An Overview of the Historical Use of Public Enterprise

The Development of Public Enterprise

January 14th

Crown Corporations They existed prior to Confederation The first was the public works board of

1841, to build the canal system in Upper Canada

Also used for the administration of harbors

The first major Crown was the CNR in 1918 Formed after the collapse of three railways

Crown Corps 1930s saw more

1932 CBC 1934 Bank of Canada, Canada Wheat

Board 1937 TransCanada Airlines (Air Canada)

Provinces were also involved early Ontario Hydro 1906 Telephones in the 1910s in most

provinces

WW II and Post War Era 28 wartime Crown Corporations established

employing some 230,000 people or more than one sixth of the entire manufacturing workforce.

At the end of the war some were sold to private investors, some were dismantled and the government retained ownership of some.

By the beginning of the 1950s there were only around 30 federal crown corporations

In 1952 the government passed the FAA which was to regulate the financial affairs of the Crown corporations and there relations with the federal government.

Crowns Canadian Nationalism saw another wave in

the 1960s Canada Council, National Arts Center, Canadian

Film Development Corporation National Film Board

There was another wave in the 1970s 50 Crowns created in the Trudeau era for job

creation , economic stabilization and nationalism

Petro Canada, Export Development Corporation, Cape Bretton Development Corporation etc.

Crowns Provinces got heavily involved in the

1970s Province building was facilitated by Crowns Sask and Quebec were the most active but

others were also involved Quebec was aimed a building a nation Sask had two eras in 1940 and 1970s, one was

utility based the other was resource based. A reasonable return for resource ownership

All provinces use them for a variety of policy purposes

Federalism was a factor Federalism changing from the old

centralized version of the war years and immediate war years to one in which the provinces began to challenge Ottawa.

Provinces were not happy with Ottawa imposing its priorities on them

 PE appeared attractive to governments with concerns about jobs, regional economic diversification, and export promotion.

Federalism Job creation and economic stabilization were the

reason the federal government created the Cape Breton Development Crorporation

Provincial governments were equally aggressive “Province-building” was the response to uneven

development due to the nature of the market. Provincial government wanted to ensure that the

province realized an appropriate return form its ownership of natural resources

 All provincial government established development corporations to attract industry to their jurisdiction.

Public enterprise First and Second Generation Public

Enterprise created since 1945 First Generation: created passively and

actively Passive: industries in decline, prevent the

collapse of economy after the war Active : Nationalization of the

“commanding heights” some of it was punative dealing with wartime collaborators

Public Enterprise

Five Basic Reason for the First Generation of Public Enterprise 1) socialist economic policy 2) social and consumer interest 3) salvage uncompetitive businesses 4) punitive nationalizations of

wartime collaborators 5) promotion of advanced technology

Only two and five give guidelines

Public enterprise

With strong Keynsian policy, public enterprise declined because of: New emphasis on direct expenditure Direct stimulus through monetary and

fiscal policy But by late 1960s and early 1970s,

a second generation emerged with participation in viable rather than failing businesses

Public Enterprise Why? Two reasons

Contradiction in the pattern of national economic growth

Structural unemployment, regional unemployment, and sectoral under investment

Changing International Political Economy EU, multinational corporations, need for equity

finance to deal with external competition Reassert control of the economy.

State Intervention in Canada Government always plays a role in the

economy Transportation infrastructure Intervention came in the form of outright

construction and the bailout of bankrupt firms Canada’s role as a producer of staples,

distorted economic structures Created rigidity and over-investment in

transportation infrastructure Canadian economy subject to violent shifts in

international economy

State Intervention in Canada Canada has lots of resources, but

great distances thus transportation is crucial

As a colony, Canada also lacked a strong free enterprise spirit and accepted state intervention

As a late industrializing nation Capital accumulates too slowly thus state involvement was necessary

State Intervention in Canada Canada also has a problem with

dependent industrialization We lag behind the US due to staples economy American aggressiveness lead to “defensive

expansionism” The role of the state was a challenge to the US Need for state interaction based on economic

stimulus and territorial integration. Provinces joined in with cheap power and

telephones and rural electrification

State Intervention in Canada

Some have argued that Canada was a public enterprise nation

This is how we built the nation Canadian business have been quick to

press for government intervention and assistance in economic ventures

All explanations rely on some geopolitical explanation for the large role of the state Geography, climate, small populations,

insulation against American interests all point to “defensive expansionism.

Economic Development and State Intervention

What explains public enterprise in areas of production Petro-Canada, Aircraft Manufacturing, etc

Three Factors 1) trade dependent with weak

manufacturing Relied on import substitution

2) reliance on imported production processes

3) federal system of government with uneven regional development

Public enterprise Not all market failure have resulted in

public enterprise Each country and province has a

calculus of instrument choice but some regularities exist

Found in similar sectors: postal service; railway; telecommunications;

gas; electricity; airlines

Public enterprises Ownership of the residual interest in state enterprises

is compulsory for taxpayers and is non-transferable Ownership by government means interest is typically

very heterogeneous. Governments represent different groups with very

different and often conflicting interests in the enterprises. By contrast, owners of private enterprises typically have a

single homogeneous interest, the value of the firms and hence their equity.

Government is no ordinary owner. Governments can and typically do – use their regulatory and taxing powers to extend special privileges to their own enterprises.

This is a common feature of SOE’s they are given special privileges and have non-commercial obligations placed upon them.

Public Enterprises Mixed objectives: Multiple principles

They are typically asked to meet non-commercial as well as commercial objectives.

The list of non-commercial objectives is very divers

1. redistributing income

2. subsidising particular regions and sectors3. earning foreign exchange4. generating employment5. increasing the probability that the government in

power will be re-elected.  

Multiple Objectives

Some have only commercial objectives, but most face conflicting or multiple objectives.

A focus on commercial objectives are either not implemented or do not persist.

 Statutory objectives: Few PEs are given only commercial objectives when

they are established. Most PEs are established with vague or conflicting

objectives. Mixed objectives and weak taxpayer interest in

commercial performance give management, and their political masters, considerable scope to be responsive to groups with a politically active interest in the operation of the enterprise.

Public Enterprise Ongoing intervention in SOE

management More than objectives is the influence of

legislative intervention Ministers have powerful format powers such

as to appoint and remove board members, to give direction of a general character to management and to approve significant financial commitments.

There are also significant informal powers?

Evidence on Public Enterprise Behaviour Evidence suggest that PEs place

considerable weight on non-commercial objectives.

Studies of production, pricing, employment and investment decisions of PEs suggest that they are responsive to groups with a politically active interest in the operation of the enterprise. Consumers, suppliers, employees have more

power than taxpayers.

Special Privileges: The Problem of Commitment

There are may special privileges extended to public enterprise Protection from competition

Under priced natural resourcesTax exemptionsLower financing costs and or sales preferences from government

Special Privileges Special advantages may not give public

enterprise a competitive advantage Because of the special burden imposed by non-

commercial objectives. The fact that PEs have to meet costly non-

commercial objectives is likely to be the reason that they are extended special privileges in the first place.

Governments may also choose to extend privileges or benefits to private firms faced with collapse 

a government can extend privileges to private enterprises and regulated private enterprise is often the practical alternative to public ownership.

Why Choose Public Enterprise

Four reasons why legislators might prefer SOEs over subsidised or regulated private providers.

1. It may in some cases be difficult to define or reach any agreement on the exact nature of non-commercial objectives.

Non-commercial objectives may become clearer over time, of they may evolve over time, and legislators know that it will be easier to interfere in the affairs of public enterprise than private enterprise.

 

Why Choose Public Enterprise

2) The redistribution achieved by a PE through pricing, purchasing, production, employment and investment decisions is typically less transparent than it would be with either subsidy or regulation

SOEs transfer is less transparent

3)  Private enterprise will weaken the position of the residual claimant relative to other groups with an interest in the enterprise.

private firms will want to return to shareholders as much of the benefits generated by the special privileges as then can and do as little to meet non-commercial objectives as they can get away with. SOEs can reduce agency costs?

Why Choose Public enterprise

4) The commitment problem: Private enterprise is much more adversely

affected by the political uncertainty surrounding the durability of special privileges for at least two reasons. A state-owned enterprise is likely to be seen as a

more legitimate recipient of special privileges, as least in part because of the perception that the benefits will not simply be captured by private shareholders .

This in turn will reduce the risk that special privileges will be short-lived.

The State as Investor

Ken RasmussenPart 2

January 14th, 2004

The State as Investor When and why does the state become an

investor Public private partnerships is not new

Federal government has equity in 400 companies Governments are often involved in firms, through the

provision of loans, grants for r and d But equity is something altogether different

Ownership shares confer rights Equity allows more participation in the share sales Equity confers the right to benefit from the distribution of

assets in the event of liquidation equity confers the right to share in profits distributed

through dividend payments upon the decision of the Board of Directors

The State as Investor Equity can be a highly discretionary instrument of policy

if government capital is directed towards specific sectors, categories of firms and or individual companies.

European governments have sought to use investment to re-deploy factor’s of production, to enhance competitiveness, and promote winners

Ottawa, has used equity investment in a reactive manner -- a problem solving devices

Que. and Alberta, have had a positive investment strategy

used portfolio investment both to generate revenues and to serve the goal of regional economic development

Purposes served by investment

Return on Investment Sometimes the government is purely interested

in making money   Security  Government acts as an investment banker

Minority equity is used to provide insurance to creditors

This is particularly so in the small business sector FBDB,SOC- -- lender of last resort 

Acquire good or Service The subsidiary investment of a wholly owned crown

corporation

Purpose served by investment

Incentives New capital can serve as a spur to the enterprise Government can use equity to induce a private

investor by sharing the risk Strategy

Sometimes, the government has an overt strategy of economic development.

Defensive expansion of Telsat is a case in point Problem solving

Frequently government is drawn into share ownership by default  

Sometimes plans go screwy and government must take up the slack.

Towards and Investment Strategy The Canadian Development Investment

Corporation (CDIC) instrument created to hold the government’s equity

investments It was also created out of the governments

disillusionment with CDC CDIC would hold the government’s investment in

CDC until it was a favourable time to sell. CDIC quickly moved from a numbered holding

company holding CDC shares to a Crown Corporation following cabinet investments instructions to a holding company with $12 billion in investments

 

CDIC First President was Maurice Strong, who wanted to move away

from reactive investment CDIC was incorporated under the Canadian Business Corporations

ACTS in May of 1982. Its broad objective was to “assist in the creation of development

of business, resources, properties and industries of Canada. Would invest in any business likely to benefit Canada. No private body could hold shares in CDIC.  Yet CDIC was neither an instrument of policy nor for targeting

new investments nor for privatising government investments. CDIC was used principally to rationalise state-owned enterprise in

crises so as to avert their financial collapse and to divert political pressure by showing a new “business like” management.

Provincial State as Investor Provincial investment strategies 3 factories favour a more active role

for government as an investor economic opportunity ie windfall profits

from resource industries. intergovernmental conflict of interest ie

federal taxation, pricing or regulation policy that harm a provincial treasury

strong political leadership

Alberta

Windfall profits brought two concerns an investment strategy that would optimise the use

of these funds. overcome the vulnerability of a regional economy

that would be tied to the fortunes of a volatile commodity

Created the Alberta Heritage Savings and Trust Fund

The strategy was based on the gov’t commitment to free enterprise

It was designed to reduce dependence on oil and gas The government could have simply used the revenue

to reduce the level of taxation, but chose to become an investor

Alberta Could invest in:

(1) capital projects that would provide long-term economic or social benefits, but not profits

(2) loans to other governments (3) those that strengthen and diversity the economy, while

giving a reasonable return on profit (4) investment in debt instruments such as bonds and

blue chip corporations No equity investment at the start, but this would alter   The decision-making body was the Heritage Savings

Trust Fund Investment Committee which consisted of cabinet ministers

Fund did make make equity investments, which angered the extreme right in the province and the party

Cabinet set guidelines that restricted the shareholdings to 5 percent of any company, they would not seek membership on the boards of companies.

Joint Ventures Joint Ventures

Joint Ventures are a particular type of state enterprise Governments- public enterprise and businesses pool

their resources Each of the partners has an equity participation in the

venture that is not readily transferable, and thus a voice in policy

The use of joint ventures implies that there is a project or activity that government wants to

see carried out private-sector resources, capital, technical, or

marketing expertise, which means 100% state control is not feasible

factors exist which preclude the private enterprise from going it alone.

Joint Ventures The joint venture has a strong appeal

It looks like a good way to promote economic growth

Because they only put up part of the money, governments can stretch out their money and thus have a greater overall impact on the economy

Governments also get access to technical information and get a better ideal about the running of a particular industry.

Joint ventures became the most prominent form of state capitalism in the 1980s.

Joint Ventures Many provinces remain reliant on the revenues generated by

resource development most joint ventures cluster around the resource sector and

involve provincial governments weak manufacturing base, that continue to have a high

reliance on resource exports federal system means provincial governments focus there

growth strategies on regionally specific comparative advantage

Joint ventures in the resource sector are largely used for province-building

To stimulate exploration and development of mineral deposits which will, in turn create jobs and general revenues.

Joint Ventures Private companies also get benefits

they can benefit from governments experience reduce financial exposure reduce political risk joint ventures in resource sector popular with

all parties. wise to collaborate with the provincial

government since they own the resources. becoming involved in a joint venture has

attractions for a foreign investor who can overcome regulatory barriers to foreign ownership

Saskatchewan Mining Development Corporation SMDC a classic joint venture vehicle Started by the NDP in 1974 to engage in all

phases of mineral production and the sale of minerals found in Saskatchewan 

SMDC was a wholly owned corporation created by the NDP

SMDC invited private corporations to approach it to participate in joint ventures

Voluntary participation became mandatory Within a five years SMDC became a major

player in the Saskatchewan mining industry, spending one of every three dollars fore exploration in the provinces

SMDC Two biggest mines Key Lake and Cuff Lake Key Lake Mine a joint venture between SMDC (50% ) a

German company and the federal governments Eduardo nuclear.

SMDC has had a wide variety of partners and has learned a great deal.

 It gave SMDC experience in marketing uranium.  The reasons for the easy relations between SMDC and its

foreign partners includes 1)   the relatively underdeveloped state of the uranium industry 2)   the availability of capital for SMDC reducing costs of

exploration 3)   the involvement of foreign owned companies that were

themselves state owned and were used to dealing with other state owned enterprises

SMDC SMDC owned rich, low cost uranium and made a

profit of over $60 million in 1987.  Government wanted to privatise SMDC, but was

forced by the federal government to merge with Eldorodo Nuclear, and sell both of them at the same time as CAMACO

The plan to merge was much more beneficial to Elderodo, than SMDC, given the very difficult histories of the two companies.

SMDC was a strong company with excellent prospects. It had assets in 1987 valued at $914 million, with revenues of $194 million.

SMDC  The company was not hampered by

excessive debt load, and the debt to equity ration was 1.4:1

SMDC had very desirable properties Eldorodo was less than a winner for a

variety of reasons.  Despite being mismatched, the

government ordered them merged into a new company called CAMECO which was created in Oct 1988.

SMDC $1.6 billion in assents and 61.5% owned by the

government of Sask, and 38.5% by the government of Canada

The plan was to privatise CAMECO in stages - 30% within 2 years, 60% within 4 years and 100% within 7 years.

Individual Canadian investors were limited to 25% of the shares and non-Canadian to 5%.

In addition non-Canadians were to be allowed a maximise of 20% of voting stock and Sask was gong to press the head office to stay in Sask.

There were quick howls from the financial community that the restrictions were too limiting.

The late 1980s was a bad time to sell as uranium was a the bottom of the cycle.

SMDC 130 reactors under construction around the world, but

were coming on stream in the 1990s Mining companies were planning new mines, but the

government was disposing of its mines at a time when the industry was in a down turn.

The timing of the privatisation was bad, but it would also do nothing to improve the efficiency of CAMECO  

The Selling of SMDC also would deny the government a window which would allow it to set taxes.

 Crown ownership and effective taxation and regulation were two parts of the same coin.

 Another factor was the unique situation of uranium production itself.

SMDC Issues of health and safety better handled

through PE? Social policy objectives in ensuring that the

native population received benefits. This of course costs money and contradicts the

shareholders desire for profit.  SMDC had begun to diversify and vary its base SMDC had 30 joint ventures with other

companies the promising being in the area of gold.

Conclusions Collaboration is the norm in joint ventures as

both parties expect something in return. Crowns are an attractive way to invest with

private capital because project specific investments can be made incentives can be proffered to a large number of

private companies divestment can be undertaken or monies written off

with the same political visibility and without recourse to the bureaucratically centred procedures that constrain a wholly owned crown corporations

It is logical to focus on vehicles other than traditional state enterprises which ties up capital and has statutory limits on activities and investments.