Saíd El-Naggar
Published Date:
June 1989
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Hazem El-Beblawi

Mr. Gill’;s paper deals with two fashionable issues, privatization and financial markets. Each concept is a major topic in its own right in the current debate on economic development.

The paper implicitly assumes that “privatization” is the accepted doctrine for economic and social development both in developed and developing countries. “That many socialist countries are also moving in varying degrees toward privatization of management or ownership speaks to this point,” affirms the author. A more qualified opinion would, I believe, better reflect the state of the art.

The paper investigates the relationships between privatization and financial development and particularly equity market development. Interrelations are two-way roads, that is, the existence of developed financial markets is a precondition for a successful privatization effort as much as privatization is an effective stimulus to development of financial markets. The paper focuses, however, on the first aspect and touches only incidentally on the second.

As for privatization, Mr. Gill rightly affirms that the idea is far from new. For centuries countries were encouraging the private sector, then came nationalization or public sector, and now privatization again.

If we limit ourselves to developing countries, it is worth remembering that the dominant view in development in the 1950s and 1960s was that markets frequently failed to work efficiently in these countries. Only a few economists, such as Peter Bauer, could voice a dissident view. The majority of economists and international aid agencies actively promoted interventionist policies. Technical assistance was directed to strengthening government planning bodies, and public funds were mainly channeled to finance public sector investments.

Public sector ownership is not necessarily the solution to market failures. The experience of public sector performance in the 1960s and 1970s has been highly disappointing. It became clear that the public sector’;s shortcomings could be more serious and damaging to economic development than the market’;s failure. It remains true, however, that the public sector’;s poor performance should not conceal the market’;s own limitation. “Privatization” is no more a panacea for public sector ills than public sector intervention was for the market’;s shortcomings. The excesses of the public sector should no doubt be remedied, and measures taken to improve efficiency both in the public and the private sector. This should proceed on a case-by-case basis, and no general rules can be accepted. Privatization is not a new dogma and can succeed only if introduced pragmatically.

Rather than dismembering the state, privatization is intended to revitalize it as well as to rehabilitate the price mechanism. In fact, what the state acquired in volume with increased ownership of the public sector was lost in effectiveness. Increasing interventionism led to obesity and ineffectually of the state. A small government and a slim public sector are not always signs of a weak state but more often mean a stronger state. It follows therefore that a thorough program for privatization should be carefully drawn up, taking into consideration the stage of economic development, the maturity of the private sector, the availability of entrepreneurships, the quality and motivation of civil servants and bureaucracy, and so on. It would be a pity if privatization in the 1980s was only one episode in a merry-go-round of private—public—private …, and so on—indefinitely. Privatization is part of a wider concept, that is, the rehabilitation of proper economic indicators. Without promoting competition in the meantime, the private sector could be as inefficient as the public sector.

After defining in the introduction the meaning of privatization and the general trend recorded in many countries in its favor, the author emphasizes in the second section of the paper the role of financial markets in economic and social development in general and in the success of the privatization process in particular. In this regard, he points out two major criteria for a sound financial system: efficiency in mobilizing and allocating savings on the one hand and shareholder democracy on the other. These double criteria are not unrelated to the efficiency-equity criteria much discussed in welfare literature, though there is no necessary trade-off between them.

While the author defines what he means by efficient allocation of savings and shareholder democracy, there is very little in the paper about the ways and means of attaining such objectives. Only in the conclusion does he refer to specific measures to enhance efficiency and democracy through greater transparency in companies’; accounts, enforcement of investor protection legislation, modernization of market infrastructure, etc.

The third section of the paper presents some country comparisons. Though the author recognizes that the comparisons used are far from precise and that “other important factors have just as important a bearing on economic growth,” he draws some interesting conclusions. His first conclusion is that there is a correlation between countries with strong equity markets and countries that privatized their economy. This seems to me, however, more of a tautology than a real conclusion. With a larger private sector shareholding (privatization), the equity market should, by definition, be greater and stronger.

Also, if one agrees with him that “the size of the equity market is a good, if not perfect, proxy for the degree of private ownership,” it is far from evident that the same is also a proxy for “competitive efficiency and shareholder democracy.” A larger private sector can very well be—and often is—concentrated and monopolistic or oligarchic. The author seizes this opportunity, however, to refer to various specific measures taken by governments to enhance shareholder democracy during the privatization process, such as preferences granted to employees to buy shares in their privatized companies.

The author points out a very important feature of recent privatization, that is, the internationalization of financial markets. The internationalization of financial markets opens up new opportunities for better allocation and mobilization of resources. It is well known that the role of a financial system is to link savers and investors while providing the economies intermediation, that is, assuring optimum maturity transformation, pooling risks for savers, and reducing costs for investors. By adding international dimension to financial markets, savers’; and investors’; horizons widen to include foreign as well as local markets. With the internationalization of financial markets, external savings become available to finance domestic investments, and foreign opportunities will be open to domestic savers. The transnationality of financial markets can be of particular interest to the Arab region, which comprises both deficit and surplus countries. An arabized financial market—an old dream—can help channel funds from countries with excess savings to those short of domestic savings (financial integration). There is no doubt that privatization and the subsequent development of financial markets can be instrumental in encouraging inter-Arab investment and the eventual establishment of a trans-Arab financial market.

The final section of the paper surveys equity markets in the Arab countries. Though mainly descriptive, the author nevertheless takes the opportunity to pinpoint some arguments in favor of privatization in the region. First, privatization is an expedient to ease existing budgetary constraints. It is, however, a one-shot injection of budget revenues, unless the valuation of assets privatized is properly estimated (as it should be) to cover the discounted future income from assets. Second, privatization would introduce a more efficient environment by shifting the emphasis “from the protection of enterprises to the protection of investors.” Excessive protection is, in fact, a major impediment to efficiency in most public sector enterprises. It is believed that privatization will diminish the political pressure for unwarranted protection.

The concluding paragraph sums up the author’;s position: that financial development is crucial to economic and social development and that both privatization and financial markets are mutually supportive. Few would disagree with such a general conclusion. It remains true, however, that such a short time and space cannot do justice to this wide topic or rather two topics. Mr. Gill ably succeeded in giving us a thoughtful paper and a very informative survey.

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