The Public Wealth of Nations

How Management of Public Assets Can Boost or Bust Economic Growth

Dag Detter, Stefan Fölster, D. Detter, S. Fölster

• Publisher: Palgrave Macmillan
• Year: 2016
• Print ISBN: 9781349704903, 9781137519849
• eBook ISBN: 9781137519863
• Topic: Social Sciences
• Subtopic: Business Ethics
• Index: Social Sciences

We have spent the last three decades engaged in a pointless and irrelevant debate about the relative merits of privatization or nationalization. We have been arguing about the wrong thing while sitting on a goldmine of assets.

Don't worry about who owns those assets, worry about whether they are managed effectively.

Why does this matter? Because despite the Thatcher/ Reagan economic revolution, the largest pool of wealth in the world – a global total that is much larger than the world's total pensions savings, and ten times the total of all the sovereign wealth funds on the planet – is still comprised of commercial assets that are held in public ownership. If professionally managed, they could generate an annual yield of 2.7 trillion dollars, more than current global spending on infrastructure: transport, power, water, and communications.

Based on both economic research and hands-on experience from many countries, the authors argue that publicly owned commercial assets need to be taken out of the direct and distorting control of politicians and placed under professional management in a 'National Wealth Fund' or its local government equivalent. Such a move would trigger much-needed structural reforms in national economies, thus resurrect strained government finances, bolster ailing economic growth, and improve the fabric of democratic institutions.

This radical, reforming book was named one of the "Books of the Year".by both the FT and The Economist.

chapter 1

What can public wealth do for you?

The single largest owner of wealth in nearly every country is not a private company or an individual like Bill Gates, Carlos Slim, or Warren Buffet. The largest owner of wealth is all of us collectively – you and your fellow taxpayers. And we all have our own personal wealth manager, who we usually call “the government.” As far as we can calculate, governments own a larger stock of assets than all very wealthy individuals put together, and even more than all pension funds, or all private equity funds.

What is more, most governments have more wealth than they are aware of, including the many nations caught in the grip of debt crises. Many of these troubled countries own thousands of firms, land titles, and other assets, which they have not bothered to value, let alone manage for the common good. Public wealth is like an iceberg, with only the tip visible above the surface.

For decades, a phony war has raged between those in favor of public ownership and those who see privatization as the only solution. We argue that this polarized debate is partly to blame for neglect of a more important issue – the quality of public asset governance. This makes all the difference to how well public wealth delivers value to its owners – the citizens. Even public assets that are privatized can achieve widely differing outcomes depending on the quality of government regulation, the privatization process, and the competence of private owners. The price for the phony war between privatizers and statists has been lack of transparency, financial waste, and underperformance in the public sector. The only winners are vested interests on both sides of the debate.

In this book, we will argue that how public wealth is governed is one of the crucial institutional building blocks that divides well-run countries from failed states. In fact, the governance of public wealth is not merely a matter of how efficiently state-run companies deliver. Unchecked, public wealth can ruin entire countries and undermine democracy as well. Public wealth can be a curse if it is left as an open cookie jar, tempting its overseers into corruption and clientelism. Even in successful countries like the US, which are, by and large, well organized, public wealth invites democratic perversion that can incite huge policy failures and impose unreasonable hardship and social costs on at least some of its people.

We will argue that democracy is at its best when governments have little direct access to public wealth. This does not mean that all wealth needs to be privatized. The process of privatization itself offers tempting opportunities for quick enrichment, thus risking crony capitalism, outright corruption, or dysfunctional regulation.

We will provide examples of how countries have removed the governance of public wealth from politicians’ direct ambit. Freeing governments from having to run public firms changes their mission and focus. Wily politicians will hardly act as consumer activists if they know they are in charge of public companies that fail to deliver, and will have to live up to higher expectations. Freeing politicians from administering public wealth allows them to squarely align themselves with the citizens, formulating expectations, goals, demands, and, where needed, also regulations that attenuate market failures. This goes to the heart of a well-functioning democracy – accountability, transparency, and disclosure.

The most visible public wealth holders are government-owned corporates held by the central government, often called state-owned enterprises (SOEs). Among the world’s 2,000 largest companies, SOEs represent 11% of market capitalization of all listed companies worldwide.¹ Several emerging markets, led by Russia and China, have thousands of SOEs. Others, such as Brazil, India, Poland, and South Africa, have several hundred SOEs at the national level. In addition, many countries have thousands of publicly owned corporations at the state/regional and local level.

The central governments of most European countries own dozens or hundreds of large, well-known companies, while countries like Australia and New Zealand have relatively few SOEs. Less visible are the many government-owned corporates, or corporate-like assets owned at a regional and local level. Some of these are proper corporates, but more often they are disguised as various legal entities, but sell commercial services paid for by clients and consumers.

Beyond the corporate organizations owned by governments at different levels lie vast stretches of productive real estate – by far the largest component in public wealth portfolios. More than two-thirds of all public wealth ownership remains opaque – large holdings are owned by local and regional governments or quasi-governmental organizations that are formally independent, but are actually controlled by politician board members. Local savings banks often work like that.

A definition of public wealth

Our definition of public wealth is the sum of the public assets owned by government, namely:

• pure financial assets, such as bank holdings or pension funds

• public commercial assets, such as firms and commercial real estate

• public noncommercial assets, such as roads

• minus government debt.

We use “public” in the financial sense, meaning the wealth owned by various levels of government. It is important to note that “public assets” should not be confused with “public property,” which normally refers to assets and resources that are available to the entire public for use, such as public parks.

This book concentrates on public commercial assets, by which we mean assets or operations generating an income (mainly non-tax-based) that could be given some kind of market value if properly structured and used. Typical examples include:

• corporations – typically SOEs

• financial institutions

• real estate

• infrastructure – where toll-based or PPP-related

• noncorporatized commercial activity (e.g. the sale of geographical data or a water utility).

Our definition of public wealth comprises all levels of government – central, regional, and local. However, most statistics or attempts to value public wealth ignore the regional and local level, or capture it only in part.

We generally exclude from our estimates of public assets public noncommercial assets such as national parks, historic buildings, or non-toll-generating roads. Some of the chapters, however, discuss how even these often can be managed in ways that generate higher social value.

Outside our definition of public wealth, we sometimes refer to and discuss quasi-governmental organizations, such as the US home mortgage institutions Fannie Mae and Freddie Mac, or formally independent local savings banks in many countries with local politicians on their boards.

More than 25% of all land in the US is owned by the federal government. Along with all this land, it holds buildings with a book value of $1.5 trillion. In addition, state and local government assets amount to four times these federal holdings, that is, $6 trillion, according to a cautious estimate by the International Monetary Fund.²

The US General Accounting Office (GAO), the government spending watchdog, found that “many [federal] assets are in an alarming state of deterioration,” noting that the federal government has “many assets it does not need.”³ These include billions of dollars’ worth of excess, or vacant buildings. The federal government spends billions of dollars each year maintaining excess facilities in the Departments of Defense, Energy, and Veterans Affairs.

The total worldwide public wealth in government hands, conservatively calculated, is so vast that a higher return of just 1% would add some US$750 billion annually to public revenues.⁴ That’s a sum equivalent to the GDP of Saudi Arabia. We argue that the professional management of public commercial wealth among central governments could easily raise returns by as much as 3.5%, to generate an extra $2.7 trillion worldwide. This is more than the total current global spending on national infrastructure – for transport, power, water, and communications combined.⁵

In the US, for every 1% increase in yield from the federal government asset portfolio, total taxes could be lowered by 4%. This alone should make every individual citizen, taxpayer, investor, financial analyst, and stakeholder stand up and pay attention. And it should spur demand for action.

As an illustration of the huge difference the governance of public wealth can make, we can look at Panama after the US turned over the management of the Panama Canal Zone in 1977 to the government of Panama. One of the most highly indebted nations in the world at the time now held a potential goldmine. Property within the Canal Zone was an attractive location for many international firms and, in fact, the property value alone at that time was enough to cover Panama’s entire national debt. That is, if it had been managed in a professional and commercial way. With a proper focus on value maximization, the Panamanian government could have monetized this attractive asset by renting or selling off attractive parcels. Instead, this opportunity was wasted, with much of the land being overrun by vested interests and used as municipal garbage dumps, informal unregulated housing, and noneconomic military use.⁶ In recent years, however, the Panama Canal Authority has become much more efficient and has started to develop the area around the canal, also creating the Colón Free Trade Zone.

Many cities and states in rich countries like the US have similarly mismanaged land holdings that could be an integral part of public finance and used to lower taxes or pay for vital infrastructure. Countries like Greece and Italy, currently in the throes of a financial and fiscal crisis, could use their considerable public assets to help pull themselves out of their bind – without even selling these assets.

Better management is not just about financial returns, but other important social gains as well. Vito Tanzi,⁷ an Italian economist, and his co-author Tej Prakash illustrated the misuse of public assets with two examples of schools located in prime property locations, one in Rio de Janeiro, squeezed in between the large hotels on the splendid avenue next to the famous Copacabana beach, and another in the heart of Bethesda, Maryland, established in 1789 when the area was agricultural and the land inexpensive. A relocation of the schools only a few blocks away would bless pupils with a quieter, healthier, and more peaceful study environment. The sale of the more expensive property could be used to hire more teachers. On top of that, new real estate investment on the current school site would raise national income and tax revenue.

The traditional public sector approach to budgeting almost guarantees the misuse of public commercial assets. Most countries do not have a comprehensive register of public assets (a cadaster). Many governments, be they national, local or regional, would not be able to list, never mind describe, the assets they own and their market value. This makes it difficult to manage these assets in a way that exploits synergies and alternative uses of public assets. Often, decisions are more emotive, such as when, in 1983, President Mitterrand of France decided to move the Ministry of Finance from the Louvre after almost 200 years, to give more space to the Museum of the Louvre.

Alas, all too often, the management of public assets is not conducted in people’s best interests. This may come as no surprise in countries where governments are not elected by the people, or are downright kleptocratic. Yet, even democratically run countries rarely take decisions that ideally reflect the people’s will or best interests. The institutional governing setup makes all the difference. Greece and Switzerland, for example, are geographically very close and both are democracies. Yet Switzerland, with solid institutions, is one of Europe’s richest countries, while Greece is one of the poorest, thanks to dysfunctional institutions.

We argue in this book that democracy has the best chance of working in the public interest when governments are restricted from direct access to public wealth. This does not mean that all wealth must be privatized. The process of privatization itself offers tempting opportunities for quick enrichment, risking crony capitalism, outright corruption, counterproductive regulations, and selling assets at big discounts to placate vested interests.

To some extent, techniques for better management can be borrowed from the best in corporate management. This would include transparency, proper accounting, and realistic balance sheets.⁸ We will describe empirical proof that better management techniques make a big difference, and tend to be more common in private firms, especially those that are exposed to competition. Yet, the management of public assets must also work in a political environment, and sometimes respond to social aims beyond financial returns. Much of this book is concerned with analyzing the institutional setups that support the professional governance of public assets by politically steered governments.

The resistance against more commercial governance of public assets shows many similarities with the historical resistance against professional sports. Vested interests long held amateurism in sports as the ideal, until finally, in the early 21st century, the Olympic Games and all the major team sports accepted professional competitors. Today’s professionals have taken almost all games to a different level and created a range of multi-billion dollar industries in the process. At the same time, many will probably lament the excesses and misguided incentives that sometimes occur in professional sports. The key in the governance of public wealth is to combine the best of private enterprise management methods with mechanisms that guarantee the pursuit of countries’ social aims.

Removing the governance of public wealth from direct government control allows them to concentrate on running their country rather than running a number of public firms. They can then align themselves squarely with consumers and the general public in monitoring performance, and, where needed, implement regulations to attenuate market failures. The holy grail of public commercial asset management is an institutional arrangement that detaches management concerns from direct government responsibility, and simultaneously encourages active governance designed to create greater societal and financial value. Institutional structures that achieve this also help provide a firmer foundation for sound democracy.

In particular, we delve into how some nations successfully manage their commercial assets using professional wealth managers working with a measure of political independence in national wealth funds (NWFs), or similar arrangements. NWFs enable transparency. Debt ratings for these enable independent borrowing that optimizes capital structure and maximizes value. Public listing is also possible, providing the ultimate form of transparency, while broadening the shareholder base and potentially maximizing value to the taxpayer.

Despite the successful examples, only a small percentage of global public commercial assets are managed in these independent and more transparent NWFs, that is, at arm’s length from daily political winds. Instead, the vast bulk of public wealth is managed by civil servants inside the government bureaucracy and held in various forms of conglomerates. At best, this is a bureaucratic system designed for handling the allocation of tax money. At worst, it is an arena for political meddling and, occasionally, downright profiteering. Publically owned commercial assets that remain hidden with no transparent economic value are at risk of being whittled away.

The honey trap of public wealth

A common misconception is that a rich state is a strong state. One might think of authoritarian states, such as Russia, where the state controls a third of the local stock market capitalization. Or China, where the government owns four out of f...

Table of contents

• Cover
• Title
• Copyright
• Contents
• List of figures and tables
• Foreword
• List of abbreviations
• 1 What can public wealth do for you?
• 2 Don’t bite the hand that feeds you: the cost of poor governance
• 3 How poorly governed state-run businesses can ruin the economy and politics
• 4 The size and potential of public wealth
• 5 Politicians as consumer advocates instead of quasi-capitalists
• 6 Early attempts to reform governance of public wealth
• 7 Swedish pioneers: from active to “hands-off” governance
• 8 Hands-on” but independent governance: the innovator from Singapore
• 9 Monetizing value improves democracy and yields
• 10 The transition to national wealth funds
• 11 Strategies for creating value
• 12 Lessons for future national wealth funds
• 13 We all want to build roads now, but can we afford it?
• 14 From decay to governance in the public interest
• Notes
• References
• Index