General government market/non-market distinction Martin Kellaway National Accounts in Practice – Advanced course Luxembourg, 3-12 October 2016 THE CONTRACTOR IS ACTING UNDER A FRAMEWORK CONTRACT CONCLUDED WITH THE COMMISSION

Reminder from session sector and subsectors To classify an entity, we need to ask the following questions: is it an institutional unit? is it public sector controlled? is it a market or non-market producer? any specific guidance?

Definition Market/non-market divide: In general: non-market public sector institutional units classified in general government sector market public sector institutional units classified as corporations

Background Market / non-market is probably the biggest issue concerning general government delineation We will now look at what ESA 2010 says Role of MGDD is important in the interpretation to resolve some of the ESA 2010 issues described here

ESA and SNA ESA 2010 1.50b1 explains that ESA 2010 has specific guidance here that SNA08 doesn’t, so therefore we should not refer back to SNA08 for any additional clarity on this subject Wise move, as SNA08 is flexible/inconsistent within adjacent paragraphs: SNA08 22.28 defines market producers as, at a minimum covering their costs (e.g. 100%) and then in 22.29 redefines it so that sales cover at least half of costs (e.g. 50%)

ESA chapter 1 What does ESA 2010 say? The first relevant mention is 1.37: “Differentiating between market and non-market, and so for public sector entities classifying them into the general government sector or the corporations sector, is decided by the following rule. …”

ESA chapter 1 “An activity shall be considered as a market activity when the corresponding goods & services are traded under the following conditions if: (1) Sellers act to maximise their profits in the long-term, and do so by selling goods and services freely on the market to whoever is prepared to pay the asking price; (2) Buyers act to maximise their utility given their limited resources, by buying according to which products best meet their needs at the offered price; …”

ESA chapter 1 “(3) Effective markets exist where sellers and buyers have access to, and information on, the market. An effective market can operate even if these conditions are not met perfectly.” In summary these 3 points indicate that the price is established by demand and supply in the market.

ESA chapter 1 So, using 1.37(1) we would expect that most NPIs, which seek to break even and not to maximise profits, are non-market. However, some may maximise profits but retain them (the ESA 2010 definition of NPI is that they can’t distribute surpluses to their owners) so market NPIs are possible. This suggests the market/non-market borderline should be at 100% and based on profit.

ESA chapter 3 Chapter 3 has a similar start (3.19): “… a) The producer has an incentive to adjust supply either with the goal of making a profit in the long run or, at a minimum, covering capital and other costs; “ “Not economically significant prices are likely to be charged in order to raise some revenue or achieve some reduction in the excess demand that may occur when services are provided completely free.”

ESA chapter 3 “For the output of other institutional units, the ability to undertake a market activity at economically significant prices will be checked notably through a quantitative criterion (the 50% criterion), using the ratio of sales to production costs. “To be a market producer, the unit shall cover at least 50% of its costs by its sales over a sustained multi-year period.” [n.b. just says sales, not sales at ESPs, however see underline in first block which implies sales at ESPs]

ESA chapter 3 This is counterintuitive: 50% is inconsistent with “covering capital and other costs” in “the long run”. Test over several years ESA 3.24 defines “Market producers are local KAUs or institutional units the major part of the output of which is market output.”

ESA chapter 3 So, using 3.24, if a producer sells 100 units of a good, cost per unit = €1 A) if 51% of output is sold at economically significant prices (=€1) and rest provided free, the unit is able to undertake market activity [market test result is 51%]; B) if all of output is sold at amounts below economically significant prices (taking the extreme case at €0.99) then entity is non-market [market test result is 99%]

ESA chapter 3 The test should be conducted across all products However, it may be difficult to make an assessment on whether each product is charged at economically significant prices due to the absence of micro data. Practical application to look at ratio for all products aggregated (possible different results)

ESA chapter 3 ESA 2010 3.32: “In distinguishing between market and non-market output and between market and non-market producers, several criteria are to be used. These market-non-market criteria (see paragraph 3.19 on the definition of [ESPs]) seek to assess the existence of market circumstances and sufficient market behaviour by the producer. According to the quantitative market-non-market criterion, products sold at [ESPs] should cover at least a majority of the production costs by sales.”

Sales Definition of sales (ESA 2010 3.32b): revenue from sale of goods & services excludes any D.21 tax inherent in price includes effect of any D.31 subsidy on products as long as provided to all producers of this activity excludes D.319c & D.39 subsidies (e.g. payments to cover an enterprise’s deficits) excludes holding gains

Costs Definition of production costs (ESA 2010 3.33b): intermediate consumption compensation of employees consumption of fixed capital D.29 taxes on production payable “costs of capital” = net interest payable

Qualitative Remember ESA 2010 3.32? “In distinguishing between market and non-market … several criteria are to be used. These market-non-market criteria (see paragraph 3.19 on the definition of [ESPs]) seek to assess the existence of market circumstances and sufficient market behaviour by the producer These are the ‘qualitative tests’ ESA 2010 20.22 suggests we look at (i) who is the main consumer and (ii) whether the unit is the sole supplier or whether it competes with others

Chapter 20 When most sales to households or corporations (20.23) Unit is market if “goal of making a profit in the long run or, at a minimum, covering … costs” and “consumer free to choose” MGDD I.2.4.2 reiterates that this producer is likely to be reacting to market signals and the consumer can choose who to purchase from

Chapter 20 When sales only to government: (20.24) ancillary units are part of government (20.25) if sole supplier, assume non-market (20.26) if has private* competitor, test whether prices are economically significant prices* * Note that competition must be with “private producers” not public producers Again MGDD I.2.4.2 reiterates these points

Chapter 20 When most sales to government, minority to others: [20.27] If a unit is sole supplier: market if sales to government satisfies the tender condition of paragraph 20.25 [20.28] If several suppliers: market if it competes with the other producers through tendering Again MGDD I.2.4.2 reiterates these points

Chapter 20 ESA 2010 20.29 summarises: Institutional unit? provider of ancillary services? Purchaser tests (20.23-20.28) and “The producer has an incentive to adjust supply to undertake a viable profit-making activity, to be able to operate in market conditions and to meet his financial obligations.”

Chapter 20 “The ability to undertake a market activity will be checked notably through the usual quantitative criterion (the 50% criterion), using the ratio of sales to production costs (as defined in paragraphs 20.30 and 20.31). To be a market producer, the public unit shall cover at least 50% of its costs by its sales over a sustained multi-year period.” [20.29] Sales include market output and payments for non-market output [20.30] Inconsistent with chapter 3

Conclusion Two criteria are used but ESA and MGDD together guide to: Check the qualitative criterion described to ensure producers can be assessed as market producers Check for any specific classification advice (e.g. schools & hospitals special rules) Then, carry out quantitative criterion comparing sales and production costs

MGDD MGDD interpretation: To be market, unit “must sell its products at an ESP which, in practice, … sales … cover a majority of the production costs” [=50%] [MGDD I.2.4.3 paragraph 30] Sales (para. 31) includes payments for non-market output