Privatization of Local Service Delivery Mildred E. Warner Presented at Government Restructuring, Privatization, Regulation and Competition June 26, 2008 Grup de Recerca en Polítiques Públiques i Regulació Econòmica Harvard University, Boston, MA

Outline Overview: Theoretical Expectations, International Trends, US data New Trends: Importance of Market Structuring Mixed Delivery Discussion Reverse Privatization Discussion New Challenges: Free Trade and New Global Governance Regimes Discussion Old Questions - Current Results Efficiency, Voice and Access, Managerial Opposition, Regionalism, Alternatives Discussion

The New Public Management Problem: Oversupply of public goods, budget maximizing bureaucrats, inflexible, unresponsive government, lack of choice Solution: Private Sector Management can be applied to the public sector Markets Can Provide Public Goods Competition (Privatization) Promotes Efficiency Market Provision Enhances Consumer Choice/Voice

Overview Theoretical Expectations Market Solutions exist for public goods Competition among local governments increases efficiency Differences in services reflect citizen preference Market solutions enhance democratic expression Citizen and consumer voice are similar

Theoretical Challenges Public goods result from market failures. There are limits to market solutions for public goods Competition is costly Government must structure the market, ensure stability and security Government is more than a business Must manage political interests, citizen expectations beyond efficiency Network Management Challenges Privatization raises challenges of accountability and blurs the line between public and private

International Trends U.K., Australia, New Zealand were early privatizers Compulsory competitive tendering Moderating Position in Last Decade Disappointment with lack of cost savings ‘Best Value’ recognizes a broader set of concerns than just cost efficiency Reversals – Reinternalization of Service Delivery Privatization Levels Higher in Europe than in the US Reflects more flexible organizational forms Pragmatic, dynamic, mixed market/government position emerging Privatization is not a one way street

Privatization Levels Waste (% private contracts) Water (% private contracts) Netherlands420 UK3588 Spain5642 US407 Data: US (ICMA), Spain (Bel), Europe (OECD, EUREAU )

US Large Scale Longitudinal Data International City County Management Association Surveys of Alternative Service Delivery 1982, 1988, 1992, 1997, 2002, 2007 U.S. Census of Governments Finance Files (same years) Scope: 64 specific services 6 service delivery options (entirely public, mixed public/private, for profit, non profit, inter-municipal cooperation, franchises Factors motivating restructuring (approx 75) Sample Frame: All cities over 10,000, All counties over 25,000. Response rate 31% municipalities in 1992, 32% in 1997, 24% municipalities in 2002, 26% municipalities 2007

US Local Privatization Trends Flat Average provision as % of total provision Source: International City/ County Management Association, Profile of Alternative Service Delivery Approaches, Survey Data, 1982, 1988, 1992, 1997, 2002, 2007

Why are the Trends Flat? Some governments do a lot; many do little (6 of 35 services on average) Government has always used private providers Privatization - new name for longstanding practice Government service provision is dynamic New services, service shedding, contracting out and contracting back-in Government managers use a variety of mechanisms to secure public service delivery Internal Reform (direct public delivery) –common and stable Mixed Public and Private Delivery – dynamic Contracting out and back-in (reversals) – dynamic

Discussion

New Trends: Importance of Market Structuring To use markets, government must play a market structuring role Competition is not secured, contracts and monitoring important (transaction costs) Government is about more than efficiency Equity and access Service quality and sustainability Community identity and development Political Interests and voice

Shifts in Local Government Practice New Public Management – manage like a business, competition, citizen as customer (Osborne and Gaebler) Transactions Costs Economics – challenge of contract management: information asymmetries, principal agent problems (Sclar, Williamson, similar to ‘make’ or ‘buy’ literature in the private sector) New Public Service – citizen as central, balance efficiency concerns with deliberative democracy (Denhardts)

Contracting Peaked in 1997 Now Mixed and Public Delivery Rising Provision Rates: 66%, 61%, 53%, 49% for 1992, 1997, 2002, 2007 Respectively Source: International City/ County Management Association, Profile of Alternative Service Delivery Approaches, US Municipalities, 1992, 1997, 2002, 2007 Washington DC.

What Explains Mixed Provision? Miranda and Lerner 1995 Redundancy is efficient – reduces costs, creates competition, ensures failsafe delivery Benchmarking – track process and costs by remaining in service delivery (transaction costs) Warner and Hefetz 2008 (Probit and GEM models) Rise in mixed delivery explained by efforts to: decrease costs, ensure competition, manage opposition, ensure citizen satisfaction Managerial Learning – market management and political management

Shift in meaning of mixed delivery 1992 – Reinvention - Mixed delivery associated with efforts to reduce costs and increase competition, and explore new contracting Managerial Learning - Professional managers recognize the need to mix even as the level of total contracting out is rising - use competitive bidding 2002 – Managing for Public Service – all managers see need to mix delivery, recognize problems with lack of competition. Increased attention to citizen satisfaction. Warner & Hefetz 2008, Public Administration Review, “Understanding Mixed Delivery…”

Evolution of a Balanced Position Markets are just a tool Government must manage for: Efficiency Competition Quality Customer satisfaction Opposition Mixed delivery gives the necessary flexibility Oscillations between mixed, contracting and direct delivery reflect continued market experimentation

US market mix in comparison to Spanish mixed firms PublicMixed Firm Mixed Contract Complete Contract Water Distribution 51 Sp 76 US Solid Waste Collection 37 Sp 45 US Data: 2002 US ICMA, 2003 Spain, Univ. of Barcelona Mixed firms can take advantage of monopoly and scale economies; privatization more stable in Spain Warner y Bel, 2008, “Competition or Monopoly?..” Public Administration forthcoming. Percent

Discussion

Government Service Delivery is Dynamic Governments Contract Out and Back-In This question is not asked directly. So we paired samples from adjacent survey years (628) (480) What do we know about the stability of contracts, of public delivery, and the level of new contracts and reversals? Hefetz and Warner Local Government Studies, update of Hefetz and Warner 2004, Journal of Public Administration Research and Theory

Service Delivery is Dynamic Shift: Contracting Back In > New Contracting Average percent of total provision across all places. Source: International City/ County Management Association, Profile of Alternative Service Delivery Approaches, Survey Data, 1992, 1997, 2002, Washington DC. Paired sample size: : 628, : 480.

New Contracting Out is Dropping Contracting Back-In is Rising Percent governments using for at least one service Source: International City/ County Management Association, Profile of Alternative Service Delivery Approaches, Paired Survey Data, N = 628, N= 480

Contracted Services Are Unstable New Out “Top 10”Back In “Top 10” *Legal Services*Fleet Management *Street Repair Traffic Sign*Park Landscaping *Building Maintenance*Recreation *Data Processing*Public Relations *RecreationData Processing *Park Landscaping*Building Maintenance *Street RepairEmergency Medical *Tree TrimmingSnow Plowing SludgeAnimal Control Top ten services *top ten Source: International City/ County Management Association, Profile of Alt. Service Delivery Approaches, Paired Survey Data, N= 480

Why Contract Back-In? ICMA survey governments reporting 73% Service quality was not satisfactory 51% Cost savings were insufficient 36% Local government efficiency improved 22% Strong political support to bring service back in house 15% Problems with contract specification

What Explains the Direction of Contracting: New and Reverse? Principal Agent Theory – labor opposition and budget maximizing bureaucrats. Market Failure – creates public services Transaction Costs– contract specification, information, monitoring. Citizen Voice – Government’s primary concern is to ensure citizen deliberation and secure public values Social Choice – combines market with public production. This balance creates a more capable, responsible and flexible system.

Social Choice Structure the Market Contract Management Service Characteristics New Public Management Market and Consumer Assure Citizen Voice Communications Management Place Characteristics New Public Service Voice and Diversity

Probit Model Respondents to both surveys ICMA data (621 municipalities) (480 municipalities) Dependent Variables: Level of new contracting out and reverse contracting (back-in) Results Transaction Costs and New Public Management explain levels in the first period New Public Service and Social Choice explain levels in the second period

Balance: Market and Government Government must structure the market Competition is not secured, monitoring and contract specification are important Government has more objectives than just efficiency Equity and voice are more important Public managers must secure public values Service quality, local identity, sustainability Social Choice represents a balanced position – gives benefits of market and public sector

Discussion

New Challenges: International Governance Regimes Free Trade Agreements (GATS, NAFTA) Promote Privatization but undermine Coasian Requirements Clear Property Rights – Superior Property Rights for Foreign Investors (compensation for regulatory takings) Adjudicatory Mechanism – Substitute private arbitration for the public courts Balanced Bargaining Position – Local government regulations subject to international harmonization and foreign investor challenge Gerbasi and Warner 2007, Administration and Society Ironically, these features undermine the ability of local government to use private markets for public goods delivery

Discussion

Old Questions – Current Results Privatization and Efficiency Privatization and Voice/Access Managerial Opposition Market Solutions to Regionalism Alternatives to Privatization

1. What About Efficiency? Bel, Fajeda and Warner 2008 Meta Analysis of all econometric studies of water distribution and solid waste collection ( ) Can not confirm privatization results in lower costs Consistent with earlier meta analyses by Boyne and Hodge Policy environment matters – UK more likely to find cost savings in waste due to competitive tendering

Why No Cost Savings? Property Rights Theory – Private owners will reduce service quality to increase profits (can’t do this in water since standards closely regulated) Transactions Costs Theory – Cost of contracting and monitoring higher than any savings Public Choice Theory – Competition is key; but water is a natural monopoly and waste has consolidated Industrial Organization Theory – Must look at organizational structure and incentives of actors Government regulation of monopoly may be better than competitive market management for these services

II. What about Voice? Update of Urban Affairs Review article 2002 Public choice theory argues market solutions enhance public sector efficiency and promote consumer/citizen voice. Competition promotes efficiency. Promoting consumer sovereignty enhances citizen voice. Are competitive markets and consumer sovereignty adequate foundations for service delivery reform?

Results Hipp and Warner 2007, Social Policy and Administration – Job training vouchers, US and Germany. Preference misalignment and information asymmetries lead to poor choices by job seekers. Government efforts to reduce these problems through closer monitoring undermine private supply of training Warner and Hefetz 2002, Urban Affairs Review, Warner 2006, Revista de Economia Pública Urbana Efficiency: Cooperation and privatization associated with lower expenditures if governments monitor. Equity: Privatization favors richer places, Cooperation is neutral. Voice: Cooperation more associated with citizen voice than privatization in 1992 and Managers learn to give increased attention to voice under privatization by 2002.

III. What About Managerial Opposition? Do government managers and labor opposition limit privatization? Management attitudes, monitoring, opposition Or is it a result of structural features of markets? Scale and cost considerations, income Used discriminant analysis to determine if restructuring patterns differed by metro status. (N=1400 municipalities in1992 and 1997, 1100 in 2002)

Model Results Structural features are more important than management in explaining differing restructuring patterns by metro status. Explained more than 80% of variance in all three models Government management, labor opposition and monitoring explained less than 20% of variance in all three models. Level of motivators and obstacles drop in 2002 and monitoring rises. Warner and Hefetz 2003 Government and Policy, Warner 2006 Social Policy and Administration

IV. Are Markets a Solution to Regionalism? Fragmented metropolitan areas make regional integration of service delivery difficult. Local government boundaries do not coincide with the economic boundaries of the metro area. Political fragmentation leads to inequity High need inner city Low need but higher tax base suburbs. Planners’ ideal solution - regionalism Political consolidation politically unpopular. Representative regional government is rare. Market solutions to regionalism are common Privatization and inter-municipal cooperation

Results Warner 2006, Social Policy and Administration Discriminant analysis shows market solutions are biased against rural places. Suburbs have wider range of choice in market approaches - use both inter-municipal cooperation and privatization. Warner, 2006 Urban Public Economics Review Levels of privatization and cooperation are dropping Explained by problems with efficiency, accountability and citizen satisfaction

V. Alternatives to Privatization Bel, Hebdon and Warner Privatization and Its Alternatives, Local Government Studies, special issue Factors Explaining Privatization (Bel and Fageda) Municipal Corporations, hybrid public/private firms (Tavares and Camoes, Warner and Bel) Market management – reverse privatization (Hefetz and Warner) Relational Contracts – trust (Brown et al) or collusion (Dijkgraaf and Gradus)? Local vs National Differences (Fitch) Bel and Warner 2008, Challenging Issues in Local Privatization, Government and Policy, special issue Lack of Cost Savings (Bel and Warner), Regulatory Policy (Miralles, Dijkgraaf and Gradus), Contract Instability (Brown et al), Regional Variation (Hebdon and Jalette)

Future Research Must look beyond privatization – at a broader set of reform alternatives Address importance of market structuring and regulation Pay attention to citizen participation and political interests Local government must balance political, economic, regulatory roles Social choice represents a balanced position

Discussion