By Charitha Ratwatte –
What of Sri Lanka’s SOEs?
When the economies of the Western world went into crisis mode in 2007 and 2008, in the emerging economies, state capitalism was seen as the solution. Sovereign wealth funds which had gathered resources in the years before invested in state commercial ventures. Also a new hybrid, involving State plus private capital combining together was launched.
Earlier when SOEs were privatised, the State sold out its entire stake. However, this time around, private investors were invited to take a minority investment, playing a subordinate role, with the State keeping a controlling stake in the business and supposedly making enlightened business decisions in the best interest of the business and the State as well as the private investors.
The model was similar in many ways to the Ceylon Hotels Corporation when originally launched, a joint venture between the Government and private investors, with the government holding a controlling interest. This experiment was a failure and after many unsuccessful years, the Government finally saw the light and sold out its stake to private investors.
Notwithstanding this failure staring it in the face, the Government continues to buy into private enterprises, using captive state Sunds like the EPF and the ETF and other funds and enterprises the Government controls such as the Insurance Corporation and commercial banks, which Government nominees continue to mismanage. How long this sad situation will continue nobody knows. May be the pending presidential election will give the answer.
One hopes so, as for example, the recent reduction in global oil prices has not been allowed to provide any relief to the Ceylon Petroleum Corporation, of hedging scam fame, a serial loss maker. The State has directed the CPC to pass on the price reduction direct to the consumer, and continue to make losses. For which, ultimately the taxpayer – consumer – will pay!
State and private JVs worldwide
State and private joint ventures worldwide such as Russia’s Gazprom, China’s China Mobile, Brazil’s Petrobras and Vale, state-controlled entities, which were once hot favourites of private investors, have all crashed in value.
In economies across the world, large SOEs listed on the stock markets raised mountains of equity of Himalayan proportions after floatation. In 2007 these joint venture enterprises had a 22% share of the global market capitalisation.
Today that has shrunk to 13%. What happened?
As trade surpluses and commodity prices have fallen, Sovereign Wealth Funds (SWF) accumulation of surplus cash has slowed down. In 2013, their investments worldwide was approximately $ 50 billion, half of what it was in 2008. Crashing commodity prices have negatively affected energy and mining firms. Sanctions imposed on Russia by the Western nations due to its interventions in Ukraine have affected Russian corporates.
In Brazil, allegations of bribery and corruption has played havoc with Petrobras. Brazilian Police raided its head office in November this year. Former executives of the firm have been arrested and its accounts may have to be restated. In 2010, Petrobras was held up as an example of Brazil’s economic power. It conducted the world’s largest equity raising in history, to raise funds for the exploitation of new oil fields discovered off Brazil’s coast. In China too, corruption allegations have resulted in the arrest of Jiang Jiemin, PetroChina’s former CEO.
Misallocation of investment capital
Some analysts feel that the basic cause of the disappointing performance is due to a massive misallocation of investment capital by the SOEs. Driven by a corrupt and expansionist political class, who wanted to portray the expansion of state capitalism, controlled by them, and with private investors views being not being heard, the capital investment of these SOEs went through the metaphorical ceiling, accounting for over 30% of the global total by large firms listed on the world’s stock exchanges.
Since 2007 for example, it is estimated that more than $ 2.5 trillion has been dumped into hydro carbon fields, telecom networks and other projects by SOEs. For example, Russia’s Gazprom built an alpine ski resort for the Sochi winter Olympics. One is reminded of reports that the National Savings Bank of Sri Lanka has taken a loan from a Chinese Bank to build a medical school for the Kotalawela Defence Academy, in similar vein!
Etisalat of the UAE, a telco giant, busted $ 800 million on an investment in India, whose operating license was cancelled by the Indian authorities after a bribery inquiry. The State banks in China, India, Russia and Brazil and Vietnam were under political orders to continue to lend to these broke and busted SOEs to cushion the slowdown. The resulting bad debts are being recognised only now.
A case study which reflects the crisis faced by many emerging economies is the situation in Vietnam. State-owned companies account for over one-third of Vietnam’s GDP. The industries vary – from finance to textiles to seafood processing to ship building. Some like Vinamilk, a dairy firm, have attracted a number of foreign investors. Foreign investors have also bought about half the shares in Vinatex, a big textile firm.
The Vietnam Government says it wishes to ‘equitise’ more such State-owned enterprises. Recently it launched an IPO for Vietnam Airlines, 3.5% of the shares were put on sale. The Government hoped to attract foreign investors, but the foreigners did not respond. The reason analysts say is the opaque bureaucracy in most Vietnamese SOEs make them open for graft and mismanagement. In Vietnam’s National Shipping Line, last year two executives were sentenced to death on corruption charges.
In the medium and long term, equitisation is the only way the Vietnamese SOEs could be made more efficient, whereby shareholding investors would monitor the performance and be more vigilant than the State officials and politicians in holding the executives of SOEs to account. As long as there is substantial State control, investors will fight shy of investment.
Equitisation and stock market listing
Governments have realised that equitisation and listing on the stock market is the only way in which SOE’s could be made more efficient and cost effective. Brazil’s Petrobas has a net debt equivalent to four times its gross operating profit.
Rosneft, a Russian oil firm, has to refinance $ 21 billion worth of bonds before April 2015. There is a growing realisation of the need.
China Mobile is talking of introducing incentive-based pay for its staff and awarding staff shares in the enterprise. They are also considering disaggregating the corporate entity and setting up stand-alone units to allow more space for creativity and innovation. India is taking steps to equitise Coal India, a notoriously inept State-owned monopolist. India also plans to sell the part of the Government (left with holding just 52%) stake in State banks to raise as much as $ 26 billion by 2019.
At the end of the day, the issue is: For whose benefit do SOEs run? For the general public or stakeholders including shareholders and investors or for politicians who control them? This fundamental question has to be first answered. Once a decision that reached that the interest of the public, stakeholders and investors is paramount, then the state should sell out either completely or a majority stake and hold a minority share.
The corporate will be managed by an entity which will be out of political control – a robust mechanism at arm’s length from rulers staffed by competent people, like in Temasek of Singapore, the Government of Singapore’s SWF, which holds the State’s investment. Until investors will fight shy of investing in SOEs as long as there is a government stake.
Historically, it was Jean-Baptiste Colbert, the Finance Minister of France’s Louis the XIV, who first invented the economic interventionism of the state, calling it dirigisme. Over time it has come to be an economic term designating an economy where the government exerts strong directive influence. It applies to mainly capitalist economies with strong economic participation by the government.
In the United States, with its AIG scandal, the Detroit car companies requesting Government assistance and bailout of banks, in the UK with the Government virtually nationalising banks, in France with the Government rescuing Renault and the PSA Peugeot Citroen, in China with the China Investment Corporation, a SWF, buying shares of Chinese banks on the open market, in Sri Lanka with Pramuka Bank depositors being compensated for taking hazardous risks and the
Government appointing managers to a host of rundown financial institutions, all with taxpayers’ money, the trend is clear. In Sri Lanka we also had the Bank of Ceylon backstopping Seylan Bank.
France’s former President Nicholas Sarkozy has declared: “The main feature of this crisis is the return of the state, the end of the ideology of public powerlessness.” This is the person who earlier had the courage to tell the French people the home-truths they did not care to hear: That they should work more, take more risks, promote more ethnic minorities, be nicer to America; that Sarkozy incarnation was not afraid to roll up his sleeves, confront his opponents and court unpopularity. What a transformation!
One wonders whether President Obama of the United States agrees with this. Witness the AIG executives who gleefully pocketed ‘retention’ bonuses from the taxpayers’ money and promptly decamped! Some end to public powerlessness! May be Congress legislating to recover the bonus money, or part of it, and the moral suasion, to return it, is the ‘public power fullness’ that Sarko is crowing about!
However, the fact remains that the state has become a major interventionist in capitalist economies, by taking over enterprises, trying to protect investors and various types of stimulus packages.
Take the example of China, for two decades after Deng Hsiao Ping declared that getting rich was acceptable, China pushed through a series of costly reforms to extract production from the hands of the State, big Government corporations were broken up, reconfigured or closed. Large industries were very cautiously privatised. Entrepreneurs, known as Red Capitalists, reigned supreme.
Shares were sold on foreign stock markets, making them at least nominally subject to the rules of good governance. Although China still remains a place where companies face heavy direct and indirect State control, there has been dramatic change as China has prospered and broader economic freedoms contributed to unprecedented economic growth and millions emerging out of poverty to the middle class.
While the reforms were being implemented, there was not much criticism from the Communist party and the bureaucracy. But once the economic crisis hit the Western economies the critics came out into the open, there was an intense criticism of capitalism as industry after industry, which had been privatised, went back to the Government for help. While banks collapse worldwide, China’s banks share prices have held, analysts suspect that the country’s many SWFs have been buying bank shares in the open market to bolster them.
China was a statist economy which was partially reformed, which is returning to some aspects of statism due to the economic crisis. However, there are exceptions; ZTE, China’s leading maker of microchips, is one. Zhong Xing Telecommunication Equipment Company (ZTE) is projected to be on par with Nokia and Samsung within a few years. It sells in 140 countries; revenues jumped 36% this year.
In 1985, the founder, an icon Red Capitalist, worked as an engineer in a factory owned by China’s Aerospace Ministry, in the boom following Deng Xiaoping’s opening up of China’s economy, the party allowed him to open a small State-owned factory. Now they operate like a private company.
At the Boao Forum for Asia, held on China’s Hainan Island in April 2010, China’s alternative to the World Economic Forum, the blossoming of China’s State-owned enterprises was discussed. The CEO of Tata Consultancy Services observed: “China is faster in execution, because it is State-driven; they just go after it immediately.”
But Professor Xiang Bing, Dean of the Cheung Kong Graduate School of Business in Beijing, said: “SOEs have a disadvantage, the curious mix of officialdom and business gives plenty of room for inefficiency, you have the misallocation of resources, time and money. Maintaining a good relationship with the government may be more important for the executives than the success of the SOE.”
Sri Lankans know this well. The view of decision makers in emerging economies on state capitalism is reflected by the Head of Russia’s Railways, Vladimir Yakunin, who in a letter to the Economist newspaper in September 2010, stated that “state capitalism of the Chinese kind simply works better”.
This statist rhetoric is combined in the minds of many proponents with extremely low expectations of what the state is supposed to accomplish. Accountability of the state to provide quality public services is not even considered within reach. Alibaba’s Jack Ma who recently listed his firm on the New York Stock Exchange is a the new role model in China.
Ian Bremmer, President of the Eurasia Group, in his book ‘The End of the Free Market: Who Wins the War Between States and Corporations?’ says: “As China gains dominance on the world’s stage, more and more multinational corporations will have to rethink their assumptions about competing under its state capitalism model – one in which the Government is the principle economic driver.”
He also cautions that “the China State Capitalism model is robust… because… 1.3 billion people at a per capita income of $ 3,000 still have extraordinary productivity gains that they can wring out of the system.” Bremmer also points out that “…you’re in a world system where the most important growing economy is not a mature, developed state with a commitment to the rule of law and strong institutions… It is an emerging market where political insecurities are the ultimate driver. Hence, state capitalism.”
France, on the other hand, the birth place of dirigisme, is an example of a liberal state which always gave the Government a big role in the economy. Prior to World War II, France had a relatively-fragmented capitalist economic system, which operated under traditional laissez-faire economic policies. Due to the devastation of the war, post-war governments sought rational efficient economic development. Their main tool was through a State planning process.
Former President Sarkozy once said: “I do not accept that cars that are sold in France are built abroad,” at a stroke torpedoing the principle of competition in the European single market. However, the French Government never owned more than a minority investment in the enterprises and generally did not seek to dictate the way a company reacted to the market; it certainly used incentives, but did not centrally direct, as in China.
This dirigisme flourished from 1945 to 1975. Subsequently there was a slowdown in growth until in 1983; dirigisme was renounced for more open market policies, which was gradually being done. When Sarkozy was campaigning for the presidency, he called for reforms to the French model, which, he said, produced less growth and more unemployment than elsewhere in Europe. He was just taking steps to reduce the size of Government, enhance competitiveness, reduce the power of the bureaucracy and loosen rigidities in the labour market, when the economic crisis hit France.
Sarkozy did an about-turn; he said it is not justified for a French car manufacturer to build a factory in the Czech Republic, just because they could build cars cheaper to sell in France. After a meeting with car manufacturers, Sarkozy announced that they had given a commitment not to close any factories in France as long they were operating on Government loans and would do everything they could to avoid layoffs. A classic case of back to the future! Sovereign wealth funds are another arm of state capitalism, combined with the effect of globalisation has governments investing their taxpayers’ funds in enterprises worldwide.
Sri Lanka has seen more recourse to State capitalist measures recently, but France’s dirigisme more than China’s return to statism seems the way we will go, given the recent actions of State agencies – our equivalent of captive SWFs.
Dr. Saman Kelegama, of the Institute of Policy Studies, speaking at the launch of the ESCAP Survey for 2010, pointed out that the losses incurred by the CEB, CPC, SLTB, Postal Department, Railways Department, SriLankan Airlines and Mihin Air totalled Rs. 45 billion. This is almost 1% of GDP.
The country simply cannot afford to continue this litany of inefficient, incompetent and loss-making State capitalism. The future path for Lanka’s SOEs is one matter the 2015 presidential election will decide.