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The Power of State-Owned Enterprise
The Power of State-Owned Enterprise

“…failure comes from resisting that which works best…in favour of some systematic method or principle claiming universal validity…” Isaiah Berlin

The second half of the 20th century, with its great battle between east and west, taught us to treat capitalism and socialism as monolithic opposing forces. In the models this presented, any economy ran purely on private enterprise or government control – state and business were separate things.

In reality, state-owned enterprises (SOE) provide a mixed model for business, with as many successes and failures as private enterprise.

The Shape of State-Owned Enterprise

For many people, the phrase “state-owned enterprise” conjures up an image of a lumbering, inflexible organization, a business bogged down by bureaucracy and governed by the whims of politics. Something that exists solely beneath the control hand of government.

The modern reality is different. A state-owned enterprise can be anything from a new company set up to fill a neglected niche to a private company rescued from disaster, as happened with several banks after 2008. Some of these companies are owned entirely by government, but in others the state is a part or majority owner, with private investment providing other funds and dynamic direction. For example, the Saudi government owns 70% of manufacturing company SABIC.

That dynamism is part of the point of state-owned enterprises. They’re not just an attempt by government to do the same things as corporations. They’re an attempt by government to make use of the tools, techniques, and expertise available to the corporate sector, an opportunity to turn private practice to public service.

Successful State-Owned Enterprises

Nowhere has embraced this approach more enthusiastically than China. There, the Communist government uses state-owned enterprise to experiment with the tools of capitalism. Of 98 Chinese companies that were in Fortune’s Global 500 list in 2015, only 22 are privately owned. Everything from infrastructure fundamentals like steel and cement through to investment funds are run by the state, and Chinese SOE is worth over $29 trillion. Despite constant outside criticism of this arrangement’s effect on competition, it has supported China in a period of colossal growth.

Singapore has a similar situation, with the state involved not just in critical services like power, post, and engineering, but also areas like real estate and air travel. The government owns 90% of the land, provides 85% of housing stock, and state-owned enterprises create 22% of GDP. But the model there is different. Instead of being directly owned by the government, SOE is run through wealth fund Temasek Holdings – a fund with revenue over $75 billion, or more than 18% of Singapore’s GDP. Despite the scale of this operation, politicians don’t appoint senior managers or set the direction of companies as they do in China. In Singapore, SOE is more independent.

Contrary to hardline free market thinking, companies have proved successful under both of these models. Government ownership is sometimes helpful, as it can provide the companies with extra stability, while the tools of business help to provide well-run services.

Failed State-Owned Enterprise

Of course, not every case is a success.

In France, where a special state agency runs holdings in around 70 firms, recent years have seen serious criticism of state involvement. In 2016, the government spent €500 million on unnecessary high-speed trains to keep an Alstom engineering plant active, rather than let that company falter. As a way of spending money, it was clearly misguided. This caused political controversy over how far state action should go, bringing demands for more private enterprise.

In South Africa, SOE dates back to the late 19th century. It was used to achieve big advances, such as establishing a national power grid, but relied on foreign capital and a disenfranchised workforce. Economic changes since the end of apartheid have made it harder for state companies to flourish. The government has sometimes struggled to finance SOE, leading to calls for radical restructuring.

Such failures usually lead to demands for privatization. But Britain’s railway system, worth $42 billion per year, has shown that this is no magic bullet. The railways were run as a SOE from the late 1940s to the mid 1990s, when they were privatized to reduce costs and improve services. Contrary to these aims, travel prices have risen 20% in real terms and many services have failed to keep up with demand, despite government putting in £5 billion per year. In recent years, elements of the rail network have gone in and out of government hands as private owners have been unable to provide reliable public transport.

While SOE has sometimes failed, private enterprise has failed to meet its goals in many of the same spaces.

What Makes a State-Owned Enterprise Work?

So what distinguishes a successful SOE?

Part of it is context. State investment in electricity and transport can provide a boost to growth in industrializing countries, and so may be useful as a short- to medium-term measure. According to OECD research, infrastructure companies represent over 50% of SOE by value and 70% by employment. It’s notable that China, the SOE powerhouse, has been moving towards a more competitive model and considering reform of SOE now that its economy has grown in strength. SOE has fueled a massive wave of growth, but some in China believe that more private enterprise is needed to maintain that growth in this later stage.

The value of SOE may depend on whether there are good conditions for private enterprise. Lack of regulation meant that privatization programs in both Russia and Mexico went badly, with individuals and companies abusing their power. Without regulation, greed and corruption run riot. If the pieces aren’t in place for fruitful competition, then SOE may be the better option.

SOE can also provide a valuable critique to the extremes of economic libertarianism. The Chinese government distinguishes between investment that generates new economic activity and “fake” investment that profits simply by shifting money between assets. To avoid the latter sort of investment, it has chosen not to embrace the Singapore model, despite financial arguments in its favor. A well-run SOE can make these sorts of distinctions, sacrificing short-term profit for solid long-term growth.

But in a functioning capitalist economy, the success of SOE depends on how the government behaves. Norway, which has 74 SOEs, has set the standard with successful integration of SOE into wider markets. There, the government behaves like a good business owner, instead of forcing companies to bend with the political wind. By treating other shareholders as equals, separating its regulatory and ownership roles, and behaving like a good manager, the Norwegian government has seen great success, growing its sovereign wealth fund to over $570 billion in value.

It turns out that the key to SOE isn’t anything unconventional – it’s good business leadership.

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