By Kriti Upadhyaya —
Status: Not Started — Prime Minister Narendra Modi came to power in 2014 vowing a robust disinvestment and outright privatization program for government-owned public sector undertakings (PSUs). However, despite the commitment, the Modi government has not performed a single privatization throughout his two terms. In all the cases post-disinvestment the government has continued to retain a majority stake in the entity. Disinvestment means the withdrawal or reduction of an investment. Privatization occurs when a government-owned business, operation, or property becomes owned by a private, non-government party.
High Difficulty: With Opposition — Opposition comes from labor and trade unions. Government has been fearful of backlash as it risks losing employment creation. It also does not want to let go of the regular revenue stream that central public sector enterprises (CPSEs) provide through dividends. Nationalist elements also oppose, including the Swadeshi Jagran Manch. They fear privatization, especially through foreign players, can lead to loss of national prestige.
This is the twenty-fourth installment in a new series of articles on the India Reforms Scorecard: 2019-2024 by the staff and experts at the Wadhwani Chair in U.S.-India Policy Studies. The series seeks to provide analysis on why reforms marked as “Incomplete” or “In Progress” have not been completed, and the impact such reforms can have on specific sectors or the economy at large.
Comparative advantage is a powerful economic principle. It suggests that the most efficient producers must produce and at the least opportunity cost. Prime Minister Narendra Modi understood this well when he remarked that it is not the government’s business to run a business. Privatization will not only bring a competitive edge to CPSEs, but also create more fiscal space for the government.
Where is the edge?
The government has been supporting CPSEs, creating market distortions and imperfect competition. The insurance industry is a case in point. Last month, three CPSE insurers got capital infusions – a generosity the government would not bestow on private insurers. Not to forget CPSE insurers’ insurance policy comes backed with a sovereign guarantee. Today, Air India’s dismal situation on account of recurring losses is a testament to how bad decisions emanate when the government runs business. These government crutches have created inefficient CPSEs.
Privatization can end these kinds of preferential treatments being met out to PSUs while also making them more market efficient. The Economic Survey 2019 (ES19) undertook a difference in differences analysis of 11 companies spanning 10 years pre- and post-strategic privatization. The findings show marked improvement in financial indicators suggesting greater efficiency:
Further, markets also agree that private industry fares better than CPSEs. Between March 2017-18, the market cap of CPSEs as a percent of the Bombay Stock Exchange’s (BSE) market capitalization decreased from 12.50 to 10.70 percent. ES19’s comparison of BSE Indices shows that CPSEs have the smallest market cap and underperform the market with average returns of only four percent of BSE CPSE Index as opposed to 38 percent return of BSE SENSEX.
Creating Fiscal Space
The government is currently missing its disinvestment targets which impacts the government’s overall fiscal situation. The fiscal deficit target for the current year was revised to 3.8 percent of gross domestic product (GDP) from an ambitious 3.3 percent, but some believe that the deficit will breach above four percent of GDP. The Modi government had an ambitious disinvestment target at about $14 billion for 2019-20. As of March 4, 2020, it has raised a paltry $ 4.7 billion. Most likely the government will miss its disinvestment target, and this would be a first miss for the National Democratic Alliance. Failure to meet disinvestment targets will surely widen the fiscal deficit above four percent. It will also add to next fiscal year worries and national debt, where again the government has set very ambitious targets with a narrower fiscal deficit at 3.5 percent, and almost double the present year’s disinvestment target. Diluting government equity and raising funds is necessary not only for maintaining fiscal discipline but also ensuring the government can utilize the money raised for infrastructure development activity, especially given the slowdown and falling revenue receipts.
The government needs to show more vision and commitment towards privatization – a 10-year plan would be helpful. The governor of the Reserve Bank of India, Shaktikanta Das, has said that it is easier to sell profitable PSUs. The government should quickly do the same before profitable CPSEs become loss-making.
NITI AYOG and DIPAM have already produced lists of CPSEs for disinvestment. In addition, the Union Cabinet has approved disinvestment of more than two dozen CPSEs. With sufficient political will these can be a good place to begin a serious privatization drive. For distressed CPSEs, the government should consider mergers or acquisitions by private firms, including foreign players who have interest and expertise in same – to salvage value. If nothing is left to salvage, the government can liquidate as a last resort. The goal should be that after 10 years, the government confines its presence only to industries of high national security like nuclear, space, and some areas of defense.
The Modi government needs to stay true to its motto of “minimum government and maximum governance.” This means embracing privatization through a long-term plan — freeing up capital and boosting confidence of private firms that compete against CPSEs in an often-unfair business environment.