, builders, financiers and more. Contractor enters into 4 agreements: 1. A concession agreement with host gov’t 2. A construction contract usually DB type. It may be a member of the bidding consortium 3. An operation and maintenance agreement with operator of facility. It may be a member of the bidding consortium 4. Loan agreements. Funds flow through concession co.
  • 59. BOT Concession Agreement 59 Establishes concession rules and contractual rights of parties. Issues Included: 1. Nature, length, scope of work, operation of completed facility 2. Specification of what is provided 3. Extent of permitted variations to specification 4. Performance standards 5. Tolls, prices, payments to be charged 6. Concessionaire's rights if enabling legislation changes 7. Provisions for termination of contract 8. Circumstances where grantor takes over the concession.
  • 60. BOT: Gov’t support 60 1. Creating appropriate legislation that enables effective operation 2. Setting tolls to allow reasonable IRR given level of risk 3. Protecting concession companies from competition at early years 4. Helping concession co. to overcome bureaucratic opposition 5. Develop a clear and effective program to allow public participation in the planning.
  • 61. BOT: Advantages 61 1. No or little cost to taxpayers 2. Little risk for gov’t. Sufficient bonds and letters of credit that ensure completion if private sponsor defaults 3. Private sector can move pre and construction more rapidly than gov’t 4. Sponsors must operate and maintain facility for 20+ years 5. General taxes are unaffected and revenue bonds are unnecessary 6. Only users of BOT facilities pay tolls. Thus, costs are borne by beneficiaries and not by public at large
  • 62. BOT: Risks 62  LDC: Long term political instability  Cost overruns. Project could come to halt  Currency devaluations causing payback loans with devalued revenue  Drastic changes in demographics over the concession period may affect revenues.
  • 63. PPP in Highways 63 Problem: Maintenance of existing roads is short $20B than available Federal, State and Local budgets. If we wish to accommodate expected economics growth then the shortage expands to $40B than what public budget will be available.
  • 64. PPP: Highways 64  Impetus: Intermodal Surface Transportation Efficiency Act (ISTEA), 1991. Expanded toll facilities eligibility for Federal aid for construction (re), resurfacing, rehabilitation, conversion to toll roads. Allowed also State funding and shared responsibility with private sector. Exception: Interstate system.
  • 65. PPP Highways: Principles 65  Always PPP where ownership shifts to public entities  Always existence of non-toll alternative road  Toll roads and private highways have been built in many Asian, European, and Latin American countries. Since 2005, gov’t run toll roads have been contracted out in Colorado (Northwest Parkway), Illinois (Chicago Skyway), Indiana (Indiana Toll Road), and Virginia (Pocahontas Parkway).
  • 66. Rt. 91 in Ca. 66 Description: 10 miles 91 express 4-lanes within the median area of SR 91. Connecting 55 Freeway near Anaheim to run east-west to the border of Riverside County. Affluent local population, 8% annual increase in traffic—high congestion.
  • 67. Rt. 91: Ca. Nature of PPP, Operation 67  BTO. CPTC built, cedes ownership to State in exchange for 35 years lease to operate the road. Toll charged and 50% discount for 3+ people in car.  Demand sensitive pricing by time of day and distance.  Guaranteed 65 MPH otherwise money back  Fully automated operation  Immediate removal of non-operating vehicles.  Results: Profitable from first year. Average occupancy 1.65 where 20% of which are carpoolers (3+)
  • 68. Dulles Greenway 68  Built as BOT in 1995 in Virginia. 15 miles from Dulles Intern’l Airport to Leesburg. 4 lanes and 250 ft. right of way. Private consortium financed, built, and operates it. Connecting the Beltway near D.C. (I-495) with Dulles Airport.  Special legislation to establish prerequisites for construction & operation of a private toll road  A commission was set up to regulate applicants, supervise, control operators, and approve/revise prices.  Total estimated cost $326M. $68M initial investment by partners; of which $22 equity and $46M guarantee against project risk. $202M by consortium of 10 lending institutions.  http://americancityandcounty.com/mag/government_making_inroads_private/  http://americancityandcounty.com/mag/government_making_inroads_private/
  • 69. Greenway: Features 69  BOT. Transferred to State (VI) after 40 years. Subjected to utility style regulation. Targeted return 21%.  Prices fixed for all day and all 7 interchanges. In 1995 price $1.75 ridership 10K vs. anticipated 30K. In 1996, price lowered to $1– ridership grew to 17K. In 1997, price increased to $1.15. Toll collection below anticipation.
  • 70. Lessons learned 70  Drivers are reluctant of paying tolls that do not vary by distance and time of day. Demand sensitive pricing (discriminatory prices) also assure higher revenues, and avoidance of congestion.  Private toll road companies face difficulties in land acquisition and managing environmental concerns. Rt. 91 had no land acquisition while the Greenway suffered additional cost related to delay in land purchase. DOT enjoys eminent domain provision in assembling land. Timely land acquisition added to the cost of the Greenway.  Private companies unlike public entities cannot finance using tax exempt securities. Thus, private companies pay higher interest.  Private companies unlike public entities do not enjoy sovereign immunity. Full liabilities for accidents adding in case of BOT additional operating cost.  Toll roads should enjoy existing demand and not be subjected to induced development that will produce travel demand. The initial cost of toll roads includes high land
  • 71. Lessons learned (Continued) 71  Metropolitan roads that serve peak time traffic (e.g. Rt. 91) are more financially viable than intercity roads (e.g. the Greenway).  Most private investments have alternative use in case of failure. No alternative use for failed toll road which raises uncertainty and higher financial costs.  Success requires one company to build and operate the toll road for a long period of time.  Success requires simple and immediate land acquisition  Success requires a committed political champion
  • 72. Problems with Dulles Greenway 72  Fixed price for tolls. Demand sensitive prices over distance traveled, time of day, weekday-weekend  Excessive regulation by state/lenders for toll restructuring, change of speed  Real cost of regulation in time and expenses  No tax exempt securities raising developer’s interest payments  Accidents and other liabilities absent for public roads that enjoy sovereign immunity  No eminent domain provision to acquire necessary land. Negotiations for land took time and additional resources adding to cost  Expensive project that is contingent upon stimulation of land use or induced traffic in the remote future with high risk
  • 73. BOT Tunnel in Hong Kong 73 Feb 1988, the HK Gov’t granted a 30 year franchise to a private consortium. Longest road in HK 4 KM twin tube 4 lanes tunnel and approaching lanes. Completed 2 months ahead of schedule at TC of $276.5M 1. Financed completely by private sector 2. Shareholders contributed equity 1 to 2.6 debt 3. Risk for non-completion ran for just 18 months construction period. Risk was low because the tunnel method used was well known. Good reputation of contractor, and $400K per day penalty 4. Cost overrun risk was overcome by several guarantees of shareholders. To ensure project quality, a 10 year performance bond to address performance risk was put up by contractor 5. Post completion risks ran for 12 year loan period. Shareholders purchased i.r. cap. Cash flow risk was mitigated by HK gov’t approval to increase tolls.
  • 74. PPP for public schools 74 • PPP adopted to upgrade schools facilities at lower costs and less time than gov’t. • PPP are unbounded by regulations that govern public sector bond offering, voter approval, and review of competitive bids. • A PPP school in Fl was built in less than 9 months compared with 5 years by Fl gov’t.
  • 75. PPP for Schools 75  Nova Scotia 41 schools constructed under Built-Lease-Transfer-Maintain (BLTM). Private sector designs, finances, and constructs. Leased back to Gov’t for predetermined period of time at a pre-agreed rent. When the lease starts, the school is operational.  Advantages: speed of upgrade, and 15 percent savings on lease. The school leases the facility for 20 years at rent lower than the capitalized construction and furnishing cost. Developer uses the facility when not used; other time of the day, weekends, summer holidays. Activities are predetermined like vocational education, meeting space for civic
  • 76. PPP for Public school: Pembroke Pines Charter Fl. 76  Haskell Educational Services (HES) designed and built the school between 22 and 34 percent less cost than other public schools in Fl. Unlike the previous case, here Gov’t owns and leases the facility to the private entity.  Public tax exempt bonds financed the building, owns it, and leases it back to HES. HES operates it as charter school and offers additionally fee-based after-school programs: daycare, enrichment, and student services.
  • 77. Conclusions for PPP 77  The traditional model of Gov’t contracting separately a construction co (bid) and a designer has not been successful. Often, the lower bidder uses low quality material where possible. Also, the fragmented relationship and responsibilities among the gov’t, the designer and the construction co. is a source of problems where the gov’t plays a mediation role. In PPP, the construction co. has vested interest in high quality construction since it will operate the facility upon completion.  DB is preferred to traditional model since a single organization exists for both avoiding conflicts.
  • 78. Conclusions for PPP (Continue) 78  BOT, and DBFO are used for major infrastructure projects like roads, and power generators. Attract new private investment without recourse to gov’t funding. BOT reduces the common cost overruns experienced by gov’t. Only the users of BOT facilities pay tolls. In DBFO services charges are paid by public sector; no user charges.  Hospitals and schools use BLMT (Build, Lease, Maintain, Transfer). Facility is leased back to gov’t. PPP can be used to acquire many different types of facilities with various contractual arrangements.
  • 79. Privatizing Adoption @ Foster Care Services: The Problem 79 Higher incidents of criminal behavior when growing up without family ties and lack of permanency.  90% of Rochester NY who endured 5+ family transitions became delinquent.  17% of all local jail inmates are former foster care children.  Annual pubic cost of per child foster care is $17,500
  • 80. Privatizing Adoption @ Foster Care Services: Background 80  400,000 in foster care in 1991, increasing annually by 4%. 542,000 in 2001.  1.5 million children or 2% of all children  Average age 10.1 in 2001 and the average child remains in fc 44 months  Special subsidy is available for special needs children: Emotional and Physical problems, siblings, age, and ethnic belonging.  International adoption becomes common. 20K in 2002; 40% of50,000 children adopted in 2002. 50% of int’l adoptions are infants while only 2% from foster care. Cost $7K - 25K.  Private adoptions in the US include expenses for the birth mother, agency and court, and could exceed $30K.  Minorities in fc and awaiting adoption comprise a greater % than their respective share in the population. Blacks are 17% of population, 49% of adopted and 55% of those awaiting adoption.  Number of children is foster care rises, length of time in pipeline
  • 81. Privatizing Adoption @ Foster Care Services: Objectives 81  Reduce the number of children in fc and increase permanency  Reduce the period of time in pipeline  Federal Adoption and Safe Family Act (ASFA) offers incentive payments to States that increases adoption from fc above the national standards. Incentives appeared effective in raising the rate of adoption.
  • 82. Privatizing Adoption @ Foster Care Services in Michigan 82  Six months exclusivity for the State agency, family independent agency or fc provider to place an eligible child in adoption. Within 3 months, the adopting parents need to be identified. If not, the child is publicly listed.  Once publicized, the 53 licensed private agencies can compete. These companies provide both fc and adoption services.  Fixed prices are paid for placing children based on outcome, time, and the difficulty of the case.  The State imputes estimated cost for 8 prototype cases and adds an incentive component. The adoptive family can act as a fc family for the child for up to 150 days.  Private agencies handle 60% of adoption services and the rest are managed by the state agency.
  • 83. Privatizing Adoption @ Foster Care Services in Michigan 83 No obvious success to the privatization efforts: 1. 1991-99: total number of children adopted higher by 83%. However, number of children available for adoption increased 116%. Ranked 5 lowest among the 50 states. 2. Advantages: introduced some competition to the process and dissemination of information on Internet. Private companies have an incentive to search for high quality and many adoptive parents. Greater choice to prospective parents now than before when a state agency ran the program. 3. Shortcomings: Prices set by the State and are not market sensitive. The State provides identical services for the private providers that compete with it. The cost per child for the State is of no concern; thus no managed competition features. No justification for the 6 months exclusivity awarded to the company. Immediate competition of all agencies could reduce time to adoption with no cost to the child.
  • 84. Privatizing Adoption @ Foster Care Services in Kansas: Description 84 Privatization started in 1996 to benefit the children and save resources following a suit by Civil Liberties Union. Description: 1. The State was divided into 5 regions for fc. Bidding in each for 1 contractor for 4 years period and prices negotiated. Important that the child remains close to biological parents for possible visitation and reunification. 2. Foster Care: Fixed amount per child and ranged among regions $12,860 and $15,504. Over time, prices were changed and adapted for children with special needs. 3. Adoption: Bidders compete for a statewide contract. Lutheran Social Services had 12 sub-contractors throughout the State. 4. Kansas Dept. of Social & Rehab Services established performance standards that will be used for contract renewal or subsequent bidding. FC Standards include max 3 placement moves and 65% achieve permanency within 12 months of initial referral. 5. Adoption standards require 70% are placed within 180 days of referral and 90% of adoptions be intact for 18 months from finalization.
  • 85. Privatizing Adoption @ Foster Care Services in Kansas: Evaluation 85  During 4 first years, Kansas paid foster care contractors $105.1M above the $178.7 contracted, and to adoption providers $31.4M above the $37.4 contracted.  Adoption provider lost $5.5M in the first 2 years  As a result, revision of contracts to $1,958-$2,200 a month per child for 1st year. The initial contract was unrealistic. Children in foster care more than 6 months yield loss to contractors since 32% remain in fc 1-2 years.  Privatization led to better data collection of cost and performance for both fc and adoption. Quality of both services has improved with 178% rise of budget.  Number of adopted children rose on the 1st year by 55% and over the 4 years by 78%. Ranked lowest 7th among the 50 states.  Improved service: case workers available 24/7 and 71% of fc children were now in their own or continuous county. % children in fc home rather than group homes and institutions grew from 67 to 85%. Unsuccessful adoptions were 2.4% compared with 12% nationally. Social workers can spend more time investigating leading to an increase uncovering child abuseng
  • 86. Privatizing Adoption @ Foster Care Services in Kansas: Conclusions 86  Fixed fee contract failed due to unknowable medical costs and delays by judicial procedures outside the contractors’ control. Changed to a per month fee which lacks incentives for prompt placement. Performance, however, is still a base for renewal of contract.  Separation of the many fc providers and the one adoption provider creates inefficiency in the care of the children that experience a shift in their contact social worker. Allowing integration of both services could raise competition.  Longer contracts increase incentives to compete for a contract, leading to lower bid prices and/or better service. Longer contracts leads to more resources provided by contractors to improve efficiency. However, longer contracts enable contractors to exercise monopolistic power and reduce service.
  • 87. Privatizing Adoption @ Foster Care Services in Illinois: Background 87  Illinois had the highest number and rate of children in fc. Number of children in fc per 1,000 was 17.2 compared with 6.9 for the nation as a whole, 1996.  Social worker’s caseload was 60 compared with 25 nationwide.  The median of length of time in fc grew from 8 months in 1986 to 40 in 1996.
  • 88. Privatizing Adoption @ Foster Care Services in Illinois: Privatizing Adoption @ Foster Care Services in Illinois: Description 88  Contracting started in 1997 to reduce fc population and achieve permanency.  Case confined to Cook County which comprised 75% of the state cases.  Private agencies paid $394 per case  The private agency was expected to move 24% to permanency  The 24% standard was aimed to reduce the average stay in fc from 56 to 48 months; a 25% exit from fc each year  If more than 24% of its cases, paid still the same per child and receive more children. In non-Cook County, bonus of $2000 for all children adopted above standard  If placement less than 24%, funding is the same for a larger number of children under the agency’s care and the State did not provide the agency additional children
  • 89. Privatizing Adoption @ Foster Care Services in Illinois: Evaluation 89  The FC caseload diminished from 51,000 in 97 to 22,000 in 03 (-57%)  Adoptions increased from 1600 in 97 to 3100 in 03 (+94%)  In the 9 years pre 97, 2-4% reached permanency. In the 5 years post 97, 12-23% reached permanency. In the first year it grew 200% and reached 300% in the 3rd year. Eventually, the rate declined due to the “hard core” of the difficult cases.
  • 90. Privatizing Adoption @ Foster Care Services in Illinois: Evaluation (Cont.) 90  Median duration in FC diminished from 40 months in 96 to 25 in 02.  Total nominal funding declined in 03 compared with 96 by 3.5%.  In 97 there were 42 private agencies and 3 state offices, In 03, only 26 private agencies and one state office: exit of inefficient providers and more adoptions. Illinois was ranked near the top states in achieving permanency.
  • 91. Privatizing Adoption and FC in Illinois: Lessons Learned 91 Effective performance contracting brought good results:  More children achieved permanency  Lower caseload to social workers leading to better services for children remaining in FC  Growth of better performing private agencies and elimination of inefficient providers.  Realization of economies of scale.  The system where private agencies provide both FC and adoption services led to economies of scope, and avoidance of duplicating services and disruption to children.  Elimination of 2 public agencies and transfer of service to private providers.
  • 92. Adoption Services: An Economic Auction Model 92 Problems:  Lack of resources for adequate FC of older, disabled, minority children.  Shortage of healthy infants leading to black markets and/or queuing for 7 years. Surplus of children with less desired attributes.  Public system is inadequate and inefficient while partial privatization does not resolve the above two problems.  Gov’t management is inefficient and does not address special needs due to lack of market signals. Privatization partially improves the delivery of children. However, still greater efficiency could be achieved with ubiquity of information, and allowing prices to better match children and adopting families.
  • 93. Auctioning of Wives: Herodotus in Ancient Greece 5th Century BC 93 “In every village once a year all the girls of marriageable age were collected together in one place, while the men stood around them in circle; an auctioneer then called each one in turn to stand up and offered her for sale, beginning with the best looking and going on to the second best as soon as the first had been sold for a good price. Marriage was the object of the transaction. The rich men who wanted wives bid against each other for the prettiest girls, while the humbler folk, who had no use for good looks in a wife, were actually paid to take the ugly ones. The money came from the sale of the beauties, who in this way provided dowries for their ugly or misshapen sisters. It was illegal for a man to marry his daughter to anyone he happened to fancy, and no one could take home a girl he had bought without first finding a backer to guarantee his intention of marrying her. In case of disagreement between husband and wife the law allowed the
  • 94. An Economic Auction Model: Objective 94  To increase quality of matching between adopted children and adopting families.  To produce resources that will improve quality of life for children that are difficult to adopt and remain in FC.  Adoption is not a vehicle to improve equity of adopting families.
  • 95. An Economic Auction Model: Background 95  The three states that partially privatized the service introduced economic incentives to private entities that do nor exist in the public sector to fasten the service and/or improve the permanency of placement.  The privatization, however, does not increase the exposure of the children to more potential families and retains the excess supply/shortage of children.  Adoption of market forces could improve the matching of children, increase the number of participants, and prevent excess supply/shortage.
  • 96. An Economic Auction Model: Method 96  Auctioning is used by economists as a welfare maximization for the buyer and seller. It is applied for first time sale, thinly traded goods and services. Generally auctions are designed to best match and at the same time to clear the market. A fix price, like is currently experienced, causes years of waiting for the most desired children, black markets of children, and losses for families that withdraw from the process.  Potential parents are attributed by wealth which is observable and fitness which is only known to the parents. A test needs to be conducted in order to determine the condition of the baby. If potential parents have no test results and obtain an unhealthy baby then potential parents will be reluctant to adopt.
  • 97. An Economic Auction Model 97 1. Make a health test of each child and make results available to potential parents. 2. Make a national market to increase the number of children and potential parents; improves matching. 3. Bid all children at one time. Sequential bidding leads to more conservative bidding at the beginning since the attributes of later children are unknown. Simultaneous bidding leads to more aggressive bidding of less desirable units. 4. Ascending prices bidding. Capped prices induces more participation of lower income families. Lowe income will bid higher in case of a capped price. 5. For the market to be most efficient, it should provide incentives that will reduce the other markets of private agencies and individual adoption.
  • 98. Privatization of Adoption: Lessons Learned 98  Partial contracting out of adoption service delivery in MI, KS, IL, and FL increased efficiency compared to Gov’t monopoly. However, the terms of the contract causes biases in the outcome.  In all 3 states increased the rate of permanency and reduced the time children spend in FC.  Kansas system of fixed price per child failed because of uncertainty in court procedure and medical expenses. The revised system of per month payment led to disincentive for prompt placement. It also created unnecessary monopolies.  Illinois’ performance contracting was highly successful in achieving permanency. It reduced time spent in FC, eliminated inefficient providers, and allowed more efforts in the hard to adopt children. It also raised competition between the public and private sectors.
  • 99. Privatization of Adoption: Lessons learned 99  All 3 privatization efforts still allowed large number of hard to place children to remain in FC.  The auctioning model a-la the ancient bride market in Greece assures market clearance. It is efficient in preventing shortage/excess children. It is claimed to be a slave market for kids; but the end result is preferred to the kids. It reduces gov’t involvement, simplifies the process by reducing the role of intermediaries, and generates resources for adoption of the difficult cases. Since all potential adopting parents are still screened, the quality of the adoption does not deteriorate.

Editor's Notes

  1. 1. Free transfer: to employees, the English Channel of hovercraft ferry to its managers by British Air. To the public, in Canada, British Columbia Resources Investment Corp was owned by a provincial government. All residents of the province got shares. Giving away to the public is a privatization strategy in Eastern Europe.