Infrastructure Privatisation: Oversold, Misunderstood and Inappropriate

Development Policy Review, 2011, 29 (1): 47-74

© The Author 2011. Development Policy Review © 2011 Overseas Development Institute.

Published by Blackwell Publishing, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA 02148, USA.

Infrastructure Privatisation: Oversold, Misunderstood and Inappropriate

Jeff Tan∗ Infrastructure privatisation aimed to finance capital investment and improve efficiency, but the results have been disappointing because of the mismatch between privatisation theory and the characteristics of infrastructure and utility projects in developing countries. This article reviews the evidence and seeks to explain the results in terms of the high capital costs and low revenues that have necessitated public financing and risk-sharing, diluting private incentives and requiring regulation. However, it argues that the emphasis on strengthening weak regulatory capacities in poor countries is misplaced, because these are the outcome of the development process, and are constrained by technical capacities, informational problems and the resources available. In this context, infrastructure privatisation is argued to be inappropriate for developing countries. Key words: Infrastructure, privatisation, regulation, water, sanitation, rail, electricity, developing countries, institutions

1 Introduction Infrastructure privatisation has had mixed results across sectors and countries. While some sectors (in particular, telecoms) and countries (mainly higher-income) have been more successful, privatisation as a whole has not significantly financed capital investment nor improved efficiency in the provision of infrastructure in three main sectors – water and sanitation services (WSS), transport and energy. However, the underlying causes of this continue to be misunderstood, with explanations focusing on weak institutions in developing countries simply diverting attention from fundamental theoretical problems, namely, a mismatch between privatisation theory and the characteristics of infrastructure and utility projects. The benefits of privatisation are premised on risk-bearing (associated with ownership structures) and competition (arising from greater private entry into the market) providing incentives for efficiency. This means that the discussion of infrastructure privatisation includes both arguments for divestiture (as this relates to ownership) and private-sector participation (PSP) (which is necessary for competition).

∗Aga Khan University Institute for the Study of Muslim Civilisations, 210 Euston Road, London NW1 2DA ([email protected]). The author would like to thank Damian Tobin for useful suggestions on an earlier draft and an anonymous referee for helpful comments.

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Development Policy Review 29 (1)

While ownership and competition are conceptually distinct, infrastructure privatisation has become largely synonymous with private participation in infrastructure (PPI) which includes divestiture and various forms of PSP, in particular concessions. This is in part related to the characteristics of infrastructure investment, namely, very high capital costs and long gestation periods, along with the inability to implement tariff levels that can cover costs and earn the desired rate of return. This makes infrastructure projects risky, unprofitable and hence unattractive to private investors in the absence of public subsidies. As a result, infrastructure privatisation has increasingly involved some form of public financing through public-private partnerships (PPP) (see, for example, Pongsiri, 2001). Public financing, however, entails the sharing of risks, while the monopoly features of public infrastructure reduce competitive pressures. Both these dilute private incentives (regardless of ownership structure), and efficiency gains will then depend on the quality of regulation to ensure that costs are reduced and cost savings shared equitably between the private operator and the consumer.

An emerging explanation for this disappointing performance has thus focused on the importance of institutional and regulatory design, particularly where monopolies are involved. Infrastructure privatisation is argued to have been ‘oversold and misunderstood’ (see Kessides, 2005) and there has been a growing awareness of institutional prerequisites for successful privatisation. This discussion has evolved from early ‘one-size-fits-all’ institutional solutions to the difficulties in transferring institutions from advanced to developing countries. Nonetheless, institutional explanations remain largely disconnected from the broader process of institutional development and crucially do not address the problems of high cost and inadequate revenue that characterise infrastructure provision in developing countries. Moreover, the historical evidence suggests that privatisation was, by and large, introduced after basic public investments in infrastructure networks were already in place, and which were undertaken in response to the problems of fragmented, piecemeal and localised systems associated with the early private provision of infrastructure. Promoting privatisation to accelerate investment is thus potentially problematic and has, at best, led to highly selective investments in lucrative sectors, segments and countries. Here the failure of public infrastructure delivery in developing countries reflects a wider failure of development rather than the failure of institutions as such.

A central conclusion of this article is that the underlying theoretical problems of privatisation, along with informational and regulatory constraints, make infrastructure privatisation an inappropriate model for developing countries. Instead, the development of infrastructure needs to be undertaken by the public sector, as has historically been the case in most industrialised countries. The article will begin by looking at privatisation theory and the theoretical problems of PPI. The inappropriateness of privatisation as a model for infrastructure development is supported by the evidence on private investment and efficiency globally and across the three sectors investigated here – WSS, transport (rail) and energy (electricity). This is followed by a discussion of institutional solutions and a concluding section.

Infrastructure Privatisation: Oversold, Misunderstood and Inappropriate 49



2 Privatisation theory The case for privatisation rests on principal-agent, property-rights and public-choice theories. According to principal-agent theory, public enterprises are characterised by problems where the ultimate principal (the owner or taxpayer) elects the government (as agent) to manage them. The government in turn has to contract managers (as agents) but is unable to provide the appropriate incentives to the agent to exert effort in monitoring the performance of employees (workers). Privatisation, by clearly designating property rights, reduces the chain of command between principal and agent and also provides owners with incentives to monitor the performance of managers. Managers can, for example, be disciplined by capital-market pressures and the market for managers.

The issue of incentives lies at the heart of privatisation and is the main focus of property-rights theory. The problem with public enterprises is that incentives for efficiency are weak because decision-makers are not rewarded for their efforts. By transferring residual control (decision rights) and thus residual returns (profit) to the private owner, clearly designated property rights provide incentives because the decision-maker bears the full risks of his or her choices, and receives the residual (profit). The benefits of privatisation thus centre on risk-bearing and the alignment of residual control with residual returns associated with private ownership. Privatisation also addresses the problems of soft budget constraints and the absence of bankruptcy as a credible threat under public ownership by transferring risks to the private owner.

Public-choice theory highlights the problems of political interventions in economic decisions that characterise public ownership. Privatisation is seen to drive a wedge between politicians and managers, thereby depoliticising firms and making it too costly for politicians to subsidise them (Boycko et al., 1996). This is not to say that governments do not intervene to bail out private firms. Rather, privatisation makes more credible the promise not to use public funds to subsidise losses by putting some distance between the government and the producer, and substantially increasing the transaction costs of such interventions (Sappington and Stiglitz, 1987; Stiglitz, 1996).

Privatisation emerged as a policy agenda in the early 1980s, following the election of conservative governments in the UK and the US, and was in part a reaction to the inefficiencies associated with state-led development. The performance of state-owned enterprises (SOEs) – many created to spearhead the industrialisation process – was seen to exacerbate balance-of-payments and debt problems in developing countries, and became the main target of the first wave of privatisations that followed. Despite this, it was generally accepted that the provision of essential services such as water, electricity and transport should remain in the public sector because they were natural monopolies and merit goods.

The expansion of privatisation into public services and, in particular, infrastructure in the 1990s coincided with developments in privatisation theory (see, for example, Kessides, 2005) and perceived opportunities by the private sector (multinational companies, financial institutions, consultants), supported by multilateral organisations and international development agencies (for example, the International Monetary Fund, the World Bank and the Asian Development Bank) (see World Bank, 1997). The case for infrastructure privatisation or more specifically PPI was based on the ‘increasing recognition that network utilities are not monolithic natural monopolies’, and when

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properly reorganised and restructured can be subject to substantial competition for many activities (Kessides, 2005: 84).

The benefits of privatisation in this case centre on competition – which is conceptually distinct from ownership – as the major driver for improved efficiency. Here, privatisation is no longer restricted to private ownership and includes various degrees of PSP, with PPI encompassing full and partial divestitures as well as service and management contracts, lease of assets and various types of concessions to build and operate infrastructure services. The type of PSP determines how much risk is transferred to the private sector. Full divestiture transfers all commercial risks, potentially offering the greatest incentives for efficiency improvements compared with service or management contracts where risk remains in the public sector. In the absence of risk-bearing, competition for contracts and concessions provides incentives for efficiency.

At the same time, the poor performance of state-owned infrastructure monopolies in many developing countries (low labour productivity, poor service quality and inadequate investment to keep up with the needs of growing populations) and state budget deficits necessitated new ways of financing infrastructure development. Poor public-sector performance was attributed to losses as a result of inefficiency and mispricing that compounded underinvestment. Inefficient (non-cost-reflective) pricing structures and poorly-targeted subsidies are seen to have benefited the middle classes rather than the poor, and distorted prices, imposing significant costs (Velez, 1996, cited in Estache, 2005; World Bank, 1994; Kessides, 2004). This undermined the financial viability of utilities, leading to chronic underinvestment and deterioration in service quality. At the beginning of the 1990s, public revenue on average covered only 60% of costs for electricity and 30% for water (World Bank, 1994). Mispricing and technical inefficiency in water, railroads, roads and electricity were estimated to cost developing countries around US$180 billion in annual losses by the early 1990s (ibid.).

The main argument for PPI is that incentives to maximise profits will drive down costs through improvements in efficiency. This will translate into improved service delivery and/or lower costs for all consumers, and enable the private owner/operator to invest in further improvements and expansion of services. Central to the incentive argument is the realignment of prices with underlying costs. Cost-covering tariffs are necessary for the private owner to capture the benefits from cost reductions in order to earn a return on capital and finance capital investment. If the private owner/operator cannot charge a user fee that reflects operating and capital costs plus a reasonable rate of return, there will be no incentive to improve or to invest. PPI thus rests on the introduction of cost-covering tariffs and promises to address the financing of public infrastructure through efficiency gains.




3 Privatisation problems

There are three problems with privatisation theory in relation to infrastructure provision. 3.1 Natural monopolies First, the relationship between residual control (decision rights) and residual returns (profit) is less straightforward when it comes to the natural monopolies that are a feature of public infrastructure. Public infrastructure associated with WSS, transport and energy typically has natural monopoly features in that scale economies make it too costly to duplicate networks (such as water pipes, rail tracks). This monopoly characteristic undermines arguments for private ownership because the incentives to innovate and improve efficiency to maximise profits depend on competition and not ownership structures.

A key feature of infrastructure privatisation has thus been the introduction of competition for the market through unbundling different (vertical) segments of the network, for example, by separating water storage from treatment and distribution; fixed assets (tracks, signals, etc.) from operations/maintenance (rolling stock); and generation from electricity transmission and distribution (see, for example, Estache, 2001; Kessides, 2005). However, competition for the market through auctions is limited by the number of bidders and market size in many developing countries, and the auction process is complex and demanding, with the government never really knowing the minimum possible project cost (see, for example, Benitez and Estache, 2005; Estache and Iimi, 2008; Estache, 2001; Ouedraogo, 2004, cited in Briceno-Garmendia et al., 2004; Kessides, 2005; Roland, 2008). Furthermore, unbundling will often be at the expense of vertical integration in terms of the loss of co-ordination and scope economies, and increased transaction costs, and can lead to system fragmentation and ‘cherry picking’ (or ‘cream skimming’), where more profitable utilities and sectors (for example, telecoms) or lucrative parts of a network are privatised, leaving less profitable companies, sectors and segments under public ownership (see, for example, Estache and Fay, 2007).

In the absence of competition, regulation, rather than ownership structure, is central to successful privatisation. Regulation will be required to monitor performance to ensure that cost savings are made and that these are equitably distributed between the owners of capital (in terms of expected returns) and consumers (in terms of lower costs and/or improved services) to provide incentives for investments in capital expenditure and further efficiency gains. However, regulation will be constrained by imperfect and asymmetric information, where the regulator never really knows how efficient the private company is or can be. Here, public ownership allows governments to have more precise information about a firm’s costs than under regulation (Roland, 2008). Information problems are compounded by the weak institutional and technical capacities that characterise developing countries, particularly given the substantial (technical) requirements for effective regulation (see, for example, Estache, 2001). These regulatory constraints are exacerbated by the additional problems and demands created by unbundling that require even more technical skills to deal with the increasing

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complexity of, for example, harmonising regulatory oversight of monopoly activities with increasing competition (Baumol and Willig, 1987, cited in Kessides, 2005).

3.2 Merit goods The second problem with infrastructure privatisation is that it is usually associated with merit goods, which means that their provision, particularly in the case of water and sanitation services (WSS), cannot be to the exclusion of those who cannot afford to pay because of equity or public health considerations. As a result, tariffs will not be able to cover costs if affordability and universal access are to be assured. Evidence confirms that subsidies are widespread (with 42% of high-income countries estimated to subsidise operations and maintenance costs of water provision for residential users) and difficult to avoid because this would increase prices paid for water and electricity by poor households (Table 1) (see Komives et al., 2005, cited in Annez, 2006; Foster and Yepes, 2006, cited in Estache and Fay, 2007).

Table 1: World overview of average residential water tariffs and

estimated subsidies (%)

% of utilities whose average tariffs appear to be Too low to cover

basic O&M Enough to cover most

O&M Enough for O&M and

partial capital By income HIC 8 42 50 UMIC 39 22 39 LMIC 37 41 22 LIC 89 9 3 By region OECD 6 43 51 LAC 13 39 48 MENA 58 25 17 EAP 53 32 16 ECA 100 0 0 SA 100 0 0

Notes: O&M (operations and maintenance); HIC (high-income countries), UMIC (upper-middle-income countries), LMIC (lower-middle-income countries), LIC (low-income countries), LAC (Latin America and the Caribbean), MENA (Middle East and North Africa), EAP (East Asia and Pacific), ECA (Europe and Central Asia), SA (South Asia). Source: Annez (2006).

Moreover, the ‘average tariff necessary to generate the minimum required rate of

return in the poorest developing countries has to be higher than elsewhere and is increasing, because it needs to cover a higher and increasing cost of capital’ (Estache and Fay 2007: 24). In the case of Latin America, Africa and India, tariffs would have to increase by a factor of 10 to reach cost-recovery levels, making it politically untenable, commercially unattractive and hence practically questionable (Annez, 2006; Estache




and Fay, 2007). Similarly, fares have not been able to cover operating costs (let alone capital investment) in urban rail systems, with a few exceptions, namely, Hong Kong and Singapore (both city states) and some Japanese operators (see Cox, 1997; Denant-Boémont and Mills, 1999; Shoji, 2001).

The unlikelihood of cost-covering tariffs being implemented will again lead to ‘cherry picking’, with the private sector investing only in more profitable areas/service segments where cost-covering tariffs can be charged, or where existing infrastructure reduces the need for private capital expenditure. Where cost-covering tariffs cannot be implemented, operational subsidies or profit guarantees will be needed to attract private investors, in turn entailing regulation to ensure that the private owner/operator continues to improve the service. This is because subsidies further dilute incentives as profit is no longer directly dependent on cost-saving improvements but rather on the amount of subsidy. Efficiency improvements will once again depend on regulatory efficacy and the regulatory constraints discussed earlier.

3.3 High capital costs The third problem is that infrastructure development is characterised by very high sunk costs, long gestation periods and uncertainty. Being capital-intensive means that turnover compared with investment is low, while long lead times mean that the financing requirements during the initial stages of the work are high yet revenue is low in the early years of the operation (Fayard, 1999). The higher risks, uncertain revenues (due to a higher price elasticity for demand) and possibilities of default raise the cost of capital (Sappington and Stiglitz, 1987; Payson and Steckler, 1996; Daniels and Trebilcock, 2000; Estache and Pinglo, 2004; Estache and Fay, 2007) and necessitate higher average tariffs (or subsidies), making poor countries even less attractive for private investors who are faced with the option of low bids being financially unfeasible and high bids being politically untenable. At the same time, loan maturity has shortened from around 10 to 5 years after the 1997-8 Asian financial crisis, leading to a maturities mismatch for infrastructure financing (see Estache, 2001). As a result, the private sector has faced great difficulties in financing such high-cost, long-gestation projects without government guarantees (to secure long-term loans) and tax breaks (to reduce the tax burden at the beginning of the loan period) (see Windsor, 1996; Fayard, 1999; Dunn, 2000).

The state will also need to reduce the private sector’s share of the cost, or its risk, by absorbing demand risk through subsidies or government guarantees to ensure the project is viable for private-sector participation (Heilman and Johnson, 1992; Norton Rose, 2006). Government guarantees are needed for a wide range of reasons to deal with unexpected events and to ensure that an acceptable financial return can be generated (see Irwin, 2007). These can cover financing/debt and the government assuming some form of contingent liability or guaranteed returns (for example, minimum traffic/revenue and exchange rates) to lower the operational risk profile of PPI projects (Annez, 2006; Estache et al., 2007; Irwin, 2007). At the same time, the duration of the concession can be extended and the government can subsidise the private sector through debt forgiveness (for example, British Rail). In fact, the private sector now expects the public sharing of risks through government subsidies, and views

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the ‘general perception that all PPP [public-private partnerships] should transfer demand risk to the private sector’ as ‘altogether flawed’ (Norton Rose, 2006).

PPI is expected to deliver better results where commercial risks are shifted to the private sector (see Harris, 2003), but necessary (and expected) subsidies mean that there are risk-incentive trade-offs as private incentives are reduced where the risk is transferred back to the state (Heilman and Johnson, 1992; Daniels and Trebilcock, 2000). These risk-mitigating measures dampen the incentives to private operators to achieve efficiency gains. Furthermore, where government subsidies finance the project, the government may be unwilling to let the project fail or to terminate concessions, given the ‘essential’ nature of public services and the political repercussions of interruptions in their provision. As risks have been largely borne by the public sector, there can be no clear designation of property rights as the owner ‘cannot capture the whole social and economic benefits generated’ nor would such a designation ensure efficiency and high levels of investment (Fayard, 1999: 12-3). This means that the owner’s residual returns (profit) depend just as much on government decisions as on the owner’s residual control of the work process, and this can significantly dilute private incentives to monitor in the absence of adequate institutional arrangements and regulation in developing countries.

4 The evidence The theoretical problems discussed above can help explain the broad evidence, in particular the failure of PPI to significantly finance investments and improve efficiency in WSS, transport and energy.

4.1 Private investment: small, selective and declining The most widely cited data source to assess private investment in infrastructure is the World Bank’s Private Participation in Infrastructure (PPI) database. However, it should be noted that this ‘has a number of omissions, some inaccuracies, and some built-in limitations’ and is often used to ‘generate greatly overstated estimates of investment by the private sector’ (Hall and Lobina, 2006: 16). In particular, it records investment commitments (not planned or executed investments) expected during the lifetime of the project, and includes both private and public investments. Despite these limitations and the tendency to overestimate PPI, a review of the evidence would appear to support the argument that PPI has not significantly increased the financing of capital investment in general. Instead, a striking feature of infrastructure privatisation is the high degree of government financial assistance and declining private investment, with ‘utility operators around the world ... having an extraordinarily hard time securing the financing needed to maintain and expand services’ (Kessides, 2004: 11; see also Pongsiri, 2001).

The shift from privatisation to PPP and, more recently, private-sector participation (PSP) and PPI, is a reflection of the need for risks to be shared where capital costs are very high and revenue uncertain. This has necessitated shifting the meaning of privatisation away from strict ownership (i.e. divestiture) to encompass any form of private-sector participation (for example, lease of assets, concessions, management




contracts) because the private sector is often unable or unwilling to bear the full cost and risks of investing in infrastructure on its own, thus necessitating public loans, financing and subsidies. This is reflected in the small numbers of (full) divestitures compared with other forms of PPI, in particular concessions. Between 1990 and 2008, concessions were the largest type of PPI in railroads and WSS (64% and 39% respectively) compared with divestitures (8% and 4%). If ‘build, lease and transfer’ (BLT) and ‘build, operate and transfer’ (BOT) ‘greenfield projects’ are included, the concessions share of PPI increases to 91% for railroads and 77% for WSS. Divestitures are higher for electricity (31% compared with 25% concessions) but only 34% of this has involved full divestitures, with the state remaining the main actor in electricity distribution and generation in developing countries (see Estache and Fay, 2007). Overall, infrastructure privatisation has been characterised by concessions which accounted for 65% of PPI globally in electricity, rail and WSS (including BLT and BOT ‘greenfield projects’) (World Bank PPI database).

The inability to implement cost-covering tariffs has also reduced the profitability and hence attractiveness of investments in infrastructure. These problems are reflected in the evidence which shows that private investment in infrastructure has been: a) relatively small compared with the public sector; b) selective, flowing to richer countries and sectors where costs and risks are lower; and c) declining as a whole.

Public versus private investment

Private-sector commitments between 1990 and 2008 amounted to US$1,360.5 bn, with over 4,000 private infrastructure projects in developing countries (World Bank database) (Table 2). However, public financing remains central to infrastructure privatisations because of the very high costs, uncertainty and risks associated with long gestation periods, as well as the fact that governments can raise financing for large-scale infrastructure projects at a lower cost than the private sector. As a result, the state continues to be responsible for a large share of the financing of physical infrastructure and basic infrastructure services in most developing as well as in many developed countries. Despite a significant reduction in public investment between the 1970s and 1990s, governments or public utilities still financed 70-80% of actual total infrastructure spending in developing countries in the 1990s (DFID, 2002, cited in Briceno-Garmendia et al., 2004; Campos et al., 2003, cited in Estache and Fay, 2007).

The state is the main actor in electricity and water distribution and railway services in about two-thirds of developing countries, and in electricity generation in over half of these countries (Estache and Fay, 2007) (Table 3). Even where PPI has involved ‘greenfield projects’, this includes investments by both private and public-private entities in the form of BLT, BOT and ‘build, own and operate’ (BOO) contracts. A growing number of WSS concession projects in particular are based on a mix of public and private financing (for example, Colombia, Malaysia, Peru) (Marin and Izaguirre, 2006). The private sector has been unable or unwilling to finance rail development which has been largely financed by public funds, usually through state-owned or international financial and development agencies (for example, Bangkok and Kuala Lumpur) (see Tan, 2008). Substantial capital cost is the reason why many cities

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Table 2: Developing countries – cumulative private-sector investment commitments by region, 1990-2008 (US$ bn)

Region Electricity Railways WSS Total

(3 subsectors) Total

project investment

East Asia and Pacific 98.3 15.2 28.8 142.2 293.7

Europe and Central Asia 55.3 0.8 4.0 60.2 240.5

Latin America and Caribbean

126.9 20.1 23.7 170.4 515.1

Middle East and North Africa

12.5 0.3 1.8 14.6 67.6

South Asia 55.7 0.8 0.33 56.8 160.5

Sub-Saharan Africa 7.4 4.8 0.27 12.4 83.0

Total 355.7 42.0 58.9 456.6 1,360.5

Notes: Total project investment includes telecoms, energy (electricity, gas), transport (rail, roads, airports, seaports) and WSS. Numbers may not add up due to rounding. Source: World Bank PPI database (accessed 3 June 2010).

Table 3: Developing countries – % of countries without significant

large-scale private investment in infrastructure by income group, 2004

Income level Electricity generation

Electricity distribution

WSS Railways

Low 59 71 82 66 Lower-middle 52 63 50 74 Upper-middle 42 52 63 40 Developing 53 64 65 64

Source: Adapted from Estache and Goicoechea (2005).

underwrite the cost of infrastructure provision (for example, Singapore, Bangkok, Hong Kong), with even the state in Japan, where urban railways tend to pay for operating and infrastructure costs, providing special subsidy programmes for construction costs (see Shoji, 2001).

The US$3.5 bn BOT concession for the Gauteng light rail in South Africa involved government cash subsidy commitments of US$3 bn (World Bank PPI database). The privatisation of British Rail in 1993 involved £1 bn from the European Investment Bank and Kreditanstalt für Wiederaufbau (the German development bank) (Whitehouse, 2003). In addition, the government wrote off a £1.6 bn debt burden before privatisation, provided £225 m. of debt relief on flotation, underpriced shares, and provided around £1.6 bn in annual subsidies (Stittle, 2002; Whitehouse, 2003; Shaoul, 2004). PPI has also increased public financing as a result of governments assuming some form of contingent liability or guaranteed returns to reduce the operational risk profile of PPI projects. In the case of ‘greenfield projects’, ‘the government usually




provides revenue guarantees through long-term take-or-pay contracts for bulk supply facilities or minimum traffic revenue guarantees’ (World Bank PPI database). Contingent liabilities have been estimated at 3.8% of GDP in Malaysia, about 2% of GDP in Hungary, and 1-2% of GDP in the case of Mexico’s toll road programme (Jomo and Tan, forthcoming; Calderon and Serven, 2005; World Bank, 2005, both cited in Annez, 2006).

Selective private investment flows

Private investment figures conceal regional and sectoral differences, and a trend towards ‘cherry picking’ in the choice of countries and sectors. First, the ability to attract private investment across sectors is generally higher for developed than for developing countries (Estache and Goicoechea, 2005). Furthermore, the higher risks (and costs) in poorer countries have meant that private investment in infrastructure in the developing world has also concentrated on richer regions (East Asia and the Pacific, Eastern Europe and Latin America) (see Table 2) and 10 middle-income countries in particular: Brazil (US$196.3 bn), China (US$100.0 bn), India (US$96.1 bn), Mexico (US$86.1 bn), Argentina (US$78.4 bn), Russian Federation (US$61.5 bn), Malaysia (US$50.2 bn), Philippines (US$42.2 bn), Indonesia (US$40.7 bn) and Turkey (US$36.9 bn) (World Bank PPI database).

Second, the bulk of infrastructure privatisation has been in electricity, mainly in Latin America and East Asia and the Pacific (Table 2), with privatisation in Latin America driven by PPI in power utilities (and telecoms) in Argentina in the early 1990s and later in Brazil. Similarly, private investment commitments in independent power plants (IPPs) accounted for over 30% of PPI in East Asia and the Pacific between 1990 and 2008 (Table 2) and almost 10% of total investment in privatised infrastructure projects in developing countries between 1990 and 1998 (see Harris, 2003). Lower returns on equity in rail and WSS have led to ‘cherry picking’, with energy (and telecoms) accounting for around 30% and 50% of private investments in 1990-2008 compared with around 4% for rail and WSS (World Bank PPI database) (see also Estache and Pinglo, 2004).

Third, PPI in WSS has concentrated on middle-income countries in East Asia and the Pacific and Latin America and the Caribbean (Tables 4 and 5) (Estache and Goicoechea, 2005) and also flowed to countries with higher levels of connection rates/public investment and aid, particularly in the cases of Malaysia, China, Brazil and Chile between 2000 and 2005 (Prasad, 2008; Oliveira, 2008). On top of this, higher levels of private investment commitments in developing countries overall were skewed by several large water privatisations, namely in the Philippines (1997), Chile (1999) and Malaysia (2000 and 2004) (see Marin and Izaguirre, 2006). At the same time, sub-Saharan Africa, the Middle East and South Asia, which include many of the poorest countries of the world, have had very little success in attracting private capital to the sector, reflecting higher commercial risk levels (Estache and Goicoechea, 2005). Water PSP contracts have failed to deliver investment in new infrastructure after 15 years, with only around 600,000 households connected (i.e. less than 1% of the people who need to be connected to meet MDG targets) in sub-Saharan Africa, South Asia and East

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Table 4: Developing countries – total private investment promised in WSS by region, 1990-2008 (US$ bn)

Region Private investment

promised Private investment as % of

total investment East Asia and Pacific 28.8 48.5 Europe and Central Asia 4.0 7.4 Latin America and Caribbean

23.7 40.0

Middle East and North Africa

1.8 3.0

South Asia 0.33 0.56 Sub-Saharan Africa 0.27 0.45 Total 58.9 100.0

Source: World Bank PPI database (accessed 3 June 2010).

Table 5: World – private capital in WSS by income groups, 2004

Total sample (no. of countries)

Sample (no. of countries

with data)

Countries with private capital (% of sample)

Developing countries 155 127 35 Low-income 65 55 18 Lower-middle-income 52 40 50 Upper-middle-income 38 32 47 Developed countries (high-income)

52 20 80

Total 207 147 41 Source: Estache and Goicoechea (2005).

Asia (excluding China) (Hall and Lobina, 2006). In contrast, public-sector funding of water in the 1980s reduced the overall percentage of people without safe water supply from 56% in 1980 to 31% by 1990 (Corral, 2007).

The arrival of national or regional firms from Argentina, Brazil, China, Colombia, Malaysia and Russia as the primary sponsors of the utility concessions awarded in 2005 has been described as a positive trend (Marin and Izaguirre, 2006) but further suggests a tendency for PPI to focus on middle-income countries. This ‘cherry picking’ is also reflected in a ‘new interest in developing countries’ by European water companies (for example, from Germany, Italy, Portugal, Sweden and the Netherlands) that have sought to ‘concentrate on the operational side of the business rather than construction and large capital investment’ (ibid.: 4). Traditional private operators (for example, Spain’s Veolia and France’s Suez) have also focused on management contracts in selected markets and lower-risk projects (ibid.).




Declining private investment

Private investment commitments in infrastructure fell from around a peak of US$130 bn in 1997 to US$48 bn in 2003 before recovering slightly to US$55 bn in 2009 (World Bank PPI database). This decline has been generally noted and much of it attributed to the reduced availability of funds following financial crises in 1997 and 2007 (see, for example, Izaguirre, 2009). However, infrastructure privatisation has also been characterised by the declining trend for the return on assets, with over 80% of utility enterprises experiencing a fall in profitability (see Cook and Uchida, 2008). This is especially pronounced in WSS and rail which had negative average returns of -0.14 and -6.7% respectively between 1998 and 2003, as a result of very significant capital investment requirements, making it difficult to mobilise substantial finance (Estache and Pinglo, 2004).

Investment commitments to WSS declined from a peak of US$7.2 bn in 2000 to US$2.7 bn in 2008 (World Bank PPI database). Declining PPI has also been reflected in the withdrawal of international water companies from developing countries since 2003 (see Corral, 2007; Lamech and Saeed, 2002, cited in Harris, 2003), with 34% of investments (in terms of value) in WSS cancelled or in distress between 1990 and 2008 (World Bank PPI database; see also Harris and Pratap, 2009). PPI in rail fell from US$5.9 bn in 1996 to US$1.4 bn in 2005. An increase to US$8.6 bn in 2006 was the result of a handful of projects in East Asia and the Pacific and sub-Saharan Africa, that accounted for US$7.8 bn of investments committed (World Bank PPI database). Of this, the Gauteng light rail in South Africa accounted for US$3.5 bn but, as noted previously, involved government cash subsidy commitments of US$3 bn. (No details were available for the US$3.9 bn private investment commitments in East Asia and the Pacific in 2006, aside from the US$1.9 bn partial divestiture of the Daqin Railway in China). Even in electricity, private investment in independent power producers (IPPs) fell from US$17 bn in 1996 to US$6 bn in 2001 (following the 1997-8 Asian financial crisis), with 7% of investments (in terms of value) cancelled or in distress between 1990 and 2008 (World Bank PPI Database; see also Harris and Pratap, 2009).

The decline in private interest in infrastructure as a whole also coincided with a high rate of requests for separation or divorce from privatisation contracts in Latin America, Eastern Europe, Asia and Africa (Harris, 2003; Estache, 2005), with the private (multinational) withdrawal from the infrastructure sector compounded by public opposition to, and reversals of, water and energy privatisations (see Harris, 2003; Nellis, 2003; Hall et al., 2004, 2005; Checchi et al., 2009). Forty-eight private infrastructure projects were renationalised or cancelled over the period 1990-2001 (Harris, 2003) and public opposition led to the rejection or termination of 23 water and around 10 energy privatisation proposals/contracts in developed and developing countries between 1994 and 2000 (Hall et al., 2005). By 2005, projects involving more than 34% of the investment commitments made since 1990 had either been cancelled or were in distress (in international arbitration or subject to a formal request for cancellation). The renationalisation of the UK’s Edinburgh-London East Coast rail franchise in July 2009, because of the inability/unwillingness of two successive concessionaires (GNER in 2006 and National Express in 2009) to pay for the right to operate the line, underlines the failure of rail privatisation (Milmo, 2009a). In addition, 5 out of 19 rail franchises

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across the UK were classified as being in poor financial health, despite higher annual passenger rail subsidies after privatisation that amounted to £1.02 bn in 2004-5 (Milmo, 2009b; Lea, 2005; Knowles and White, 2003; Shaoul, 2004).

The regions with the highest number of cancelled or distressed projects between 1991 and 2007 were also those that attracted the bulk of PPI – East Asia and the Pacific (11% of total investment) and Latin America (10%). In Latin America, an estimated 50% of concession contracts signed since the mid-1980s ended up being renegotiated (Guasch, 2004). This included 75% of water contracts and 74% of transport concessions renegotiated during the 1990s, on average just over two years after the award (ibid.). In sub-Saharan Africa, 25% of water and electricity projects were cancelled or in distress by 2005. Of the ten countries attracting the most PPI, three in particular had high shares of cancelled or distressed projects: Argentina (29% of total investment), Malaysia (23%) and Indonesia (20%) (World Bank PPI database).

The high rate of renegotiations in transport infrastructure reflects problems related to persistently overoptimistic traffic and revenue forecasts, heavy debt-servicing burdens and risk allocation (see Estache et al., 2007), some of the issues raised in the previous section. The limitations of PPI in water and energy led to the World Bank (2003: 3) acknowledging that: ‘the recent decreases in private sector interest in infrastructure show that reliance on the private sector alone will not be sufficient to guarantee a scaling-up of infrastructure service provision.’

4.2 Efficiency: selective and inconclusive Assessment of efficiency gains is affected by methodological and data problems. Methodological problems have largely coloured the way in which the evidence (or otherwise) of efficiency gains has been presented and partly explain why the results are mixed and inconclusive. These problems arise from attempts to measure performance, in particular key variables (for example, allocative efficiency), the use of criteria which mostly favour the private sector (for example, profitability), interpreting financial profitability and the absence of common agreement on what constitutes successful performance, given the often multiple objectives and different goals of public enterprises (see Hemming and Mansoor, 1998; Cook and Kirkpatrick, 1995; Parker and Kirkpatrick, 2003). In particular, it is often unclear whether improved efficiency is due to a change in ownership or structural changes which accompany privatisation, especially increased competition. Evidence of improved performance has also been limited to certain sectors with industry-specific conditions, telecoms being one of the few such instances, and it is unclear whether these can be replicated in other sectors (see Parker and Kirkpatrick, 2003).

Evidence in support of efficiency gains can suffer from selection bias because: (i) the better performing public utilities are more likely to have been privatised, leaving the less efficient ones in the public sector, and (ii) successful (or ‘well designed’) privatisations are usually used as examples. As a result, evidence has been generally limited to a few sectors and the same small selection of successful case studies and countries, and drawn mainly from research by the World Bank. This is especially problematic, given the Bank’s ongoing insistence on promoting infrastructure privatisation and its documented research bias (see Deaton et al., 2006). For example,




despite the failure of PPI in WSS, as recently as 2008 the Chief Executive Officer of the Bank’s International Finance Corporation stated that ‘providing clean water and sanitation services is a real business opportunity’ (Thunell, 2008). Two prominent papers in support of PPI rely almost entirely on World Bank research for evidence of investment and efficiency gains in infrastructure privatisation. Seventeen out of 23 sources used by Harris (2003) are World Bank publications (Estache and Rodriguez-Pardina, 1998; Estache and Kouassi, 2002; Estache et al., 2000, 2002; Foster and Irusta, 2001; Galal et al., 1994; Krishnaswamy and Stuggins, 2001; Newbery and Pollitt, 1997; Shirley, 2002; Wellenius, 1997a, 1997b; World Bank, 2001, 2002a, 2002b; World Bank/PPIAF, 2002a, 2002b, 2002c). Twelve out of 15 sources cited for evidence by Kessides (2005) are either published by the World Bank (Estache and Carbajo, 1996; Feler, 2001; Galal et al., 1994; Harris, 2003; Izaguire, 2002; Peters, 1995; Pollitt, 2003; Wellenius, 1997b) or by a World Bank consultant (Thompson, 2003; Thompson and Budin, 2001; Thompson et al., 2001).

This evidence suggests that privatisation has improved efficiency, with the largest gains observed for the telecoms sector (Galal et al., 1994; Newbery and Pollitt, 1997; Bortolotti et al., 2001), although the major driver for improved efficiency here has been competition (Ros, 1999). PSP in electricity improved collection and reduced losses in Chile, Northern Namibia, Tbilisi (Georgia) and Moldova (Estache and Rodriguez-Pardina, 1998; World Bank/PPIAF, 2002b; World Bank, 2002b; Krishnaswamy and Stuggins, 2002; Rudnick and Zolezzi, 2001; Fischer and Serra, 2000; Feler, 2001; Pollitt, 2003). Water services improved in several Argentinian cities (Cartagena, Barranquilla, Tunja, La Paz/El Alto, Buenos Aires) (World Bank, 2001, 2002a; Shirley, 2002) and Africa (Estache and Kouassi, 2002; Shirley, 2002). Rail systems in Latin America (Thompson, 2003; Thompson et al., 2001; Thompson and Budin, 2001) and ports (Peters, 1995; Tull and Reveley, 2001; Galal et al., 1994; Estache and Carbajo., 1996; Gaviria, 1998) also improved following privatisation.

Despite this, even the World Bank has been increasingly cautious, highlighting the inconclusive nature of the wider evidence, while insisting on the importance of institutional preconditions (for example, sequencing, regulatory reform) to get privatisation to work. Most cross-country econometric evidence on utilities has found no statistically significant difference in efficiency scores between public and private providers, and country-specific papers that have found differences in performance over time have highlighted the greater importance of a number of other variables, in particular the degree of competition, the design of regulation, the quality of institutions and the degree of corruption (see Estache et al., 2005).

Water and sanitation services (WSS)

The main conclusion from the available evidence suggests that ‘there is no statistically significant difference between the efficiency performance of public and private operators’ in the water sector (Estache et al., 2005: 11; see also Kirkpatrick et al., 2006; Corral, 2007; Bela and Warner, 2008). A survey of 21 African utilities including three private operators (1995-7) found that private operators were more cost-efficient but that corruption mattered more than ownership (Estache and Kouassi, 2002). A much larger survey of 110 African water utilities including 14 private operators (1998-2001) found

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no significant cost difference once environmental factors were taken into account (Kirkpatrick et al., 2004). Similarly, a survey of 50 utilities in 19 Asian countries in 1997 found no statistically significant difference between public and private operators (Estache and Rossi, 2002).

A more recent survey in 18 Asian cities found that public utilities compared well with privatised operations in Jakarta and Manila (which were significantly worse than average on some indicators of coverage for water and sewerage) (ADB, 2004, cited in Corral, 2007). The high non-revenue water (NRW) (revenue losses, as a result of leakages, pilferage, unmetered use and inaccurate billing) in most Asian cities is much better than the leading UK-based multinational, Thames Water, whose NRW averages 33%, rising to almost 40% in London (and 60% in some places), and the average percentage figure for leakage alone in Asian cities may be comparable with average leakage rates of 23% for England as a whole (see Hall et al., 2004).

Moreover, some public-sector water operators have demonstrated dramatic improvements in performance (Phnom Penh) and provided ‘excellent water service’ with an outstandingly low level (7%) of NRW (Osaka) (Corral, 2007). Private water operators in Latin America, despite all the financial and other support, were no more likely to have extended services than cities without private operators (see Hall et al., 2004). A survey of around 4,000 municipalities in Brazil in 1996-2002 found that private operators stimulate catching up but there were no significant productivity differences (Seroa da Motta and Moreira, 2004, cited in Estache et al., 2005).

Railways

Measuring performance of the railways sector is especially compromised by low coverage, lack of data and methodological problems, but the limited evidence points to the importance of environmental factors in the absolute and relative performance of operators, with differences partly explained by the degree of development (GDP per capita), the technology used (percentage of electrified lines) and density (population and network lines) (Lan and Lin, 2002, 2003a, 2003b, cited in Estache et al., 2005). Private rail operators have been found to perform better than public operators but performance will be affected by the choice of methodology. Furthermore, efficiency measures can be taken by reducing inputs (staff numbers and rolling stock) rather than improving outputs (passenger or ton per kilometre transported), as was the case for CEAR in Malawi and CAMRAIL in Cameroon (Mbangala, 2004a, 2004b, cited in Estache, 2005).

Electricity

Privatisation of electricity is said to have improved efficiency by 5-7% per annum in Latin America (Pollitt, 1995), although the specific rankings of efficiency levels vary with the methodology used (Whiteman, 1995, 1998). However, the econometric evidence has found that size matters to both generation and distribution, and privatisation has been associated with improvements in efficiency only with or through other reforms such as increased competition and regulation (Yumos and Hawdon, 1997; Meibodi, 1998; Pacudan and de Guzman, 2002; Filippini et al., 2004; Estache and Rossi, 2004; Estache et al., 2005). Hence, public operators have had scores equivalent to those observed for private operators, and privatised electricity utilities were average




performers in Thailand, the Philippines, Malaysia and Indonesia (Bagdadioglu et al., 1996; Whiteman, 1995, 1998). 5 Institutional reforms The emerging evidence on the importance of variables other than ownership structure in determining economic performance has shifted attention towards institutional prerequisites for successful PPI. In particular, regulation is seen as a greater determinant of performance than the form of ownership or management used in the sector (see Harris, 2003; Kessides, 2004, 2005; Laffont, 2005; Ogus, 2005; Estache and Wren-Lewis, 2008). This is especially so where competition is absent or limited, because the welfare effects of privatising monopolies ‘depend significantly upon how well regulatory problems are overcome’ (Roland, 2008: 23). These regulatory problems mainly relate to the nature of incentives in the context of imperfect information and institutional weakness that characterises developing countries. The failure of infrastructure privatisation has thus been blamed on problems related to institutions and technical capacities rather than to privatisation itself.

Weak institutional environments in developing countries are said to render the regulatory contracts between governments and operators incomplete, affecting utility performance (Laffont, 2005). Regulatory capacity is limited because of the lack of resources, the scarcity of highly educated professionals, the use of civil service pay scales, an underdeveloped auditing system and an inexperienced judiciary (ibid.). Weak political and economic institutions mean that the state lacks the credibility to commit to contracts or implement proper, consistent regulatory procedures, and fails to safeguard property rights (see Clague, 1997b; Williamson, 2000; Harris, 2003; Kessides, 2005). Weak institutions thus limit commitment and discourage parties from contracting because of the fear of future renegotiation, in turn increasing the cost of capital and decreasing investment (Laffont, 2005). Limited accountability is seen to increase the likelihood of collusion between the government or the regulator and various interest groups, including regulated firms, thus reducing efficiency and decreasing network expansion (Estache and Wren-Lewis, 2008).

In addition to these institutional weaknesses, governments in developing countries are seen as corrupt and incompetent. As a result, privatisation has been poorly implemented and regulated, with a lack of regulatory independence and credibility, and subject to widespread corruption, regulatory and political capture, and arbitrary political intervention (Tullock, 1967; Stiglitz, 1971; Krueger, 1974; Bhagwati, 1982; Laffont, 1996; Daniels and Trebilcock, 2000). Deliberate government actions and a lack of understanding of the importance of separation of powers further undermine regulatory independence and affect private investment and incentives (Kessides, 2004). The absence of democracy and transparency results in policies that are ‘changed by absolute decree with no prior notice’, with decisions being unpredictable because bureaucrats ‘may have a great deal of discretion in the application of business regulations’ (Clague, 1997b: 25-6).

Corruption, patrimonialism, cronyism and clientelism are seen to create serious problems for public administration in developing countries, with ‘abundant evidence of corruption in both the privatization process and in regulation’ (Estache and Wren-

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Lewis, 2008: 4; Theobold, 1990, cited in Parker and Kirkpatrick, 2002; see also Boeker, 1993, cited in Plane, 1997; Cook and Kirkpatrick, 1995; Parker and Kirkpatrick, 2003). Corruption has been blamed for the failure of privatisation in Zambia and many parts of Africa, India, and a number of transitional economies (Tangri, 1999; Tangri and Mwenda, 2001; Craig, 2000, 2001; Meseguer, 2002; University of Greenwich, 2001, both cited in Parker and Kirkpatrick, 2003).

While the absence of regulatory independence can lead to regulatory capture (by the private sector) or political capture (by the government or politicians), the latter is considered a much greater risk, given the problems of credible commitment, the history of arbitrary administrative intervention, and the discretionary use of executive power said to characterise developing countries (Stiglitz, 1998; Pongsiri, 2001; Kessides, 2004). Early explanations of the disappointing results of privatisation in general have thus blamed governments and focused on identifying the necessary institutional requirements. In particular, regulatory independence has been seen as central to effective regulation, to prevent political and regulatory capture. The focus has been on technical capacities (for example, competent, non-political, professional staff; design and data collection; pricing policies), along with substantial procedural requirements that ensure integrity, independence, transparency and accountability, and a credible commitment to safeguard investors and clarify property rights. In particular, ensuring transparency is seen to ‘play an important role in reducing concerns over corruption or impropriety’ (Harris, 2003: 37) while correct implementation and proper sequencing are also important (Kessides, 2005).

This discussion has gradually evolved from prescribing ‘one-size-fits-all’ institutional solutions to a recognition of the difficulties in transferring advanced country institutions to developing countries (see Laffont, 2005; Kessides, 2005; Estache and Wren-Lewis, 2008). Formal institutional requirements (integrity, independence, transparency, accountability) are still viewed as essential for effective regulation but no longer sufficient, given the differences in sector features and countries’ economic, institutional, social and political characteristics (Kessides, 2005). The development of institutions is seen as especially difficult ‘in societies that do not have the constitutional, political, and legal traditions required to support them’ (ibid.: 88), and caution is urged because it may not be possible to implement good ideas (Laffont, 2005; Estache and Wren-Lewis, 2008).

However, the discussion here remains generally disconnected from the wider development process, and institutional evolution in particular. There is some awareness that ‘[s]trong institutions took a long time to develop in advanced industrial economies’ with ‘[e]ven East Asia’s “miracle” economies [taking] several decades of concerted efforts to produce notable results’ (Kessides, 2005: 88; see also Baumol, 1993), but less discussion of the sequence of events. Historically, these institutions not only took time to develop but, more crucially, emerged, not as a driver but an outcome of development (see Chang, 2002, 2007; Khan, 2004). Developed countries have strong regulatory frameworks because they have had the resources and capacity to develop these institutions. Regulatory structures in advanced countries are thus the outcome of a very different set of social, economic, technical and political conditions, including significantly higher levels of income (and hence the ability and willingness of consumers to pay higher/cost-covering tariffs), many more skilled technical staff well




versed in incentive regulation and stronger enforceability of penalties for non-compliance.

Attempting to transfer Western-style institutions in order to make privatisation work in developing countries is thus based on a serious misreading of the development process and institutional evolution, and is akin to putting the cart before the horse. Furthermore, the problems associated with imperfect and asymmetric information will compound the regulatory constraints facing developing countries that already lack technical capacities, with the regulator never really knowing how efficient the private company is or can be. Not surprisingly perhaps, rather than reducing corruption, privatisation ‘only changes the pattern of corruption deals’ where taxpayers suffer under public ownership, ‘while consumers are the first group harmed in the case of private firms’ (Martimort and Straub, 2007: 35). In the context of these informational problems and limited regulatory capacities, infrastructure privatisation would appear to be inappropriate in most developing countries, given that public ownership allows governments to have more precise information about a firm’s costs than under regulation (Roland, 2008; Auriol and Picard, 2009).

Historically too, public delivery of infrastructure has been necessary to address problems of fragmented, piecemeal and localised systems associated with early private provision (see Prasad, 2008). WSS, for example, was nationalised in now industrialised countries precisely to address problems of fragmented systems, ‘cherry picking’ and corruption (see Prasad, 2008; Roland, 2008). Furthermore, higher income levels in developed countries mean that cost-covering tariffs have been theoretically less problematic. Even then, infrastructure continues to be publicly financed or subsidised in most countries, developed and developing. Here, PPI was introduced after basic public investments in infrastructure networks were already in place. In this context, the promotion of PPI as a means to increase investment in infrastructure would appear misguided and the resulting problems of ‘cherry picking’ to be expected. The failure of public infrastructure delivery in developing countries thus reflects a wider failure of development rather than the failure of institutions as such, and the focus on institutions does not address the fundamental problems of high cost and inadequate revenue that characterise infrastructure provision in developing countries.

6 Conclusion In theory, infrastructure privatisation is argued to provide incentives for efficiency, thereby enabling the private owner/operator to invest in further improvements and expand services. In practice, a survey of the evidence suggests that PPI has failed to significantly finance capital investment or improve efficiency in WSS, transportation and energy. This failure has less to do with institutional weaknesses in developing countries than with a fundamental mismatch between privatisation theory and the characteristics of infrastructure and utility projects related to the monopoly features of infrastructure provision, and insufficient revenue in the context of low incomes and very high capital costs.

This is because private incentives rely on competitive pressures and the realignment of prices with underlying costs. However, incentives are diluted in the context of monopoly structures associated with public infrastructure, and attempts to

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introduce competition by unbundling create their own problems and are limited by weak technical capacities in developing countries and imperfect information. Furthermore, the requirements of universal access for merit goods mean that consumers in developing countries are often unable (or unwilling) to pay the cost-covering tariffs, necessitating public subsidies to attract private-sector participation. Finally, the very high capital cost and risks in developing countries, including low and uncertain revenues, will require further subsidies. These subsidies dilute incentives because risk is shared and profit is no longer directly dependent on efficiency gains but on regulatory decisions. This theoretical critique provides a more useful explanation than econometric analyses of factors driving project cancellation (see Harris and Pratap, 2009) and is supported by the broader evidence.

Given the high costs and uncertain revenues associated with PPI in developing countries, capital investment under PPI has been characterised by ‘cherry picking’, focusing mainly on more lucrative sectors (telecoms), regions (East Asia, Latin America), and segments (distribution/transmission, management), consistent with the critique of infrastructure privatisation. In the case of efficiency, the evidence is more restricted, highly selective and largely inconclusive. Nonetheless, large-scale econometric studies highlight the importance of factors other than ownership structure, in particular the quality of regulation, which in turn help explain differences in efficiency gains across sectors and countries (see Laffont, 2005). The shift from privatisation to PPP and subsequently PSP and PPI is an acknowledgement of this issue and the necessity for risks to be shared.

The institutional discussion has evolved from early ‘one-size-fits-all’ institutional solutions to a recognition of the difficulties in transferring institutions from advanced to developing countries. However, institutional explanations remain largely disconnected from the broader process of institutional development. Institutional weaknesses are often a symptom of underdevelopment, and focusing on strengthening existing institutions or transferring developed-country institutions to developing countries is sequentially problematic. More crucially perhaps, strengthening regulatory capacities – even if this was possible in the context of resource constraints – does not address the problems of high cost and inadequate revenue that characterise infrastructure provision in developing countries. These regulatory constraints are compounded by informational problems, further undermining effective regulation.

It is in this context that public ownership of network industries, specifically WSS, rail and electricity, makes more sense than privatisation. Indeed, the insistence that state ownership is somehow fundamentally flawed has been tempered by the admission that privatisation is not appropriate for all infrastructure (see Kessides, 2005) and that ‘neither the public nor the private alone can address the infrastructure challenges’ (World Bank, 2008: 13-14). ‘Privatisation has been oversold and misunderstood’ (Kessides, 2005: 86), yet the underlying reasons for the failure of PPI have not been properly understood, and the focus on technical fixes, including an ahistorical fixation on institutions, merely glosses over the fact that infrastructure privatisation may be inappropriate for developing countries.

first submitted November2009 final revision accepted July 2010




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Infrastructure Privatisation: Oversold, Misunderstood and Inappropriate

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