The failure of privatization.

THE FAILURE OF PRIVATIZATION 

RONALD REAGAN first tried selling federal assets to the private sector or to state governments in 1982. Dubbed "the NEw Federalism," its purpose was to save $9 billion over three years by shedding such Federal Government assets and services as surplus national forest land and weather satellites.

The program bombed. Massive bipartisan opposition in Congress, Fanned by interest groups who feared adverse consequences, prevented many of the sales, and those that did take place netted the government less than $500 million. The idea, known as "privatization," was shelved indefinitely.

Now it is making a comeback. Under pressure to avoid the indiscriminate federal budget cuts mandated by Gramm-Rudman, the Reagan Administration has included a substantial amount of privatization in its new budget.

Privatization is the opposite of nationalization; it seeks to return to the private sector operations previously performed by the state. In moving toward it, the Reagan Administration is riding the crest of a worldwide intellectual wave.

Almost exactly forty years ago, the postwar British Labour government was nationalizing practically all major British industries. The theory was that government workers would be happier and more productive than those slaving under rapacious capitalists.

That didn't happen. Brought to power by a wave of public-employee strikes and labor disruptions in 1979, Prime Minister Margaret Thatcher began privatization program has been astonishingly successful, spreading to countries as diverse as Portugal, India, and even Castro's Cuba, where people are being allowed to own their own homes for the first time since the Communists came to power in 1959.

The latest Reagan budget, made public on February 5, calls for the sale of the Federal Government's five Power Marketing Administrations (which sell, at below market price, electricity generated by federally owned dams); the Naval Petroleum Reserve in California; the Federal Housing Administration; federal loans to homeowners, farmers, and students; weather satellites; and other programs.

Some of this has borne fruit. Administration plans to sell National and Dulles Airports, the only airports in the United States owned by Uncle Sam, are finally making progress. In the House-passed version of the 1987 budget, Democrats have agreed to sell off many federal loan programs to private banks and collection agencies. The Administration is also considering privatizing the government's uranium processing plants, which operate at a loss. Last week the House voted to sell public-housing units to families that now rent them. But for the most part, privatization languishes. The problem is strategic.

Generating Support

USING Gramm-Rudman as the rationale for the major push in the direction of privatization, as the Administration is doing, may be a costly mistake. Looking thorugh the budget proposals, and talking with Administration officials, one senses that the White House has not learned why its first stab at privatization failed.

"It's a step in the right direction, certainly," says Stuart Butler, the Heritage Foundation's privatization expert. "But if you're asking do they have a coherent plan for how they are going to carry it out, I don't think so."

To be successful, privatization needs public support, and only the President can generate it. Reagan did not mention the idea in his State of the Union address, sending privatization out into the public arena stark naked, so to speak, lost in the cold language of the federal budget.

Administration officials were so upset by the reaction from Republican Western senators that they seriously considered killing the idea of selling the Bonneville Power Administration.

"The first thing you have to remember is that privatization is primarily a political, rather than an economic, issue," says Madsen Pirie, president of the London-based Adam Smith Institute and the prime mover behind the privatization effort in Britain. "If you allow deficit reduction, rather than government reduction on general principles, to become your motivating factor, the effort will fail."

Pirie likens the transfer of a public-sector enterprise to the private sector to the disarming of an unexploded bomb: If not done with the greatest skill and care, it will go off in your face. And since no two bombs are ever exactly the same, each individual case must be studied on its own merits and a separate plan of action drafted for each. It is by no means clear that the Reagan Administration recognizes this fact.

"How you do it is every bit as important as simply making the decision to do it," Pirie adds. "Ignore this simple advice, and even the most sensible plan will remain forever on the drawing board."

When dismantling a bomb, it is necessary to identify and neutralize the vrious detonators. For privatization, Pirie identifies four main ones: the public at large, management, the work force, and legislators. The object is to fashion a package that these groups see as being in their interest, so that they are lobbying for privatization, rather than against it.

All of the detnoators went off in the sale of Conrail--the perfect example of how not to privatize. The sale remains bogged down in Congress nearly four anda half years after it ws first proposed.

Congress nationalized the rail freight system of teh Northeast in 1973, following the Penn Central bankruptcy. After suffering more than $3 billion in losses in less than a decade, Congress in 1981 authorized Conrail's return to the private sector.

Officials in the Administration could have seized on this as a heaven-sent opportunity to prove the usefulness of privatization. But blinkered by the traditional Republican green-eyeshade mentality, they lacked the boldness to pursue a radical line of thinking.

Instead of seeking innovative ways to privatie that might catch the attention and support of the public, Congress and the Department of Transportation worked quietly, imposing so many conditions and restrictions on the sale that only a handful of companies were qualifiedto buy Conrail.

Few would argue that the successful bidder, Norfolk Souther, is incapable of running Conrail. It is a large, well-established company with a long and successful record in the railroad business, which has pledged to maintain Conrail's level of service substantially where it is now. But that very success helped trip one of the detonators.

Meeting the Resistance

CONRAIL'S competitors, fearing they could not compete with the huge new railroad, which would have been the largest in the Western world, have thrown their weight against the sale in its current form.

"We are for the sale of Conrail, but not the way the Administration is doing it," said a lobbyist for CSX, a railroad that competes with Conrail. "If a private company the size of Conrail were to merge with Norfolk Southern, it would never get past the anti-trust and anti-competitive tests that a merger of that size would normally have to go through. We favor a free-enterprise, public offering of stock. If that had been done, we wouldn't have cared."

Transportation Secretary Elizabeth Dole has also been getting resistance from Conrail president L. Stanley Crane, the man widely credited with turning Conrail from a sinkhole of taxpayers' money into a well-run corporation. Bringing existing management into the operation is essential to privatization.

The unions that represent Conrail's employees are actually being asked to give up the 15 per cent share of the company's stock they were given when the Federal Government took over. Shippers meanwhile fear their rates will go up and have seconded the other objections. Result: the sale faces a tough road ahead in the House.

The best way to generate public support, both for the sale of Conrail and for privatization in general, would have been through a public stock offering that spread the benefits rather than the pain. This possibility was studied extensively and then rejected by the Department of Transportation.

The department argued that it would be difficult to know at what price to sell the stock, so it could not guarantee the sale of all of the shares. An undercapitalized Conrail could fall back into the government's lap; a less than complete sale could leave the government a minority shareholder. A public sale would take too long to organize. Finally, it would be difficult to force Conrail to continue operating at its present level of service with so many shareholders.

Such reasoning loses sight of the essence of privatization: the primary object must be to remove the enterprise from state control. Deficit reduction is secondary. Over the long run, this will lead to a reduction in the deficit as the government spends less money on such enterprises, but the returns may not be felt immediately.

If one keeps that goal in mind, then the objections to the public sale of Conrail fall away. Public shares could be sold for a few dollars--no more--and made available in banks and post offices; under Crane's management, Conrail is now a profitable company that shouldn't have any trouble raising capital. A low price ensures a sellout, and any remaining stock could simply be given to employees or customers. As for its taking too long to organize, the "short-cut" method has already taken nearly five years. Ironically, it may be House Democrats such as Energy and Commerce Committee chairman John Dingell (d., Mich.) who may push through the public sale of Conrail.

If accompanied by the right advertising campaign, encouraging people to buy who have never bought stock before, there is no reason why the American experience should be any different from that of Britain when British TElecom went on the market in 1984. Proper, bowler-hatted British businessmen nearly came to blows in the streets to buy shares in an organization whose major distinction up to that time had been slow and poor service.

Involving the Public

THE PRIVATIZATION proposals contained in the Reagan Administration's 1987 budget show few signs of having learned the lessons of Conrail. The Administration offers many reasons why the government ought to get out of the electricity or railroad business, but no concrete plans on how to do it. This leaves the field wide open for the affected interests to organize against privatization ("Over my dead body," was Oregon GOP Senator Mark Hatfield's cheery reaction to the idea of selling the Bonneville Power Administration).

There are almost as many ways of privatizing an enterprise as there are potential candidates for privatization. Those interested are advised to consult Madsen Pirie's Dismantling the State: The Theory and Practice of Privatization (National Center for Policy Analysis, Dallas).

Pirie presents his arguments in a hierarchical manner, which can be summarized: If you can sell it, sell it; if you can't sell all of it, sell a part; if you can't sell any of it, give it away; if you can't give it away, contract it out; and so on. There is scarcely a program in government that cannot be slotted into one of the 22 different ways of privatization Pirie identifies.

Offering stock in the new company is one of the most attractive ways of gaining the cooperation of both workers and customers. Giving customers a discounted service in exchange for purchasing stock entices them to buy. Keeping the existing managers in place gives them an incentive to support privatization, since they stand to make much more money as executives of a private corporation than running a Quango--a quasi-independent government-owned enterprise.

Offering a stock option might defuse the mounting opposition to the sale of the Power Marketing Administrations, especially the Bonneville Power Administration. Aluminum companies now gearing up for a major effort against any sale could be offered substantial ownership in the new company; they could then sell the power to themselves as cheaply as they could make possible.

The National Weather Service and its satellites could be sold to the thousands of newspapers and radio and television stations that make liberal use of it every day.

These or other proposals are to be found nowhere in the Reagan budget. Instead, the Administration talks of soliciting bids; big New York investment bankers such as Felix Rohatyn have expressed great interest in the privatization program.

Bringing big financiers into the process sounds like a tempting quick sale, but that strategy ignores the political dimension. If people perceive the Reagan Administration--which has always had an image problem as a "rich people's club"--as selling off government functions to Wall Street at the expense of Main Street, a political backlash against the whole idea of privatization is inevitable.

In short, the more populist the program, the more concern it displays for the interests of workers, customers, and the general public, the more popular it will be.

Unusual coalitions can be built in support of privatization once the benefits of cheaper and better service are made clear. Fred Smith, president of the Competitive Enterprise Institute in Washington, specializes in bringing together groups who otherwise would have little in common, to support privatization. "We're getting airlines and frequent business flyers together to support privatization of air-traffic control, for instance, in the interest of lower fares."

Smith is also working closely with the National Wildlife Federation to privatize the Power Marketing Administrations.

"When natural resources are under-priced, they tend to be overused," says Edward Osann, director of Water Resources at the National Wildlife Federation. "There is absolutely no public purpose served by federally subsidized water and electric power."

If all this sounds very pragmatic, it is. After four years of determined trying, David Stockman concluded that he ws butting his head against a wall trying to cut the budget the conventional way. Conventions must be abandoned: An aggressive program of privatization is the only realistic way to reduce the size of government, and it must be pursued with that end in mind. The Administration badly needs a "privatization czar" to coordinate its efforts and to appear before congressional committees and the press to answer all privatization-related questions. Right now, responsibility for privatization rests with bureaucrats within the affected agencies, many of whom have little incentive to promote the idea.

Uppermost in the thought of policy-makers must be the politics of privatization. The Reagan Administration appears to be heading down the path that led to a dead end four years ago. The time is short.