Monday, July 27, 2015

Privatisation and political incentives

The theory behind privatising government services is that private providers will perform better than government ones because they have better incentives to do so. On the positive side, more efficient service delivery will result in higher profits. And on the negative side, there's the threat of losing the contract and going out of business if a private provider fails to meet expectations. Which sounds great in theory to ivory-tower economists, but in practice, it turns out a little differently:

Education Minister Hekia Parata says she has given Te Pumanawa o te Wairua in Northland a chance to continue operating because of her concerns about finding other educational opportunities for its students.

Her decision follows a special audit of the Whangaruru school which raised issues about its financial performance, administration and governance.

Ms Parata says the audit findings provided grounds to terminate the partnership agreement with the school, but she has opted not to do so because of her concerns about the school’s students.

And its a similar story with Serco, who will have the management of Mt Eden temporarily taken off them and penalised under their contract - but won't have their contract stripped, despite clear evidence of breach and fraud. And the reason in both cases is because the incentives on the other party to the contract - the Ministers - are not to admit failure. Which means they will bend over backwards not to cancel contracts or punish providers, no matter how poorly the latter perform. Which in turn removes any incentive for better performance, and instead turns this sort of privatisation into a giant scam for rent-seeking and guaranteed profits from the public purse.

As for why Ministers do this, clearly it is because their boss, the Prime Minister, fails to punish them if they do. Which is a similar tale of poor incentives: sacking a Minister, even for obvious failure, would involve the PM tacitly admitting failures in selection and oversight, so it doesn't happen either. The only way it does happen is if there is a credible threat from the public to punish incompetence, and a credible opposition waiting in the wings threatening to be an alternative government. Absent that, we get poor governance and muppetry all the way down.