სამშაბათი, სექტემბერი 17, 2019
   
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The Effects of Privatization by Bretton Wood Institutions in Developing Countries

The Effects of Privatization by Bretton Wood Institutions in Developing Countries

Author: Nodar Pkhaladze

The World Bank and the International Monetary Fund are the two strongest institutions in the sphere of global trade and finance. Together, those two organs represent the Bretton Wood system. Bretton Woods was founded in 1944, with the mission to help rebuild the damaged economy of European countries after the WWII and to promote international economic cooperation. Since the creation they have been supporting developing countries in the world by providing aid. In exchange for their aid, the developing countries are usually required to complete a concrete set of criteria. These criteria are called "SAP", which stands for Structural Adjustment Programs. One of the components of this vast package is the privatisation of state-owned enterprises.

The process of privatization can be one of those many steps that should help the developing country to successfully transform into a successful economy. The problem is, that those processes not always result in success. One of the main criticisms of the Bretton Wood Institutions is the belief that they are, in reality, destabilizing the economies of states that are undergoing the transitional period. The purpose of this paper will be to look into those problems by arguing whether or not the process of privatization harms those countries. For this reason the paper will look into two separate cases, where the process of privatization was a failure (case of Guinea) and where it was a success (case of Czech Republic). As for the theory, the events will be analysed by the perspective of Friedrich List.

The first case that the paper will focus on is Guinea, which is deemed to be one of the poorest countries in Africa, as well as one of the poorest countries in the world. The research conducted by John Nellis, looks into the development of Guinea and its attempt at privatisation, looking at the procedures and highlighting the flaws. As with many other country, once gaining its independence, Guinea's state was in possession of many sectors. The paper focuses primarily on one of the resources: water. It would seem that the issue of supplying water through pipelines was a major problem both before as well as after privatization. As described in the document, by 1989 only 38% of the local population had access to water pipes. Not only was this a big issue for those living in rural areas (as they had practically no access to it), but even those with the access to it did not have a proper service.

First of all, the supply was not unlimited, as there were frequent interruptions. Secondly, the water flowing through pipes was not sanitary and filled with waterborne diseases, which were source for epidemics and child mortality. As such it was obvious that the water supply system needed serious revision and maintenance. As it would seem the state was not able to provide those necessary steps. In such cases, it is usually private companies that are supposed to be put in charge of. As such the Guinean government found such a private company that would enable unlimited supply of water in capital, as well as other peripheries. Given its assistance by the World Bank, the local government signed the contract in 1989, putting the private firm in responsible for operations and maintenance, while the government remained the one setting tariffs. According to the contract the price of water had to double. Before the private company would take the price for water was   US$0.12 per cubic meter (used to be 0.02$ before 1986). Considering all the above-mentioned conditions and issues with water, it was considerably low. The current tariff was not enough to cover the costs for the operation system though. That's why the World Bank decided to provide Guinea with enough credit to fill the gap and act as a start-up that would not be needed in the future years.

From the day the agreement was signed till 1996, the changes were quite evident. The   number of connections has nearly doubled (increase from 1200 to 2300). The percentage of customers skyrocketed from 5 to 93%. "The percentage of the population with access to water rose from 38 to 47%". The most important change, however, was the fact that the water was no longer dangerous for consumption, as the quality has been improved. To summarize the private company managed to increase the coverage of the pipelines in Guinea, but also made sure the supply would not systematically cut off and that the water itself would be of much better quality. As a result the number of customers increased as the demand has risen. It seemed that all the issues that existed before 1989, have been dealt with. Or at least so it was thought.

With all the positive changes and improvements, there was another major change: it was the price. As mentioned before, after signing the contract, the price for the water supply for one cubic meter became 0.24 USD, which was a significant change, though reasonable considering the improvements. However in 1997 the price for 1m 3 became 0.83, which is four times larger amount than what it used to be. Even though similar processes were 'typical' for the developing African countries, the amount was still very high compared to other countries. Eventually, there were less and less people who could afford to pay for the water tariff. Not, only that, but unlike the majority of privatization contracts, the one that the Guinean government has signed, did not "place investment responsibility in private hands", and as a result, there was no plan on expanding and providing further supply routes.

Last, but not least, it turned out that there was a high amount of water that was unaccounted (40%). This meant that there was a significant loss of water, which was not addressed as an issue. Normally, in this situation the prices of water should have decreased, however, because of the fact that the government technically remained still in charge of the water supply, the private company did not wish to take any serious steps in coping with those issues. On the contrary, the private company decided to use this opportunity and increase the price for the water, by persuading the government. And since the private company was only responsible for technical issues, rather than planning and major decisions, it felt itself "safeguarded" and free to negotiate suitable programs with government, being free of major responsibility.

To summarise the situation, it would be safe to say that the issue of water supply remained still highly problematic for the population, regardless if it was under the public or private sector. While before the 1989 agreement, the scarce amount of water was affordable in financial sense, the quality and performance factors were keeping it unusable by the population. After 1997, the radical opposite reality took place: the water was in far better condition, and its coverage was relatively wider, it turned out to be unaffordable by the majority of population, because of high costs. What's even worse, is the fact that the World Bank practically allowed for an agreement that theoretically managed to privatise the water supply system, but technically speaking helped the government and private sector to form a deal. This undermined the proper process of privatization and arguably, made the situation equally bad for the local population.

After examining the negative case of privatization in Africa, it is time to look into the successful case of Czech Republic. After the collapse of the USSR, most countries of the former Soviet bloc had to start their economies from zero. However, each of they had a different approach when it came to reforms, therefore there were various results. Czech Republic, alongside with Poland and Hungary were the main flagmen of change and carrying out reforms in the region. They had also one significant advantage: their economies had a relatively strong starting base. Privatization, in the post-Soviet space was not merely an economic transformation, but a significant political one, shifting the country more towards the liberal/capitalist world.

The privatization process that took place in the Central and East European countries was often refer by the west as a "shock therapy". This was essentially the rapid privatisation of sectors, which could be divided into two parts: small enterprises (shops, restaurants, hotels) and large ones (large companies, energy sectors, agriculture, industry). While both of them played a significant role in transformation of Czech economy, the privatization of bigger enterprises had far larger impact. There were two main waves of privatization. During the first one, the state-owned enterprises were given to local citizen-investors. Adult citizens were eligible to bid companies using special voucher coupons. The program which began in late 1990, allowed for transfer of shares to every adult citizen, who was in possession of a certain voucher. Each of these voucher booklets had a sum of "1000 points" at maximum to invest, which at that time was equal to 1000 crowns.

As a result around 75% of Czech citizens participated in that program. The main idea was to transfer the ownership of assets to citizen-investors, which would require only minimal payment. The highest number of privatized assets were from banking and industrial sectors such as "electric power, iron and steel, metallurgy, chemicals,  pulp and paper, and clothing". Additionally the fact that the assets would be owned by individual citizens, rather than private companies made the whole process quite innovative and democratic, even though many neighbouring countries did view it as extreme form of reformation. The second instance of this project was implementation of took place in 1994. This time it was larger firms that in most cases, countries would be preferable to have remained under state control. For that very reason, there was a smaller amount of shares prepare for auction. The sectors in question were primarily the energy one, water firms to be precise

As a result the process of privatization was arguably quite successful. The Czech government played a big role in this process, by not only supporting the idea of privatization, but also increasing the speed of the whole process. It still had quite a significant "bargaining chip" over funds. It ensured that while there would be a large number of firm assets available to the citizens, there would be efficient return of funds. Though for many neighbouring countries (such as Poland) the rapid transformation and privatisation of sectors to the local citizen-investors seemed extreme and dangerous.

The West viewed that such policies would lead the country's economy towards imminent failure. The first issue was that such a rapid transformation for a formerly socialist country would result in not proper process of privatization, which could destroy the economy and spread chaos in system. This fear was also augmented by the fact that the one controlling those state-owned assets and enterprises would be not large private companies, but rather local investors. The biggest opponent of this idea was the World Bank, which together with the IMF, is usually the organization that supports the privatization in developing countries and even provides aid in exchange for specific policies. Technically speaking, they were the ones that provided many Central and East European countries with specific strategies that would transform systems of countries from command economy models, towards the market economy ones. Therefore the World Bank viewed the strategy of the Czech Republic not only risky, but also rushed. Despite that, the Czech government took this gamble and decided to simply transfer the majority of its enterprises and allow the economy and its citizens to take care of it.

To compare those two cases, it would seem that the privatisation process had very different effects. The case of Guinea showed that the privatization of water supply was supposed to be the only possible way to solve the presented issue, as the governments itself was unable to solve this problem. There were several reasons why the process resulted in failure. First of all the contract established between the government and the private company has several loopholes that ultimately allowed the state to practically 'stay in charge'. This hindered the potential improvement and completion of the project. Most importantly the obvious error in the plan was not given a proper evaluation, but ignored instead by the World Bank, who supported the process. The second issue was the sharp rise in prices and the way the private firm exploited the above-mentioned loopholes to increase tariffs, while at the same time shielding itself from responsibilities.

One the other side, we have radically different case of Czech Republic. The Czech Government, unlike the Guinean, turned out to be quite ready for the reform and even exceeded expectations. While the World Bank and other European countries in the region saw the process of rapid privatization highly hazardous and practically impossible, the results came the opposite. Also the government was willing to reduce the involvement of state in enterprises as much as possible, as opposed to the first case, where the government remained still in charge. Additionally, the main recipient of the state enterprise were the local citizens themselves as opposed to a local company, which made sure that no drastic, damaging actions could take place. Applying Friedrich List's ideas, we can definitely say that using the same plan for privatization can yield different results under different circumstances. Apart from that, it clearly shows that the country itself should be ready to conduct reforms and face challenges of capitalism, not to mention that it should have a strong political will above all to carry out the reforms fully.

After looking into those two cases, it becomes clear that the effects of privatization could bring success as well as misery to country's economy. It would not be correct to say that the IMF and World Bank are directly responsible for failure or success of state economies, as it is up to states to execute them correctly. Though should be in the interests of Bretton Woods to ensure that the state is willing to carry out reforms and would not exploit loopholes in the agreement. Apart from that, as argued by List, the same strategy cannot be applied in different cases, just because it proved to be successful. After all, different countries go through different stages of development. Because of those factors, such important development programs as privatization should be carried out with precaution as leaving it unmonitored might lead to unintended negative results.


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