romeconomics.com

Privatisation Explained

Quick Definition: Privatisation is when private businesses take control of organisations that were previously owned by the government.

Also known as:

Demonopolisation; outsourcing

What is privatisation?

Privatisation is the process of transferring state-owned businesses, which are controlled and run by the government, to the private sector. Essentially, privatisation transfers control from the public sector to the private sector.

The term privatisation is also used to describe the transfer of public services, such as waste management, to private firms. This process is also sometimes referred to as outsourcing.

During the 1980s Margaret Thatcher, the UK Prime Minister at the time, sold off many of Britain’s public industries including British Gas, British Telecom and British Petroleum. These are all examples of privatisations.

Today, privatisation is a major talking point in UK politics. The government recently announced that the state-owned postal service Royal Mail will be sold to the private sector through a stock market flotation – this is another example of privatisation.

Why is it carried out?

Privatisation is carried out by governments for several main reasons including:

Revenue – Probably the main reason governments like to privatise is to gain revenue. When a government transfers state-owned businesses to the private sector they receive a large amount of money from the sale. This money can be used to help pay off the budget deficit or it can be spent on the economy (by lowering taxes or increasing public spending).

Efficiency improvements – Another reason for privatising public businesses or industries is to gain efficiency improvements. It’s no secret that, generally speaking, governments don’t do the best job at running businesses. Under the control of the government businesses have little competition and have few incentives to reduce their costs and be efficient. Transferring these organisations to the private sector will create more competition and therefore increase efficiency. These efficiency savings will be passed down to the consumers in the form of lower prices.

Cost reductions to the taxpayer – Many state-owned businesses are so poorly managed that they are heavily indebted and are loss-making. The government will often have to use taxpayer’s money to ensure that these businesses continue to run. By using privatisation the government can transfer the costs of indebted organisations from the taxpayer to the private sector.

Key terms

  • Private sector – This is the area of the economy that is controlled by private individuals and organisations
  • Productive efficiency – When firms minimise the average cost of production by minimising resource use.
  • Productivity – This is a measure of output per unit of input (which is usually labour).
  • Public sector – This is the area of economic activity which is directly controlled by the state. E.g. the defence and legal system.
  • Revenue – This is the money received by a firm when they sell a product. The calculation for total revenue is: price multiplied by quantity sold.
  • Stock market – This is an institution where financial assets issued by governments and companies are sold between investors.
Laffer Curve Explained
Merit Goods Explained