Strategies for Best Practice

January 22, 2012

By Cathy Lazarus and Ted Volskay

INTRODUCTION

In an era of shrinking resources, federal, state and local governments will continue to view privatization as a potentially viable strategy to sustain services traditionally provided by the public sector. Best practices suggest that the decision to privatize public services should be made after comprehensive review of the advantages, disadvantages and alternatives to privatization, and only after broad based community/stakeholder outreach and comment. The decision to privatize must be based on factual information, principles of good governance, and careful planning for contractor selection and oversight.

This paper is a review of the essential factors to consider in deciding whether or not to privatize a government service. It outlines key questions to ask policy makers and important policy areas to evaluate before and after making a decision to transfer a public service to the private sector. Pdf attachments to this paper, found after the endnotes, include two tables highlighting the potential advantages and disadvantages of privatization, and a recommended checklist of questions to ask decision-makers throughout a privatization initiative (Appendices 1-4).

MAKING THE DECISION TO PRIVATIZE

Can Any Public Service or Public Asset be Privatized?

One of the first questions to ask when considering privatization is whether the public interest is protected and served by the privatization of a service or a public asset such as land, buildings, equipment and information. “Economists and others conclude that certain services can only be provided effectively by government; for example, where continuity of service is essential, where no profits are generated, and where no competition exists or can exist. “1

Conditions for Successful Privatization

Research suggests that, absent extreme circumstances such as default or non-performance by a contractor, there is no definitive way to evaluate whether or not a privatization initiative is a success or a failure. For example, privatization may be viewed as a success by some stakeholders if it reduces service cost; other stakeholders may view the initiative as a failure if it results in a loss of public accountability or a loss of public control. A privatization process may also be considered successful if government self-review leads to improvement without actually transferring services to the private sector. There are, however, private market and government agency characteristics that, when in place, increase the potential for successful privatization. Privatization typically works best for services that have the following characteristics:

  • The services are in growing and competitive markets;
  • Information associated with the delivery of the service is abundant and public accountability (transparency) is not a limiting issue;
  • The service involves transactions that are not irrevocable;
  • Externalities that can affect the profitability of a service are limited; and
  • Service efficiency can be achieved in ways that are not contrary to the public interest. In addition, privatization works best for services that are limited in scope and complexity and the contracting government agency has:
  • Officials open to the idea of privatization;
  • Clearly defined goals and criteria;
  • Established privatization policies;
  • Conducted an open public review process;
  • Worked closely with affected employees and developed employee transition plans;
  • Reliable cost data to accurately compare public service costs to private service costs; and the pricing of public assets to the pricing of private assets;
  • A contract monitoring and management system; and
  • Performance-based criteria against which the private contractor will be regularly evaluated.2 , 3

Accounting for Public Property, Assets and Information

Privatization often requires private contractors to use public assets (land, buildings, equipment) and information (police records, utility billing information, child welfare files).  Whether and how the public agency is compensated for the use of public assets (especially those that generate income) as well as how confidential information is used and protected are major considerations. Also, when service contracts are terminated, thought needs to be given to how the assets will be returned to the public agency. Transactions involving the return of tangible assets are relatively straightforward; however, the return of confidential electronic data and assuring that copies of sensitive electronic files are not retained and used in the future by the contractor are more problematic.4

Comparing Government and Private Contractor Cost

Cost savings is a common justification for privatizing government services. Consequently, it is important to accurately compare the total cost of services provided by the government to the projected total costs to the public if a private contractor provides the same service. In comparing the cost of government service to a privatized service, decision-makers must consider not just the cost of the contract but also the cost to transition the service from a public to private provider. The transition costs should include the costs associated with displaced public employees, the cost of contract negotiations and the cost of performance oversight by the government.5

Is Privatization the Only Option?

Finally, in making a decision to privatize, decision-makers should be certain that privatization is the best way to provide lower cost services. Sometimes government service delivery can be made more efficient with investment in technology or new delivery methods. Or a “managed competition” process, where the public agency submits a bid to compete with private bidder, can be a good way to determine the most cost effective method of service delivery. As noted in a U.S. Government Accountability Office (GAO) report: “According to Indianapolis officials, competition in the marketplace rather than privatization per se produces the most value for the taxpayer. This view was shared by most state officials we spoke with. . . the primary advantages of managed competition were reduced costs, improved services, improved employee morale and increased innovation.”6

AFTER THE DECISION TO PRIVATIZE

What happens after the decision to privatize is critically important to the success or failure of the initiative. To maximize the probability of success, it is important for decision-makers and stakeholders to remain vigilant throughout the contractor selection process, contract negotiations and approval phase. Once privatization has occurred, it is important for decision-makers and stakeholders to monitor contractor performance throughout the term of the agreement.

There should be open meetings and public hearings about the key terms of all agreements, the selected contractor and the ultimate service contract.

Managing the Contractor Selection Process

Most public agencies have guidelines and procedures regarding the selection of contractors and standard contract language for liability, insurance coverage requirements, payment and other technicalities. Commonly, the public agency will issue a Request for Proposals (RFP), Request for Qualifications (RFQ) or other documents outlining the contractor selection process, the scope of services desired and minimum standards expected of the contractor. It is important to decide contractor selection criteria in advance. Will selection be based on the lowest cost proposal or on proposed service quality, or on a combination of the two? Will potential contractors undergo a thorough screening to verify they have accurately represented themselves, and are reputable and financially stable?  Will criminal background checks be conducted on all private contractors?7

Patronage is a potential problem that involves the assignment of jobs or the offer of favors to public officials. 8 For example, it is alleged that Interior Department personnel responsible for overseeing deep-water drilling in the Gulf of Mexico routinely accepted gifts from private oil companies and conducted negotiations for future employment prior to the Deepwater Horizon oil spill. 9  Policies should be in place to minimize the potential for abuse by public officials and contractors.

A common method to avoid patronage and assure an open selection process is to have an independent panel screen, interview and rank proposers for the contracting agency. The policies and procedures of the City of Mountain View, California, for example, go further by explicitly stipulating that low-bid pricing is not the primary award criteria in a Request for Proposals.10 Cost proposals are not opened until after the proposals are reviewed, the interview process is complete and prospective contractors have been ranked by an independent selection committee.

Negotiating the Contract

Government agencies face significant legal risks when a private contractor does not fully honor the contract, declares bankruptcy, or commits fraud or other criminal activity. The governing agency may be liable for the misdeeds of private contractors and is often responsible for making up contractor shortfalls. It is important that protections and remedies for contractor non-performance or illegal activity be addressed before any contract is signed.

One contractual protection is to require contractors to post a surety bond and/or secure insurance payable to the government agency in the event the contractor is unable to meet the conditions of the contract. This provides an incentive for the contractor to meet the conditions of the contract and also provides financial resources for the agency to intervene quickly and ensure continuity of services if the contractor cannot fulfill the contract.11

A second potential remedy is to include in the contract language that establishes the non-performance criteria or conditions that give the government agency the right to immediately terminate the contract and take responsibility from the contractor.

In the case of a renewable, long-term contract, various fees may need to be renegotiated periodically. Specifying key aspects of this procedure, such as the frequency of audits or allowable profit will assure the initial intent of the contractual relationship is not changed over time. Open meetings requirements as well as the accessibility of public records and government documents must not be compromised over the term of the agreement.

Enforcement options and backup plans also should be thought through before the contract is finalized: Who will enforce penalties, and how will they be paid? Are there written legal protections for whistleblowers? When should mediation or arbitration be prescribed? Should these be open meetings?

Employee Considerations

Private contractors often reduce the cost of a service by offering lower wages and fewer benefits than their public counterparts. Private contractors may rely on part time employees who are not offered benefits. “Low waged work is the type of work most prone to frequent turnover, but many public services need long-term workers with historical knowledge of clients, methods and services. Wage levels affect and reflect the quality of worker an employer can attract.” 12 To provide a level of protection, some government agencies require contractors to provide employees with competitive wages and to comply with all federal and state equal employment and anti-discrimination laws.

Conversely, as services are privatized, protections need to be in place for displaced public workers. Sometimes displaced employees are provided other positions, if available, or are offered training for new professions. The public agency may require the contractor to initially hire the existing public employees but at private sector wage and benefit levels.

Managing the Contract and Overseeing Performance

“Oversight must take place on a regular and frequent basis to ensure work is done, quality is maintained, and an early warning system is in place in order to prevent a subcontractor’s absconding or engaging in financial improprieties. If oversight is not frequent and regular, problems that could have been prevented may become serious and even irreparable. The oversight process must give the public easy access to lodge complaints, ask questions and get responses. If the public cannot find someone to whom problems can be reported, then no one can be held accountable . . . “13  The GAO report found that in all but one agency surveyed, officials reported that monitoring was the weakest link in the privatization process.14

“There are areas of government services where measures of success can be easily stipulated and efficiently monitored.” 15   Maintenance services with clearly defined operational procedures and maintenance cycles are perhaps the easiest examples. Are the traffic signals working?  Have the trash cans downtown been emptied?  What percent of the police vehicles were serviced on schedule?  Have the water mains been flushed on schedule?

More difficult to measure are human services where achieving standardized performance measures of success or failure is more challenging. “It is especially difficult to identify and measure desired results for social services. This is because the objectives of many social services, including improved family and child well-being, are often difficult to define simply and clearly.”16 In addition, many social service programs involve goals other than pure cost efficiency and require long timeframes to measure success.17 An example would be a job training program where it could take years to determine whether clients become successful, long-term members of the workforce.

Despite the difficulties, it is essential to establish metrics in the contract that reflect industry best practices as well as local goals and objectives. It is also imperative that public agencies provide experienced staff to conduct meaningful oversight to assure that goals and objectives are achieved and the public interest is served. Auditors and inspectors may need specialized financial, legal or technical expertise.

SUMMARY

Privatizing a government service is a complex undertaking that requires a major commitment of resources. It involves careful definition of the goals to be achieved, assurance that all efficiencies have been implemented with the existing service model, evaluation of the service “market place” to assure a competitive bidding environment, expert contract negotiation and a thorough understanding of the potential impacts to service customers. Most importantly, the process requires transparency, oversight and ongoing communication with stakeholders to understand their concerns about privatization, because, in the end, the public bears the success or failure of privatization.

Cathy Lazarus (LWVCA) and Ted Volskay (LWVSC) are members of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011
© League of Women Voters

For Tables 1-2 and Appendices 1-4, see subsequent posts.

ENDNOTES

1. Ellen Dannin, “To Market to Market: Caveat Emptor,” in To Market to Market  Reinventing Indianapolis, ed. Ingrid Ritchie and Sheila Suess Kennedy (Lanham: University Press of America, Inc. 2001), p. 8.

2. Mark J. Rosen, Researcher, “Privatization in Hawaii,” pp. 25-26 (Honolulu: Legislative Reference Bureau, December 2007) http://www.hawaii. gov/lrb/rpts97/priv.pdf

3. United States General Accounting Office, “PRIVATIZATION  Lessons Learned by State and Local Governments,” GAO/GGD-97-48, March 1997. http://www.gao.gov/archive/1997/gg97048.pdf

4. See endnote 1, pp. 18-20.

5. See endnote 1, pp. 11-13.

6. See endnote 3, p. 9.

7. Gordon P. Whitaker, “Service Delivery Alternatives,” in Managing Local Government Services A Practical Guide, ed. Carl W. Steinberg and Susan Lipman Austin (Washington, D.C.: ICMA Press, 2007) pp. 380-381.

8. See endnote 1, p. 10.

9.   Office Of Inspector General U.S. Department Of The Interior, “Investigative Report Island Operating Company et al.” http://pogoarchives.org/m/nr/doi-oig-report-20100331.pdf

10. City of Mountain View, California, Purchasing Policy NO: 2-10 (Effective Date:  July 1, 2000, Revision Date: January 2, 2007), p. 4.

11. See endnote 1, p. 11.

12. See endnote 1, p. 21.

13. See endnote 1, pp. 36, 38.

14. See endnote 3, p. 6.

15. John A. O”Looney, OUTSOURCING STATE AND LOCAL GOVERNMENT SERVICES Decision-Making Strategies and Management Methods (Westport: Quorum Books, 1998), p. 6. www.questia.com/PM.qst?a=o&d=23328610

16. Pamela Winston, Andrew Burwick, Sheena McConnell and Richard Roper, “Privatization of Welfare Services: A Review of the Literature”, Mathematica Policy Research, Inc. (May 2002), p. 26. http://aspe.hhs.gov/hsp/privtizations02/Chapter2.htm

17. See endnote, 15,  pp. 219-226.
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Privatization: The Public Policy Debate

January 20, 2012

By Nora Leech

What Is the Role of Government?

The purpose of this article is to provide a description of the evolution of the public policy known as “Privatization.”  Privatization is a movement to deregulate private industry and transfer many government services, assets and functions to the private sector. We, as citizens of the United States, have been experiencing the growing effects of the privatization movement since the 1980s. Privatization efforts have been tried (with varying degrees of success) on federal, state and local levels. Federal efforts include Social Security/Medicare, student loans, military services and interstate highways. On the state and local level, agencies responsible for social services, transportation, mental health and public health care, corrections, and education have all seen remarkable increases in privatization activities since 1988.1 On a local city and neighborhood level, efforts are prominent to privatize public libraries, parks, court services and roads/bridges.

The pace of the movement to privatize has escalated since 2008. The current economic recession and the trend in government over the years to reduce taxes have increased government budget deficits. The current recession (the largest since the Great Depression) is resulting in business failures, high unemployment, and a loss of tax revenues for federal, state and local governments. Whether the current financial situation is directly related to the deregulation of the financial services sector is the subject of great debate. Regardless of the causes, the revenue losses have added to the drive to downsize government by privatizing functions, services and assets. Although saving money through greater efficiencies may appear to be the primary reason for such a push to downsize government at this moment, there are other forces and philosophies behind the move to privatize that have been active since the early 1970s and have gained significant momentum since the 1980s.

This is a good time to take measure of privatization’s impact on our citizenry: what is working and what is not. The United States has more than 30 years of privatization efforts to evaluate. It is important to think about the lessons learned within the greater framework of this public policy debate.

The Idea

Milton Friedman, the Chicago School of Economics,  stated the goals of privatization as a public policy agenda to reduce the size of government, deregulate business and reduce taxes.2

Claims and Concerns

Those promoting privatization of government services, assets and functions claim that the private sector will provide increased efficiency, better quality and innovation in services. Proponents claim privatized services will provide a cost savings to those being served (public consumers of the services) as well as to the government no longer responsible for providing the services or maintaining the assets. Many suggest that the government has overextended itself into sectors that could well be covered by private, for-profit companies. Some claim that privatizing government programs like interstate highways, trains or the postal service will mean that large expenses will be taken off the government books, thus providing relief to taxpayers. Advocates believe that private firms have better incentives to control costs and respond more effectively to competition.

Those concerned with the public policy of privatization say that the private sector mandate to make a profit can endanger public safety and reduce services available to the general public (particularly in poor and rural areas). They are concerned that there will be increased costs to consumers through fees and tolls and increased costs to government through poorly written contracts. They are concerned that the private sector will increase profit margins and include expenses like high executive salaries and corporate debt loads (interest on debt) that consumers and tax payers will have to pick up. There is also a concern that private companies will lack transparency, adequate oversight and accountability. How do individuals complain to a corporation if they feel abused by high prices when there are no or limited alternatives? There is a fear of increased corruption between government and for-profit private companies as the lines between government and business professionals become blurred. There also is a concern that privatizing strategic sectors such as ports, utilities and defense to foreign-controlled multinational corporations will put the country at risk in the event of war. There is concern that the strategy to privatize large sectors of government services and functions will result in chronic high unemployment, low wages and abusive labor practices, especially during economic downturns. There is also a concern that the privatization policies will result in growing inequality between the wealthy and poor, thereby losing the revered American middleclass.

Larger than the United States

The privatization movement is an international movement. David Linowes, chair of the 1987 President’s Commission on Privatization, explains that outside the United States, it is known as the privatization movement and involves outright divestiture of government properties. In the United States, it has meant deregulation and tax reduction.3

Outside the United States

Countries with significant state corporations are encouraged to divest these businesses to the private sector. Prominent divestitures in the news have included Russia’s natural gas (Gazprom), Bolivia’s municipal water system in Cochabamba and the United Kingdom’s British Rail. As an incentive, lenders have been known to require that governments reduce the size of the public sector through privatization and deregulate industries engaged in international trade as conditions for loans4.

In the United States

The deregulation of the financial services industry would be a notable example in the news4 and examples of tax reductions would be the significant reductions in corporate taxes over the last 20 years, as well as efforts to reduce individual taxes on capital gains and inheritances. Linowes states that the tax reductions of the 1980s were intended to reduce the government influence over private sector activity.

However with today’s financial downturn, the focus in the United States is increasingly on downsizing government by privatization of assets, services and functions. The loss of taxes from the economic downturn and from tax cuts are jointly adding to the deficit imbalance which is creating a political crisis. Current recommendations under consideration for privatization include roads, bridges, prisons, schools, parks, health, tax collections, postal service, Amtrak, social welfare services, public health services and Worker’s Compensation, to name a few. In the United States, pressure is coming from international lenders, most recently via bond rating companies threatening to downgrade U.S. bonds. A lower bond rating generally requires paying higher interest rates to lenders. This, in turn, should increase the government deficit unless taxes can be raised or cuts can be made in other areas.

History

The Chair of President Reagan’s Privatization Commission provides some background. “The Privatization movement was developed mainly in reaction to the Progressive movement of the early Twentieth Century. In the Progressive Era, while other nations were most likely to nationalize an industry, the United States was more likely to subject the industry to systematic government regulations.”5

In the 1970s, disillusioned with the Progressive Era vision, leadership in the increasingly global private sector became more active, asserting that burgeoning tax rates and government regulations of industry were inhibiting free trade. Leaders expressed their skepticism about a “planned market” where the government plays a prominent role regulating businesses. They agreed with economist Milton Freidman’s broader philosophical view, that free markets were the solution to many problems – health care, product safety, banking failures and financial speculation. Linowes reminds us that the Progressive movement policies were themselves a reaction against the Social Darwinism (survival of the fittest) and laissez-faire, free market theories prevalent in the late19th century.

Though many large corporations and leading financial institutions may advocate a return to laissez-faire, free market policies, there are other perspectives on the unregulated boom/bust economies of the late 1800s. It was a time of great instability. There were multiple economic depressions including the panic of 1893, where millions of Americans lost their life savings and homes due to bank failures and foreclosures. These were times of corruption in government witnessed by the railroad scandals and banking failures. These were times of unacceptable labor conditions where men in the steel mills worked 12 hours a day, seven days a week, 363 days a year; where workers maimed at work were dismissed with no compensation for themselves or their families; and where children put in 12-hour days in textile factories and coal mines under appalling work conditions. These were times when diseases – malaria, cholera and TB – were common due to government inaction, and times of unsafe food due to unregulated food industries. And these were times of massive business failures and unemployment.6

These unstable times were followed by the catastrophic events of World War I, the Great Depression and World War II.

At the onset of these troubled times, those advocating progressive policies began to create a much stronger role for government in the well-being of its citizens by regulating business and the economy. To protect the aged, Social Security was initiated. To protect the public health, businesses were regulated (a prime example was the meatpacking industry that disgorged offal upstream of major cities). Public education was strengthened to provide an informed citizenry and a productive workforce. Programs were established to protect labor, such as workers’ compensation, and laws were passed to limit the workday and provide a minimum wage. Additionally, programs were created to help the unemployed in economic downturns.

High inflation and the banking failures in the late 1800s and early 1900s led to the creation of the Federal Reserve in 1913. Although called the Federal Reserve, the new central bank (not a government bank) was an association of private bankers with limited government input. It had the power to minimize inflation by managing the amount of currency in circulation. But banks continued to fail as depositors withdrew their savings and the country fell into the Great Depression. In 1933, President Franklin Delano Roosevelt created the Federal Deposit Insurance Commission (FDIC) to encourage depositors to trust banks. Along with the ability to control inflation, the Federal Reserve was challenged by the U.S. government to maintain “full employment,” aware that policies to limit inflation carried the risk of high unemployment.7

In the 1980s, however, advocates for laissez faire, free market policies were growing increasingly influential. In September 1987, the President’s Commission on Privatization was created. The Commission’s purpose was “to review the appropriate division of responsibilities between the federal government and the private sector and to identify those government programs that are not ‘properly’ the responsibility of the federal government or that can be performed more efficiently by the private sector.” The Commission in 1988 recommended a broad spectrum of government activities that could be transferred to the private sector. These included low-income housing, housing finance (Fannie Mae and Freddie Mac), federal loan programs, air traffic control, educational choice (voucher programs and charter schools), U.S. Postal service, military commissaries, prisons, federal asset sales such as Amtrak and the Naval Petroleum Reserves, Medicare, international development programs, and urban mass transit.8

Theories Supporting Privatization

Yale Law Professor Paul Starr explains that the normative theories, justifying privatization as a direction for public policy, have drawn their inspiration from several different schools of thought on what constitutes a “good society.”9

“Property Rights” and “Public Choice”

The intellectual inspiration behind contemporary privatization in the United States has come from the “Public Choice” and “Property Rights” schools of thought. Prominent leaders advocating these theories include Milton Friedman of the Chicago School of Economics and Fredrick Von Hayek, whose book, Road to Serfdom, warned of the growing welfare state.

Starr’s basic assumptions include:

  • Democratic political systems have inherent tendencies toward government growth and excessive budgets.
  • Expenditure growth is due to self-interested coalitions of voters, politicians and bureaucrats.
  • Public enterprises necessarily perform less efficiently than private enterprises.

The broader philosophical view is that government social programs and regulations, inflationary spending aside, were almost always detrimental to the efficient workings of an economy. In 1962, Milton Friedman, in his book, Capitalism and Freedom, provided an intellectual map for a reversal of the progressive policies of the nation. Friedman urged the U.S. government to eliminate Social Security, progressive income taxes, free public high schools, the minimum wage, housing and highway subsidies, and health care, even for the elderly, noting that an unregulated market place would take care of these problems. Friedman believed that if individuals were given the choice, free of government rules and regulations, of where to work, where to invest their retirement funds, where to send their children to school, where to buy their healthcare and where to rent or buy their homes, competition to supply the best goods or services would result in a greater number of cheaper and higher-quality options.  He postulated that with reduced government and lower taxes, the poor would be better off, inequality would be minimized, and discrimination eliminated.

Friedman sought as well to discredit the Keynesian economic theories advocating government intervention to manage the economy during financial crises. Keynes had suggested that even if interest rates and prices fall, business may not invest because of lack of demand for their goods.  Thus, he advocated for government spending to kickstart the process and stated that, with an expanding economy, the deficit resulting from the spending would quickly be replaced.10

Privatization in Practice

Professor Starr describes four types of government policies intended to bring a shift from the public sector to the private sector: attrition, transfer of assets, contracting out, and deregulation.

  • Attrition
    Attrition results from cessation of public programs and disengagement of government from specific kinds of responsibilities. Restriction of publicly produced services in availability or quality may lead to a shift by consumers toward privately-produced substitutes. Or, government may let the service run down by drastically reducing their budgets. An example might be the U.S. Postal Service.
  • Transfer of assets
    Such transfer may occur with the direct sale or lease of public land, infrastructure and enterprises. Examples might be federal and state parks, state-owned liquor stores and the proposed privatization of public libraries.
  • Contracting out (public/private partnerships) or vouchers
    Instead of directly producing some service, the government may finance private services, for example through contracting out or vouchers. Examples might be charter schools or prisons.
  • Deregulation
    Deregulation may be the result of deregulating entry into activities previously treated as public monopolies. Examples might include utilities, water, waste management, air traffic control and ports.

These four policies vary in the degree to which they move ownership, finance and accountability out of the public sector. The spectrum runs from total privatization (as in government disengagement from some policy domain) to partial privatization (public/private partnerships or vouchers, such as for school or housing). In the case of partial privatization, the government may continue to finance but not operate services, or it may continue to own but not manage assets. Partial privatization may dilute government control and accountability without eliminating them. Examples might be detention centers for juveniles or welfare services.

What is the Role of Government?

In rethinking the proper relationship of government, business and civil society, fundamental political and economic questions arise. What should the role of government be in protecting the environment, helping the poor, defending the nation, providing justice, ensuring democracy, protecting public health, ensuring public safety, providing education, promoting a thriving economy, ensuring safe work environments and a living wage. Our country must seek a pragmatic balance between social and economic returns.

Nora Leech (LWVWA) is a member of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011
© League of Women Voters

ENDNOTES

1. “Privatization: Lessons Learned by State and Local Governments” Report to the Chairman, House Republican Task Force on Privatization, US General Accounting Office, March 1997. http://www.gao.gov/archive/1997/gg97048.pdf

2. Capitalism and Freedom, Milton Friedman, University of Chicago Press, 1962.

3. Privatization, Toward More Effective Government, produced by the President’s Commission on Privatization, Sept, 1987, Commission chair David Linowes (Editor).

4. “Congress Passes wide-ranging Bill Easing Bank Laws” by Stephen Labaton, New York Times, Nov 05, 1999.http://www.nytimes.com/1999/11/05/business/congress-passes-wide-ranging-bill-easing-bank-laws.html?pagewanted=all&src=pm

5. See endnote 3.

6. Age of Betrayal, The Triumph of Money in America, 1865-1900, Jack Beatty, Vintage Books, 2008.

7. Age of Greed: Triumph of Finance and the Decline of America. 1970 to the Present, Jeff Madrick, Knopf, May 31, 2011.

8. See endnote 3

9. “The Meaning of Privatization,” by Paul Starr, Yale Law and Policy Review 6 (1988): 6-41. This article also appears in Alfred Kahn and Sheila Kamerman, eds., Privatization and the Welfare State (Princeton University Press, 1989).

10. “The Busts Keep Getting Bigger: Why?”  A Review of Jeff  Madrick’s Age of Greed. Reviewers: Paul Krugman and Robin Wells; New York Review of Books, July 14, 2011, p. 28.

Surveying State Laws Addressing Privatization

January 15, 2012

By Diane DiIanni

State legislatures throughout the country have enacted statutes addressing privatization over the past few decades. By the early 1990s several state legislatures, seeking to realize the promised benefits of cost savings and efficiency gains, designed and enacted comprehensive, systematic privatization programs, rather than adopting piecemeal approaches. In these states uniform processes and procedures for privatization activities were established through state law, giving the full weight of the governor and/or legislature to the privatization effort.1

Ten years later, however, the Council of State Governments (CSG) conducted a national survey of selected agency directors in the 50 state governments and found that the topic of privatization (outsourcing or contracting) was re-emerging as a controversial management issue for state policymakers. The CSG survey, the results of which were reported in Fall 2003, found that “governors, agency directors and legislators in many states [were]…asking for either further promotion or curtailment of such [programs as]…[t]here appears to be no consensus as to the effectiveness of privatization in part due to the lack of empirical data as well as the complexity of the issue.”2

The CSG survey results3 provide an excellent overview of state activity in the area of privatization. Fifteen states reported passage of legislation relating to privatization in the five year period of 1997-2002: Alaska, Arizona, Connecticut, Illinois, Kentucky, Massachusetts, Nevada, New Jersey, North Carolina, Oklahoma, Oregon, Vermont, Virginia, Washington and Wisconsin. In response to a question regarding the amount of privatization that has occurred within a particular state, 12 budget directors replied that their state has privatized on average at least 6 percent of their services (Arizona, Connecticut, Indiana, Massachusetts, Minnesota, Missouri, North Carolina, Oklahoma, Virginia, Washington, Wisconsin and Wyoming).4  With respect to personnel services, two states (Connecticut and Florida), reported that they had privatized more than 10 percent of their personnel services, while 10 responders replied that their state had not privatized more than 1 percent of personnel services (Arizona, California, Idaho, Illinois, New Hampshire, South Dakota, North Dakota, Oregon, South Carolina and Washington).5

The CSG survey also inquired into the most popular services being privatized within the 50 states. They are:

i) corrections programs and services (including medical/health care services, food services, substance abuse treatment, mental health services, private prisons, inmate housing);
(ii) education programs and services (including information technology, professional development/training, statewide student assessment, product/program development, special education);
(iii) health & human services programs (including mental health services, child welfare services, substance abuse treatment/prevention, child support administration, medical services/staff);
(iv) personnel programs and services (including states training program staff/development, information technology, workers’ compensation claims/processing, health insurance claims/processing, general program administration/support, consultants, collective bargaining negotiations); and
(v) transportation programs and services (including general, design/engineering, general construction, maintenance, information technology, inspections, grass mowing, rest area operation and highway construction/maintenance).6

Based upon its national survey, the CSG report concluded that the main reasons for privatization were a lack of personnel or expertise and cost savings. According to the report, in most cases privatized services account for less than 5 percent of agency services, while reported costs savings range from none to less than 5 percent. In addition, the survey found that many state agency directors had no clear idea of how much money privatization actually had saved.7

Legislative approaches to privatization across the 50 states differ widely. Some states have enacted broad-based privatization laws that apply to all such activity within the state (general privatization laws), while other states have passed laws that relate only to one or more sectors (sector-specific privatization laws). Laws relating to privatization, but which deal only with a specific issue or policy concern (issue-specific privatization law), also have been enacted in many states.8

Moreover, while some states have enacted laws that promote and facilitate privatization, others have enacted laws seeking to regulate and curtail such activity. In fact, at times, privatization policies have changed dramatically from one year to the next even within a state, due to such factors as political or economic shifts, civic engagement (pro or con), or on-the-ground experience with prior privatization deals. (See, for example, the discussion below regarding the Commonwealth of Massachusetts.) Examples of general, sector-specific, and issue-specific privatization laws are provided below.

General Privatization Laws

The privatization laws in Massachusetts and Utah are examples of two broad-based privatization statutes with differing legislative approaches.

Massachusetts. In the first few years of Governor Weld’s administration (1990-1992), 36 government services were contracted out, according to the Pioneer Institute, and such contracts were reported to have saved roughly $273 million.9 The Weld administration was hailed as seeking to improve the business climate in Massachusetts by reducing taxes and state regulations of the private sector. However, in 1993, the state legislature, realizing the need to regulate privatization contracts, passed the Taxpayer Protection Act. The Taxpayer Protection Act, more commonly referred to as the “Pacheo law,” established strict requirements for detailed prior review of all privatization proposals. By 2002, the Pioneer Institute was referring to Massachusetts as “home to the most restrictive state privatization law in the nation.” It noted that since the Pacheo law was enacted, “only six state services have been contracted out to private service providers, while similar efforts have dramatically expanded in other jurisdictions.”10  On these facts, both proponents and opponents of aggressive state privatization programs might well agree that the Massachusetts law has been effective in impacting the course of state privatization. Thus, a closer look at the Massachusetts law is warranted.

The intent of the Massachusetts privatization law, M.G.L.chapter7, §§52-55, is perhaps best described by its legislative preamble:

Section 52 Privatization contracts; need to regulate. The general court hereby finds and declares that using private contractors to provide public services formerly provided by state employees does not always promote the public interest. To ensure that citizens of the commonwealth receive high quality public services at low cost, with due regard for the taxpayers of the commonwealth and the needs of public and private workers, the general court finds it necessary to regulate such privatization contracts in accordance with [this act]…

The law goes on to define “privatization contract” as “an agreement or combination or series of agreements by which a non-governmental person or entity agrees with an agency to provide services, valued at $500,00011… which are substantially similar to and in lieu of, services theretofore provided, in whole or in part, by regular employees of an agency…”12  The essence of the law, however, is in the specific, rigorous procedures that must be followed prior to acceptance of any privatization deal. Under the law, an agency must prepare a detailed statement of services to be privatized, a document that becomes a public record and is transmitted to the state auditor for review. A competitive sealed bid process then is conducted based upon the statement. The state agency proposing privatization also must prepare a detailed analysis of the costs it would incur in providing such services (such analysis becomes a public record on the final day to receive sealed bids), and must provide resources to encourage and assist present agency employees to organize and submit a bid to provide the subject services.

The term of any such privatization contract, by law, is limited to five years (although there may be renewals). In addition, where a bidder will employ a person whose duties are substantially similar to those performed by a regular agency employee, the law establishes a minimum wage and certain minimum employer-paid health insurance requirements for each position. Compliance is monitored closely as contractors must submit detailed quarterly payroll records to the agency and failure to comply with the employee-related provisions may result in the attorney general bringing a civil enforcement action against the contractor in state court.

The law further provides that every privatization contract must require the contractor to offer available employee positions pursuant to the contract to qualified regular employees of the agency whose state employment is terminated because of the privatization contract, and such offers must be made on a nondiscriminatory basis in order to ensure equal opportunity for all.

Upon awarding the bid, the agency then must prepare a comprehensive written analysis of the contract cost based upon the designated bid, which specifically includes the costs of transition from public to private operation, of additional unemployment and retirement benefits, if any, and of monitoring and otherwise administering contract performance. If the designated bidder proposes to perform any or all of the contract work outside the boundaries of the Commonwealth, the contract cost shall be increased by the amount of income tax revenue, if any, which will be lost to the Commonwealth by the corresponding elimination of agency employees.

The agency head and the state administration commissioner each then must certify in writing to the state auditor that the services so contracted are likely to equal or exceed the quality of services that could have been provided by the agency; that the contract costs will be less than the estimated cost taking into account all comparable types of costs; and that due diligence has been conducted regarding the successful bidder. The state auditor then conducts an independent review of all the relevant facts (and may summon the attendance and testimony under oath of witnesses and the production of books, papers and other records relating to such review). If, within 30 days, the state auditor objects to the deal in writing (due to failure to comply or incorrect facts), then the privatization contract is not legally valid. The objection of the state auditor, moreover, is final and binding on the agency.13

Utah. To the extent that the Massachusetts law may be viewed as tending to curtail privatization activity, the Utah law may be viewed as more encouraging of privatization arrangements.

In its general privatization law enacted in 2008, known as the “Privatization Policy Board Act,”14 Utah established a statewide privatization policy board, a 17-member body appointed by the governor and made up of representatives of the state legislature, public employees, local government entities, and private businesses.15 The Board’s mission is oversight of for-profit privatization activities throughout the state.16 As such, its statutory duties include the review of privatization proposals at the request of a state agency, a local government entity or a private enterprise to determine whether a good or service provided by an agency could be privatized (while ensuring the same types and quality of services and cost savings). In addition to determining feasibility of privatization, the Board is charged with addressing concerns from the private sector regarding unfair competition and, where appropriate, identifying ways to eliminate any unfair competition of an agency with a private enterprise. In connection with its reviews, the Board may be assisted by an advisory group to conduct studies, research, or analyses, and afterwards, may recommend privatization to an agency where it has been demonstrated that it would provide a more cost efficient, effective manner of providing goods or services.17In addition, the Board is charged with creating and updating (every two years), an inventory of activities of state agencies18 and classifying each such activity as either a commercial activity (that ordinarily may be obtained by a private enterprise)19 or an inherently governmental activity (functions that must be done by government).20

Other states have similarly classified government activities for purposes of their privatization laws.21The Commonwealth of Virginia, which in 1995 enacted a law establishing a Commonwealth Competition Council to monitor and promote privatization and “managed competition” efforts statewide, 22 is one such example.23  The Council’s statutory duties include, for example, “promot[ing] methods of providing a portion or all of select government-provided or government-produced programs and services through the private sector by a competitive contracting program,” and reviewing “the practices of government agencies and nonprofit organizations that may constitute inappropriate competition with private enterprise. The Council shall develop proposals for (i) preserving the traditional role of private enterprise; (ii) encouraging the expansion of existing, and the creation of new, private enterprise; and (iii) monitoring inappropriate competition by nonprofit organizations.”24

Parenthetically, the U.S. Congress passed a law providing for classification of government activities in 1998. The Federal Activities Inventory Reform (FAIR) Act 25 requires federal agencies to annually issue inventories identifying their activities as either “inherently governmental “ (i.e., one “that is so intimately related to the public interest as to require performance by Federal Government employees”)” or “commercial” (not inherently governmental.)  Such inventories are then transmitted to the U.S. Office of Management and Budget and Congress, and made public. A limited administrative challenge and appeals process under which an interested party may challenge the omission or the inclusion of a particular activity on the inventory as a commercial activity also is established through the federal act.26

Sector-Specific Privatization Laws

The private prison industry.Tennessee enacted a broad, sweeping sector-specific privatization law a few decades ago. 27 As a result, the state has been credited with establishing the modern-day private prison industry.28  The Tennessee Private Prison Contracting Act of 1986 29 authorizes the commissioner of corrections to enter into contracts with private entities to provide a vast array of correctional services, and makes any inmate sentenced to confinement (including those with special needs), legally eligible to be incarcerated in a private prison facility. The law defines “correctional services” as those functions, services and activities that may be provided within a prison and that concern, among others, education, training and jobs programs; recreational, religious and other activities; food services, commissary, medical services, transportation, sanitation or other ancillary services; counseling, special treatment programs or other programs for special needs; and facility operations such as management, custody of inmates, security. Certain duties, however, may not be delegated to the private contractor under the law. Such duties include developing and implementing procedures for calculating inmate release, parole eligibility and sentence credits; approving inmates for furlough and work release, the type of work inmates may perform and the wages or sentence credits that may be given,30 and placing an inmate under less or more restrictive custody or taking disciplinary actions.31

The law sets forth certain performance and cost criteria to be used as a basis of comparison between the state and private firms and it requires proposals (from private prison firms seeking state contracts), to offer cost savings (including the monitoring costs of the state) of at least a 5 percent for “essentially the same quality of services.” The phrase “essentially the same,” however, is defined as a difference that is no greater than 5 percent.32

Transportation.Another recent growth area in sector-specific state privatization legislation is transportation, perhaps due to the rising popularity of Public-Private Partnerships (PPPs or simply P3s). But what are transportation PPPs?

According to the National Conference of State Legislatures (NCSL):

PPPs are agreements that allow private companies to take on traditionally public roles in infrastructure projects, while keeping the public sector ultimately accountable for a project and the overall service to the public. In PPPs, a government agency typically contracts with a private company to renovate, build, operate, maintain, manage or finance a facility. PPPs cover as many as a dozen types of innovative contracting, project delivery and financing arrangements between public and private sector partners . . . Though PPPs are not optimal for many transportation projects, they have been shown to reduce upfront public costs . . . PPPs don’t create new money but instead leverage private sector financial and other resources to develop infrastructure. In the end, a source of revenue such as tolls or other public revenue still is required to pay back the private investment. In this era of fewer viable choices for moving ahead with critical infrastructure development, PPPs are an option many states are contemplating.33

The NCSL has prepared a “tool kit” to assist legislators  in promoting good governance and “to navigate the controversies” when considering transportation PPPs.34 Efforts at promoting transportation PPPs legislatively are having some success according to the NCLS, which reported as of December 2010 that 29 states and Puerto Rico had legislated an authorization framework for transportation PPPs, with more than $46 billion being invested in these projects over the last 20 years.35 Moreover, NCSL reports, in 2010 alone, 21 states and the District of Columbia considered 52 legislative measures concerning transportation PPPs.

U.S. PIRG, the federation of state Public Interest Research Groups (PIRGs), has a more cautionary take on transportation PPPs. It recently issued a national report on toll road privatization, an increasing prevalent form of PPPs in the United States, as politicians and transportation officials grapple with budget shortfalls. 36 According to U.S. PIRG, “between 1994 and early 2006, $21 billion was paid for 43 highway facilities in the United States using various “public-private partnership” models. By the end of 2008, 15 roads had been privatized in 10 different states – either through long-term highway lease agreements on existing highways or the construction of new private toll roads.”37  As of 2009, approximately 79 roads in 25 states were under consideration for some form of privatization.38  According to the U.S. PIRG report, toll road privatization takes two forms: the lease of existing toll roads to private operators and the construction of new roads by private entities. In both cases, private investors are granted the right to raise and collect toll revenue, which can amount to billions of dollars in shareholder profits over the life of the deal. Although such arrangements might provide a “quick fix” to budgetary shortfalls, U.S. PIRG cautions that there might be long-term threats to the public interest insofar as significant control over regional transportation policy is transferred to individuals who are accountable to their shareholders rather than the public.39, 40

Issue-Specific Privatization Laws

Issue-specific privatization laws show up in state statutes throughout the country. Such provisions typically reflect a policy concern regarding such matters as nondiscrimination or public employee job security with respect to the outsourcing of services by public agencies. For example, a legislative concern for job security of public employees is reflected in a provision of the Minnesota state law relating to procurement/ privatization within the area of personnel management. 41  The law requires executive agencies, including the state college and university systems, to demonstrate that they cannot use available staff before hiring outside consultants or services. If the use of consultants is necessary, agencies are encouraged to negotiate contracts that will involve permanent staff in order to upgrade and maximize training of state employees. The law further provides that if agencies reduce operating budgets, they must give priority to reducing spending on professional and technical service contracts before laying off permanent employees.

A bill with similar goals was introduced in the Tennessee legislature in 2011.42 If enacted, the bill would require agency heads to certify in connection with any contract for services with an outside agency that “no state employee…is capable of accomplishing the tasks sought to be contracted; and [that]… no vacant positions…exist that can be filled by hiring an employee to perform the services in lieu of contracting” to an outside entity.

A final example is Florida, which enacted a state law43 requiring that a particular state agency (the Department of Children and Family Services) privatize a particular state mental health hospital (the South Florida State Hospital). The law set forth certain details of the privatization deal, including that current South Florida State Hospital employees affected by the privatization be given first preference for continued employment by the contractor and that any savings resulting from the privatization be directed to the department’s delivery of community mental health services in certain districts.

Researching Your Own State’s Privatization Laws

Knowing what the law says in your home state is a good starting place in understanding the privatization experience in your community. There are several ways to go about researching your state law. The Appendix (see link to the pdf at the bottom of this webpage) provides a direct website link to the online general laws of the fifty states. This Appendix also includes some citations to privatization laws by state that were identified using “privatization” as a search term. However, laws relevant to privatization activities in your state may be found in numerous other sections of your state statutes (including those areas dealing with contracted services, public procurement, public finances, personnel services and various sectors (prisons, education, social services, healthcare, corrections and transportation, among others.) The websites http://statutes.laws.com/  and www.findlaw.com also are possible resources, as they include a free online searchable database of the laws in the 50 states.

Another approach to identifying privatization laws in your area might be to contact your state auditor’s office, the governor’s office or the administrative offices of your state legislature for further assistance.

Finally, there are many Internet-based resources that provide updates on privatization activities across the country at both the state and local level. Two such resources include the Privatization Watch44 website, www.privatizationwatch.org, which posts news, developments, and updates regarding privatization activities throughout the 50 states and the The Reason Foundation,45 which issues annual privatization reports on developments across the United States and Puerto Rico, www.reason.org/publications/annualprivatizationreport/.

Diane DiIanni (LWVTN) and Ted Volskay (LWVSC) are members of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011
© League of Women Voters

For the Appendix, put together by Ted Volskay (LWVSC), see subsequent posts.

ENDNOTES

1. William D. Eggers, Designing a Comprehensive State-Level Privatization Program, Reason Foundation, January 1993, http://reason.org/files/5c32035105255bc9b74deb47348aeaf3.pdf.

2. Keon S. Chi, Kelley A. Arnold and Heather M. Perkins, Privatization in State Government: Trends and Issues, Spectrum: The Journal Of State Government, The Council of State Governments, Fall 2003, page 12, www.csg.org/knowledgecenter/docs/spec_fa03Privatization.pdf.

3. See endnote 2, p. 13.

4. See endnote 3.

5. See endnote 2, p. 14.

6. CSG Survey of directors from five executive agencies, December 2002. Keon S. Chi, et al, Privatization in State Government: Trends and Issues, page 16, www.csg.org/knowledgecenter/docs/spec_fa03Privatization.pdf.

7. CSG national survey of state officials to identify recent privatization trends was conducted between October 2002 and December 2002,and was sent to 450 state budget and legislative service agency directors and heads of five executive branch agencies: personnel, education, health and human services, corrections and transportation. The survey had a almost 77%  response rate. Keon S. Chi, et al, Privatization in State Government: Trends and Issues, page 13, www.csg.org/knowledgecenter/docs/spec_fa03Privatization.pdf

8. Some states, of course, have enacted laws falling into more than one of these categories.

9. Pioneer Institute, “Massachusetts’ Privatization Law, Necessary Guardrail or Roadblock to Competition?” Policy Dialog No. 51, December 2002, www.pioneerinstitute.org/pdf/pdialg_51.pdf (The article attributes the savings figure to the Massachusetts Office of Administration and Finance.)
10. See endnote 9.

11. This figure was increased from $200,000, as originally enacted.

12. The definition expressly excludes any subsequent agreement, including any agreement resulting from a rebidding of previously privatized service, or any agreement renewing or extending a privatization contract, as well as any agreements solely to provide legal, management consulting, planning, engineering or design services. M.G.L.ch.7, §53.

13. M.G.L. chapter7, §55.

14. UTAH 63I-4-101, et seq.

15. By statute, the board members must include two state senators and two state representatives, evenly divided between the majority and minority political parties; two public employees; one state manager; eight members from the private business community; one member representing the Utah League of Cities and Towns; and one member representing the Utah Association of Counties. UTAH Code, 63I-4-201.

16. The state law defines privatization to include activities of a for-profit private enterprise. Utah 63I-4-102 (7) and (8).

17. Utah 63I-4-202 (Privatization Policy Board – Duties). Although the law does not preclude an agency from privatizing the provision of a good or service independent of the board, if it does, the agency must include as part of the privatization contract that the contractor assumes all liability for provision of any such good or service.

18. Such inventory in Utah is to be made public through electronic means. Utah 63I-4-301 (Board to create inventory.)

19. “Commercial activity” is defined by the law as engaging in an activity that can be obtained in whole or in part from a private enterprise. Utah 63I-4-102.

20. The law makes clear, however, that inclusion of an activity on the inventory does not waive any right, claim, or defense of immunity that an agency may have under the state’s governmental immunity act and may not be construed to find that the activity does not constitute a government function. Utah 63I-4-304 (Government immunity).

21. The Virginia Code defines “commercial activity” to mean an activity performed by or state government that is not an inherently governmental activity and that may feasibly be obtained from a commercial source at lower cost than the activity being performed by state employees. Section 2.2-5512.

22. See Sections 2.2-2620 through 2.2-2625 of the Code of Virginia.

23. In Virginia, “managed competition” is statutorily defined as “a competitive process between a state agency and the private sector in which (i) the state agency submits its own proposal after completing the fully allocated cost of the commercial activity and (ii) the proposal is based on its most efficient proposed organization to compete with a private sector bid or proposal for the provision of the commercial activity.”  Code of Virginia§2.2-2620 (Definitions).

24. Section 2.2-2622 of the Code of Virginia.

25. P.L. 105-270 (1998).

26. For additional information about the FAIR Act, see www.whitehouse.gov/omb/procurement_fair_guidance/.

27. Although California and other states authorized private prisons in the mid-1800s (see Vanderbilt Law Review, Vol. 40, Issue 4, May 1987, pp. 851-865), the emergence of the modern private prison industry is attributed to an early 1980s contract between Hamilton County, Tennessee and Nashville-based Corrections Corporation of America, currently the largest for-profit private prison firm in the country. McFarland, S., McGowan, C., O’Toole, T., Prisons, Privatization, And Public Values, December 2002, government.cce.cornell.edu/doc/html/PrisonsPrivatization.htm.

28. The modern prison industry has been called one of the fast-growing industries in the United States and some commentators are concerned that the dramatic rise over the past two decades in the U.S. prison population (the U.S. has 5% of the world population, but 25% of the world’s incarcerated population), may be associated with the introduction of the profit-motive into the sector through both contracting out prison services to large, publicly traded private corporations and the use of cheap prisoner labor. Pelaez, V., The prison industry in the United States: big business or a new form of slavery?, Global Research, El Diario- La Prensa, March 10, 2008,  www.globalresearch.ca/index.php?context=va&aid=8289.

29. T.C.A. 41-24-101 et seq.

30. Approximately 36 states have laws authorizing the contracting of prison labor by private corporations that set up operations within state prison facilities. The rate of pay for prison labor among the states, according to one commentator, varies substantially from $2 per hour in Colorado to as little as 17 cents per hour in some privately run prisons. It has been reported that the highest paying private prison is CCA in Tennessee, where prisoners receive 50 cents per hour for “highly skilled positions.” Pelaez, V., The prison industry in the United States: big business or a new form of slavery?, Global Research, El Diario- La Prensa, March 10, 2008,  www.globalresearch.ca/index.php?context=va&aid=8289

31. T.C.A. 41-24-110 (Powers and duties not delegable to contractor.)

32. T.C.A. 41-24-105 (Performance criteria for contracts — Contract term and renewal — Comparison of performance — Reporting.)

33. National Conference of State Legislatures, NCSL News Driving Money Home for Transportation Project, Dec. 9, 2010. www.ncsl.org/?tabid=21831.

34. See endnote 33.

35. See endnote 33.

36. Baxandall, P. Wohlschlegel, K., Dutzik, T, “Private Roads, Public Costs, The Facts About Toll Road Privatization
and How to Protect the Public” US PIRG Education Fund, Spring 2009, www.uspirg.org and
www.cdn.publicinterestnetwork.org/assets/H5Ql0NcoPVeVJwymwlURRw/Private-Roads-Public-Costs.pdf.

37. See endnote 36. The U.S. PIRG report cites a few examples of privatized roads as follows: the Indiana East-West Toll Road, which carries Interstate 90 approximately 150 miles across northern Indiana and is a critical link between Chicago and the eastern United States; the Chicago Skyway, which links downtown Chicago with the Indiana Toll Road; and California’s SR 91 Express Lanes, which were originally built by a private entity to provide a speedier connection between Orange and Riverside counties.

38. See endnote 36.

39. See endnote 36.

40. See also the recently issued U.S. PIRG report assessing the prospects, promise, and pitfalls of high-speed rail PPPs, “High-Speed Rail: Public Private or Both?” July 18, 2011, www.uspirg.org/home/reports/report-archives/transportation/transportation2/high-speed-rail-public-private-or-both.

41. 2010 Minnesota Statutes, 43A.047 (Contracted Services).

42. House Bill 478, 107th Session of the Tennessee General Assembly.

43. Florida Statutes 394.47865 South Florida State Hospital; privatization.

44. According to its website, Privatization Watch is a joint project of the Center for Study of Responsive Law and Essential Information, a nonprofit organization founded in 1982 by Ralph Nader.

45. According to its website, Reason Foundation’s mission is to advance a free society by developing, applying and promoting libertarian principles, including individual liberty, free markets and the rule of law.


State Level Privatization 2011

January 13, 2012

By Ann Henkener

State governments have relied on the private sector for goods and services for many years. However, states have more fully embraced privatization since the 1980s. In the past year or two, states have accelerated their movement toward privatization, partially because of the economic crisis and the need for states to take more extreme measures to balance their budgets, and partially because of shifts in ideology.

In recent years, a number of states have established commissions and/or issued reports on privatization:

Ohio – Ohio Budget Advisory Task Force Issue Paper, “Privatization in Ohio Government,” The Ohio Society of CPAs, September 20101

New Jersey – New Jersey Privatization Task Force Report, 20102

Virginia – Virginia Commonwealth Competition Council3

Illinois – “Government Privatizaton: History, Examples, and Issues,” Illinois Commission on Government Forecasting and Accountability 20064

Some states have tried to set parameters on the types of activities which could be performed by entities other than the state. For example, Virginia defined an “inherently governmental” activity as:

• the act of governing,
• authority to collect and spend public revenues, and
• entitlements (from the Constitution of Virginia).

The Virginia list also included these examples of inherently governmental activities:

• an effective system of education throughout the Commonwealth;
• free elections;
• transportation system;
• defense from enemy attack on the soil of Virginia;
• intercourse with other and foreign states;
• taxation and assessments at fair market value;
• ultimate control over the acquisition, use, or disposition of the property, real or
personal, tangible or intangible, of the Commonwealth, including the collection, control
or disbursement of appropriated and other state funds; and
• natural resources for the benefit, enjoyment and general welfare of the
people of the Commonwealth.

The state also recognized that the greater the amount of discretion involved in performing the activity, the more it is inherently governmental. In addition, it looked at the effect of activities that committed the government and viewed those activities as inherently governmental.

The Ohio Society of CPAs proposed a much simpler test, the “Yellow Pages test.” In essence, if multiple vendors of the services or goods appeared in the Yellow Pages, it should be considered for privatization. Ohio’s Governor Kasich, while campaigning for governor, stated: “If we don’t need it, get rid of it. If it’s in the yellow pages, outsource it.”5

Presented below are some areas of privatization proposed in one or more states in 2011.

Education: Charter Universities

About 20 years ago, St. Mary’s College, a public college in Maryland, obtained a charter arrangement with the state. One purpose of the arrangement was for the state to limit its funding to St. Mary’s. The college received a yearly block grant that rose only by the rate of inflation. It also received more flexibility. In exchange, the college won more control over its own management, including setting its tuition level.6

In 2002, the Colorado School of Mines signed a “performance contract” with the state. Under the terms of the contract, the school promised to meet certain performance goals – 55 percent five-year graduation rate, 80 percent freshman retention rate, and 90 percent placement of all graduates in a relevant job or graduate program within one year. In exchange, it received more freedom to manage its own affairs and set its own tuition levels.7

In 2005, Virginia’s public system of higher education was restructured, giving the University of Virginia, the College of William and Mary, and Virginia Tech more financial and administrative autonomy.8

In August 2011, pursuant to direction given in the Ohio budget bill, the Chancellor of the Ohio Board of Regents proposed that top tier public universities in Ohio be offered the opportunity to become Enterprise Universities.9  Ohio’s state funded universities would be given more autonomy and regulatory relief in such areas as construction, procurement and employment. Prevailing enrollment limits would be lifted. In exchange, the colleges would agree to meet certain academic, financial and research benchmarks and would divert 10 to 20 percent of its per-student state funding to scholarships. Critics claim that public oversight would be reduced, tuition could increase and workers would have fewer rights.10

Also in 2011, the Wisconsin legislature proposed the New Badger Partnership which would permit the University of Wisconsin to have more autonomy in light of the budget cuts it would be sustaining.11

Education:  Charter Schools

In Ohio, charter schools began in the 1990s. Cleveland began a program that provided money, or “vouchers,” to families to send their children to independent, non-public schools. Charter schools receive formal government incorporation, or “charters,” along with state funding, and retain a greater degree of autonomy than conventional public schools. Ohio’s 1997 charter school legislation allowed charter schools in the eight largest city districts. A 1999 statute permitted charter schools in the 21 largest urban districts, and, by 2000, any district designated by the state as being in an academic emergency could create a charter school.
A large percentage of the Ohio charter schools are affiliated with Whitehat Management, an education corporation owned by Akron industrialist David Brennan.12

As a part of the budget bill for the next biennium, the Ohio Senate added provisions lessening control and accountability for charter schools. The provisions would:

• Give for-profit companies the ability to use tax dollars to open unlimited numbers of schools without disclosing how public funds are spent and without oversight from sponsors as now required.
• Exempt the school, if an operator is running it without a sponsor, from current law that allows it to be suspended or put on probation for failing to meet student performance requirements, fiscal mismanagement, a violation of law or other good cause.
• Allow a governing board, if it contracts with an operator, to delegate all rights to the operator; specify that funds paid to the operator are not public and that property purchased by the operator belongs to the operator; and require the school to offer the operator the chance to renew its contract before seeking another operator.
• Require a charter school board to give an operator 180-day notice before terminating a contract, up from the current 90 days. It also gives the operator final say over the renewal of a contract between a school and its sponsor.13

Lobbyists for David Brennan proposed a number of these changes. Throughout the first part of 2011 these lobbyists worked with legislators and directly with the Ohio Legislative Services Commission to draft language for the bill.14  The proposed changes passed in the Ohio House, but not in the Senate, and did not appear in the final budget.

Ohio was not alone in further privatizing education. Indiana expanded the availability of vouchers. The new law, based on a sliding income scale, allows parents who meet certain income and other guidelines to use state dollars to help pay tuition at parochial and private schools. For example, a family of four earning less than $41,000 a year is entitled to a $4,500 voucher for a student in grades one through eight and $4,964 for a high school student. The voucher law also includes a tax deduction of $1,000 for each child currently enrolled in a private school or home school. The new charter school law expands the number of universities and colleges in the state that are eligible to sponsor a charter school. It also increases funding for online virtual charter schools and allows charter schools to take over unused buildings owned by a public school district.15

Medicaid

Medicaid is a health care program funded by both individual states and the federal government. It pays for health care benefits for a variety of low income and disabled individuals. The federal government pays approximately 57 percent of the cost of the program, with states paying the balance.16

The federal government has determined the minimum types of benefits that must be offered but states can choose to offer additional benefits. For the most part, payments are made on a fee-for-service basis, with the state directly paying the provider of the services.

Many states require that beneficiaries (other than long-term care) obtain part of their services from HMOs. In 2006, Florida initiated a pilot program: It put Medicaid recipients in five counties into a private managed care program run by for-profit HMOs. Critics of the program claim that vital services are delayed or denied by the HMO and providers are scarce. Many doctors would not take individuals with Medicaid HMO coverage because it paid providers virtually as much as Medicare paid.17 In May 2011, the state of Florida expanded the program to the entire state. The expansion needs to be approved by the federal government.

Lottery

In 2010 Illinois became the first state to privatize the operations of its lottery.18

In 2011, Ohio’s Governor Kasich recommended privatizing the Ohio Lottery if it will cut the state’s expenses. The legislature considered ordering the state budget director to study ways to convert the lottery to a private enterprise. Legislation was drafted by GTECH, a private entity which once ran the Ohio Lottery’s back office operations. GTECH’s draft was added to the Senate’s version of the bill, and the bill was passed. It spells out the qualifications a company must meet to operate the lottery and includes authority to conduct additional games that are not “subject to the state lottery commission’s rule-making authority.” 19 The proposal was not included in the final budget.

Sale/Lease of Infrastructure

Buildings

In January 2010, Arizona sold its archives building, the tower that houses the Governor’s office and six prison buildings. The state received $735.4M by going to the public bond market and selling certificates of participation. The certificates mature in three to 30 years and carry a 4.57 percent interest rate. The state will lease the building back from investors. Previously the state sold a state hospital, the state legislative offices and its Veterans Memorial Coliseum.20

In California, then Governor Schwarzenegger planned to sell state-owned properties, such as the California Supreme Court Building and the attorney general’s office in Sacramento. The state would then lease the buildings from the private buyers. The Governor hoped to gain about a billion dollars for 11 buildings. In 2011, current Governor Brown cancelled that plan.21

In 2011, Ohio authorized the sale of five of its prisons with plans to contract with private operators to provide prison services to the state at those locations. It also allowed local governments to privatize their parking facilities and meters through leases up to 30 years, and permits state higher-education institutions to privatize assets such as student housing.22

The common theme in these transactions: selling buildings the state is still using and receiving a large one time infusion of money in exchange for paying to lease the same buildings for many years into the future.

Turnpike

Ohio is discussing leasing the Ohio Turnpike. The budget bill permits the Ohio Department of Transportation to enter into a turnpike lease with a private operator with the approval of the Controlling Board. Ohio will continue to own the toll road. While other states have signed 75- to 99-year leases, Ohio is considering a 30- to 50-year lease. One requirement will be a substantial one-time up-front payment, probably several billion dollars. The state says that revenues would go to improvements such as highway construction and harbor dredging, mainly in northern Ohio where the turnpike is located.

Supporters point to the new projects the up-front lease payment could fund. Supporters say the turnpike could be run more efficiently. For example, it would be likely that a private operator would install automated fare collection machines, eliminating jobs of current unionized employees. Critics fear increases in tolls, which in turn would push more traffic onto routes running parallel to the turnpike. Critics also fear that maintenance will deteriorate. 23  The budget bill recently passed in Ohio lets the Governor explore leasing options, but the final contract must be approved by the General Assembly.24

Ohio is not the first to consider leasing a toll road. The Chicago Skyway and Indiana Toll Road have been leased to private operators in exchange for sizable upfront payments. The Chicago Skyway was leased in 2005 on a 99-year lease. Chicago received a $1.83 billion upfront payment. Toll increases were capped. The Indiana toll road was leased in 2006 on a 75-year lease. The upfront payment was $3.8 billion. In both cases some of the up-front money was used to pay off debt, improving the Chicago’s and Indiana’s credit ratings.25

The common theme in all three of these examples is shifting a stream of revenue that would continue over many years to a large infusion of funds in one year.

Development Department

A number of states have turned to public private partnerships to perform economic development functions formerly performed by departments of development or departments of commerce. The earliest is Enterprise Florida, which began in 1992. Since then, other states have followed:  Rhode Island Economic Development Corporation in 1995, Virginia Economic Development Partnership in 1996, Wyoming Business Council in 1998, Michigan Economic Development Corporation in 1999, Indiana Economic Development Corporation in 2003 and Economic Development Corporation of Utah in 2005. In 2011, the concept was proposed by governors in Arizona, Wisconsin, Iowa and Ohio.26

Ohio created JobsOhio in February 2011. It is a non-profit corporation formed for the purpose of promoting economic development, business recruitment, job creation, job retention and job training. Directors and employees of JobsOhio are not covered by Ohio’s ethics laws for public employees, and financial disclosure requirements are less than those required of public employees. Ohio’s open meetings law does not apply to JobsOhio,  but it must open its in-person meetings to the public. Also, Ohio’s public records law does not apply. The program is funded by an appropriation from the General Assembly, and Ohio’s current stream of income from liquor sales may be diverted to fund profits of JobsOhio.

Similarly in 2011, Iowa Gov. Terry Branstad proposed to privatize economic development by replacing the current state Department of Economic Development with the Iowa Partnership for Economic Progress. It will include a newly formed state authority and a separate nonprofit corporation that will be able to raise money from private-sector interests, industrial revenue bonds and other sources to instigate and help finance job-creation projects.27

Ann Henkener (LWVOH) is a member of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011
© League of Women Voters

ENDNOTES

1. Ohio Society of CPAs (2010, September) Ohio Budget Advisory Task Force Issue Paper. Available at http://www.ohioscpa.com/Libraries/Governmental_Affairs_Docs/Privatization_in_Ohio_Government.pdf

2. Gilroy, L. (2010, July 9) NJ Privatization Task Force Report Offers Reform Roadmap, Over $210 Million in Annual Savings. Reason Foundation. Available at http://reason.org/blog/show/new-jersey-privatization-report

3. Baskerville, V. (2009, October 21) Letter to The Honorable Timothy Kaine transmitting the 2009 Commercial Activities Report. Available at http://www.egovcompetition.com/commercial.htm,

4. Illinois Commission on Government Forecasting and Accountability (2006, October) Government Privatization:  History, Examples, and Issues. Available at http://www.ilga.gov/commission/cgfa2006/Resource.aspx?id=221

5. Rutz, H. (2010, March 10) Kasich campaign in the region. Lima News. Available at http://www.limaohio.com/news/campaigning-47865-kasich-region.html

6. Martin, J. and Samels, J., (2005, November) Charter University: A New Paradigm. University Business. Available at http://www.universitybusiness.com/viewarticle.aspx?articleid=140

7. Colorado Department of High Education, (2010, October 7) Performance Contract Review, 2002-2010, Colorado School of Mines. Available at http://highered.colorado.gov/CCHE/Meetings/2010/oct/oct10_iia_CSM.pdf

8. Higher Education Restructuring, University of Virginia. History. Available at http://www.virginia.edu/restructuring/background.html

9. University System of Ohio, Board of Regents (2022, August) An Enterprise University System for Ohio. Available at http://www.ohiohighered.org/sites/default/files/uploads/enterprise-university-plan/Enterprise-Universities-Plan-WEB.pdf

10. Richards, J. (2011, August 11) Replace public universities’ Red tape with scholarships, Petro says. Columbus Dispatch. Available at http://www.dispatch.com/content/stories/local/2011/08/11/replace-red-tape-with-scholarships-petro-says.html

11. University of Wisconsin-Madison (2011, March) Busting myths about the New Badger Partnership. Available at http://budget.wisc.edu/budget-news/busting-myths-about-the-new-badger-partnership/

12. Bodwell, G. (2003, March) Encyclopedia of Cleveland History. Available at http://ech.cwru.edu/ech-cgi/article.pl?id=CS12

13. Candisky, C. (2011, May 3) GOP Bill reduces charter schools’ accountability. Columbus Dispatch. Available at http://www.dispatch.com/content/stories/local/2011/05/03/gop-bill-reduces-charter-schools-accountability.html

14. Siegel, J. and Rowland, D. (2011, June 5) House Cozy with Charter School. Columbus Dispatch. Available at http://www.dispatch.com/content/stories/local/2011/06/05/house-cozy-with-charter-schoollobby.html

15. Handen, M. (2011, May 5) Governor signs sweeping voucher bill into law. Herald Bulletin. Available at http://heraldbulletin.com/education/x1892928766/Governor-signs-sweeping-voucher-bill-into-law

16. CBO Testimony, Medicaid Spending Growth and Options for Controlling Costs, July 13, 2006, Congressional Budget Office at: http://www.cbo.gov/ftpdocs/73xx/doc7387/07-13-Medicaid.pdf

17. News Herald (2011 February 28) Florida lawmakers poised to privatize Medicaid statewide. Available at http://www.newsherald.com/articles/lawmakers-91355-medicaid-miami.html
Aizenman, N. (2011, May 11) Fla. pilot program to cut Medicaid costs raises new questions. Washington Post. Available at http://www.washingtonpost.com/national/florida-adopts-new-medicaid-plan-to-cut-costs/2011/05/06/AFTByItG_story.html

18. Gilroy, L. (2011, March 23) 2010 Highlights in State Government Privatization. Reason Foundation. Available at:  http://reason.org/news/show/2010-highlights-state-privatization

19. Fields, R. (2011, June 16) State democrat, pair of Ohio Lottery officials bemoan plan to privatize the agency. Plain Dealer.

20. Arizona Republic (2010, January 15) Buildings sale nets $735 million for Arizona. Available at http://www.azcentral.com/arizonarepublic/local/articles/2010/01/15/20100115invest0115.html

21. Southern California Public Radio, “Governor Brown cancels sale of government buildings,”  Feb. 9, 2011.

22. Siegel, J. (2011, July 3) Columbus Dispatch,  “State Budget packed with changes.”

23#. Plain Dealer (2011, June 11) ODOT says big bucks from leasing Ohio turnpike would be spent in northern Ohio.
http://www.cleveland.com/open/index.ssf/2011/06/state_democrat_pair_of_ohio_lo.html
Akron Metropolitan Area Transportation Study (2011, May 12) Memorandum. Available at http://www.noaca.org/tpleaseamats.pdf

24. Bischoff, L. (2011, July 1) Ohio Selling off its assets to raise cash. Springfield News-sun. Available at http://www.springfieldnewssun.com/news/ohio-news/ohio-begins-selling-off-its-assets-to-raise-cash-1198516.html

25. The Madison Press, June 5, 2011, “Ohio willing to lease toll road, but won’t sell it.” Pew Center on the States, “Driven by Dollars,” March 2009. http://www.pewtrusts.org/news_room_detail.aspx?id=50282

26. Mattera, P. et al (2011, January) Public-Private Power Grab:  The Risks in Privatizing State Economic Development Agencies. Available at http://www.goodjobsfirst.org/sites/default/files/docs/pdf/powergrab.pdf

27. Boshart, R. (2011, April 5) New State economic development approach scrutinized, SourceMedia News Group  http://inthepublicinterest.org/article/new-state-economic-development-approach-scrutinized;
Goodner, D. (2011, April 5) Iowa Gov Terry Branstad proposed to privatize economic development in Iowa. Available at  http://www.iowapolitics.com/index.iml?Article=232427


Public Library Privatization

January 11, 2012

By Muriel Strand

Public libraries are caught in the wake of budget meltdowns at all levels of government. Previously, relatively few libraries have privatized certain functions, whether temporarily or permanently. But with revenues declining, more jurisdictions have recently considered subcontracting certain, usually limited, library tasks to the private sector, notably Library Systems & Services, LLC (LSSI).[1] Library Associates Companies (LAC Group), Informational International Associates, and Book Wholesalers, Inc. (BWI) are other possible vendors,[2] but public libraries seem less aware of them.[3]

LSSI got their start in 1981, with the Library of Congress and other government agencies. “Founded by library professionals,” it is nonetheless a privately-held, for-profit limited liability corporation. Islington Capital Partners is the private equity investor that offers them access to additional capital, allowing LSSI to grow their operations quickly, and to keep up with the information technology that appears to be one of their strong points.[4]

Over the decades, LSSI hase contracted with a number of local libraries across the nation, with results that seem to have been generally agreeable and convenient. Of the handful of libraries which have terminated contracts with LSSI, one library director said it was a combination of LSSI accounts-payable tardiness and the local library board feeling sufficiently recovered from an ineffective library director who was the reason for LSSI’s presence in the first place. Another system’s library director said LSSI had been brought in to help a branch of the Los Angeles County Library become an independent city library, and after the new library was stable the city took over. The long-term LSSI staff, who had been working there, was able to become city staff and acquired pension benefits.[5]
However, California State legislative staff refers to several instances when local governments (in Linden, NJ, Fargo, ND, and Hemet, CA) decided it would be cheaper to bring the work back in house. Decisions about fines and fees, handling cash and acquisitions all require more responsibility and accountability, no matter who performs them.[6]

Public libraries in Jackson County, Oregon, which had been closed due to budget constraints were reopened recently under LSSI contracts. The city of Santa Clarita, with three libraries, decided to subcontract various operations to LSSI rather than continuing to participate in the LA county library system, and by some accounts is now offering more to readers.[7] At the time of the actual changeover, their contract with LSSI was publicly posted on their website: http://www.santaclaritalibrary.com. According to California legislative staff, Santa Clarita has budgeted $8 million to $12 million for transition costs.

Riverside County, CA, Library decided to contract with LSSI to operate the library, while reserving the right to set policies, rather than continue as a subset of the Riverside City Library.[8]

Recent tentative proposals to bring in LSSI as a way to buffer budget cuts have caused concerns and have been rebuffed in several places, including Stockton, CA.[9] However, the issue of public pensions and unions, while very important, is not the same issue as the independence and accountability of local libraries, and the protection of free speech. Grappling with the former issue is more difficult when people believe the latter may be threatened thereby, so calmness and clarity are crucial.

In California, legislation that would raise the bar for local cities and counties wishing to contract with companies like LSSI is in a state senate committee as of June 2011.[10] Libraries which decide to privatize would be responsible for financial audits. Previous legislation allowed existing California local library systems to retain the per-capita library revenues from property taxes when a portion of the system seceded, rather than requiring the per-capita money to go with the seceding population. The requirements in Assembly Bill (AB) 438 would apply to non-profits, mostly because many for-profits have non-profit associates.[11]

Muriel Strand (LWVCA) is a member of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011
© League of Women Voters

ENDNOTES

1  David Streitfeld, “Anger as a Private Company Takes Over Libraries,: NY Times, September 26. 2010. http://www.nytimes.com/2010/09/27/business/27libraries.html.

2  LSSI http://www.lssi.com/; LAC http://www.lac-group.com/; Information International Associates, http://www.infointl.com/services/infomgmt; BWI http://bwibooks.com/

3  Phone conversation with Beth Postema, library staff in Fargo, ND.

4  Phone conversation with Calabasas Head Librarian, June 2011; Norman Oder, “When LSSI Comes to Town, Library Journal, October 1, 2004. http://www.libraryjournal.com/article/CA456252.html

5  Phone conversation with Calabasas Head Librarian, June 2011.

6  Phone conversation with Erin Baum, staff for CA Assemblyman Das Williams, sponsor of AB438;
“The Beast’s Business Model & What It Means for Your Library, February 28, 2011. http://privatizationbeast.org/2011/02/28/the-beasts-business-model-what-it-means-for-your-library/

http://www.americanlibrariesmagazine.org/news/07272011 Privatization—and Pushback—Proceed in Santa Clarita.

8  Gary Christmas, “The Riverside County Library System: Thirteen Years of Innovation, Experimentation, and Progress, June 17, 2010. http://www.countyofriverside.us/export/sites/default/government/docs/Library_White_Paper_June_17_2010.pdf

9  Zachary K. Johnson and David Siders, “Officials consider privatizing libraries to cut costs, April 13, 2010. http://www.recordnet.com/apps/pbcs.dll/article?AID=/20100413/A_NEWS/4130324&cid=sitesearch
Zachary K. Johnson, “Details released on library proposal,” August 14, 2010. http://www.recordnet.com/apps/pbcs.dll/article?AID=/20100814/A_NEWS/8140319&cid=sitesearch
Beverly Goldberg, “Privatization—and Pushback—Proceed in Santa Clarita,” American Libraries Magazine, July 27, 2011. http://www.afscmeinfocenter.org/privatizationupdate/library/

10  AB438 http://www.leginfo.ca.gov/cgi-bin/postquery?bill_number=ab_438&sess=CUR&house=B

11  Phone conversation and email exchange with Erin Baum, staff for CA Assemblyman Das Williams, sponsor of AB438.


Deregulation of Railroads

January 8, 2012

By Ted Volskay

BACKGROUND

In 1870, a practice referred to as “pooling” occurred on a large scale among competing railroads as a means to enforce rate and fare agreements. Competing railroads agreed to the division of rail traffic and receipts at stipulated ratios. Arrangements for the division of rail traffic and receipts were referred to as “traffic pools” and “money pools,” respectively. By the late 1880s, strong public opposition to pooling and other monopolistic practices by industry led to passage of the Interstate Commerce Actof 1887.1 Section 5 of the Interstate Commerce Act states:

That it shall be unlawful for any common carrier subject to the provisions of this act to enter into any contract, agreement, or combination with any other common carrier or carriers for the pooling of freight of different and competing railroads, or to divide between them the aggregate or net proceeds of the earnings of such railroads or any portion thereof?

In addition, the Act required that railroad rates be “reasonable and just” and that railroads publicize shipping rates, prohibited short/long haul fare discrimination, and created the Interstate Commerce Commission to hear complaints against the railroads and enforced laws against unfair practices.

By the 1920s, railroads faced significant financial challenges that could be attributed to federal regulations. Regulations at that time required railroads to service low density, unprofitable lines and to set minimum rates.2 Transport of high volume products on major routes was effectively subsidizing unprofitable transport of low volume products on less traveled routes. Consequently, regulatory mandates, forcing railroads into inflexible rate structures and to maintain excess rail capacity, prevented firms from responding to external disturbances such as a recession, a change in interest rates, or large and unanticipated changes in prices.3In addition, regulatory inflexibility rendered the rail industry vulnerable to competitors, including barge transport and the developing truck freight industry.

Direct and indirect consequences of regulations at that time resulted in railroad companies having little incentive to invest in innovative technologies to improve operational efficiency. For example, large railroad companies would benefit from the use of cars with significantly higher hauling capacities. To offset the increased cost of specialized freight cars, the railroad would need to lower rates for the intended customer to induce a higher volume of rail traffic. However, the Interstate Commerce Commission usually opposed the new rate, presumably to protect smaller rail carriers that could not or would not invest in the new and more expensive high-capacity rail cars.4

The cost of union labor also contributed to the financial stress on railroads. An unintended consequence of regulations during this period was the strengthening rail industry labor unions. Industries, like the railroad industry, were dominated by a few large companies, and regulations limited the entry of potential railroad competitors. This benefitted railroad labor unions because the unit cost (per worker) to organize employees was low, and the bargaining power of labor is leveraged when a large proportion of an industry workforce is unionized. In addition, union labor benefitted from regulations that allowed rail carriers to pass wage increases to the consumer.5

Labor unions also contributed to railroad industry inefficiencies. Railroad unions negotiated work rules that defined appropriate crew sizes, which typically included a conductor, two or more brakemen and, sometimes, a fireman. Labor inefficiencies occurred when rail carriers made the conversion from steam-powered to diesel-powered locomotives. That change required fewer crew members, but railroads were bound by union work rules to maintain the crew size. Similarly, the union and the rail industry agreed that the “work day” would be based upon mileage covered. Investments in improvements to increase train speed did not result in the anticipated profit potential for the rail industry because faster trains allowed union employees to work multiple shifts. This increased earnings without markedly increasing the number of hours worked each week.6

Privatization Case Study: Deregulation of Rail Freight Operations
Governmental Level: Federal
Primary Privatization Mechanism: Deregulation

Almost a century of regulating the railroad industry produced shipping rates that were incapable of responding to market changes, such as the emergence of the interstate highway system during the Eisenhower administration and growing competition from the trucking industry. Passage of the Railroad Revitalization and Regulatory Reform Act in 1976 and the Staggers Rail Actin 1980 provided the flexibility to allow rail pricing to respond to the marketplace, abandon unprofitable routes, and consolidate operations.7 More importantly, deregulation has put the U.S. rail freight industry on a more secure financial footing.

Since deregulation, rail carriers have been given the latitude to negotiate rates.8 Railroads are now able to negotiate rates directly with shippers, and the rail companies can tailor their capacity and services to the customer’s production and inventory policies.9 In addition, railroads are now able to abandon unprofitable routes and consolidate their operations.10 One result of this has been a substantial increase in the number of smaller low-cost, non-union, railroads that bought less profitable railroad tracks from the larger railroads. Surprisingly, the actual competition generated by the market has become more intense compared to level of competition prior to deregulation.11

Deregulation of the rail industry also allowed the railroads to adopt labor-saving information technologies, which made it possible to automate traffic control such as signaling, car management, dispatching and tracking.12 Use of labor-saving technologies led to the elimination of the caboose (last car on a freight train that had a kitchen and sleeping facilities for crew members) and associated crew members.13 This resulted in an overall decline in the railroad workforce of approximately 52 percent from 1973 (pre-deregulation) to 1996. Despite the loss of railroad jobs and the introduction of smaller, nonunionized railroad companies, overall union membership in the rail industry workforce declined by only 9 percent, and the adjusted weekly earnings of rail workers remained about the same over the same 23-year period. 14

External shocks to the economy, such as a change in interest rates, or fluctuations in the price of petroleum as well as deregulation of the trucking industry, have prompted the deregulated rail freight industry to improve customer service and operational efficiency, and rely heavily on innovation. The expanded use of intermodal operations, double stack rail cars, and computerized systems to track trains and manage railroad capacity has led to lower costs for shippers and higher profitability for rail interests.15

Things to Consider

  • Although there was competition among railroads, the rail freight business was a virtual monopoly in certain parts of the United States prior to passage of the Interstate Commerce Act in 1887.
  • Prior to passage of the Interstate Commerce Act in 1887, barge traffic along major river routes provided the only meaningful competition for bulk transport of freight outside the rail industry.
  • Development of bulk transport by truck since the 1930s has provided more competition in the freight transport industry.
  • The Interstate Commerce Commission initially was tasked with the authority to regulate railroads and was given the authority to regulate the trucking industry in 1935 following passage of the Motor Carrier Act.
  • Competition between the rail and trucking industries became more significant after passage of the Federal-Aid Highway Act in 1956 and development of the interstate highway system by the Eisenhower administration.
  • Rail and truck freight transport industries were both “deregulated” by 1980. However, passenger rail traffic is dominated by Amtrak, a government owned corporation.
  • Railroad unions have remained relatively strong compared to the trucking and airline industries since they were deregulated. This is attributed to the oligopolistic nature of the rail freight business.16

Ted Volskay (LWVNC) is a member of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011

© League of Women Voters

ENDNOTES

1. Emory R. Johnson and Thurman W. Van Metre (1918). “Chapter XVIII. Pools and Traffic Associations”. Principles of Railroad Transportation. New York: D. Appleton. pp. 292-307. Not available online.

2. James Peoples. “Deregulation and the Labor Market,” Journal of Economic Perspectives, Volume 12, Number 3, pp. 111-130, (summer) 1998. Journal access limited to American Economic Assoc. members

3. Clifford Winston (1998). “U.S. Industry Adjustment to Economic Deregulation,” Journal of Economic Perspectives, Volume 12, Number 3, pp. 89-110, (summer) 1998. Journal access limited to American Economic Assoc. members

4. Clifford Winston (2005). “The Success of the Staggers Rail Act of 1980,” AEI-Brookings Joint Center for Regulatory Studies, Related Publication 05-24, October 2005. http://ww.brookings.edu/~/media/Files/rc/papers/2005/10_railact_winston/10_railact_winston.pdf

5. See endnote 2.

6. See endnote 2.

7. See endnote 2. William W. Wilson, Wesley W. Wilson, and Won W. Koo. “Modal Competition in Grain Transport,” Journal of Transportation Economics and Policy, September 1988. http://www.jstor.org/pss/20052857

8. See endnote 2.

9. See endnote 3.

10. See endnote 2.

11. See endnote 3.

12. See endnote 2.

13. See endnote 4.

14. See endnote 2.

15. See endnote 4.

16. See endnote 2.


Privatization of a Publicly Owned Waste Water Treatment Plant

January 6, 2012

By Ted Volskay

BACKGROUND

Since 1972, the U.S. Environmental Protection Agency (EPA) Construction Grants Program has invested more than $67 billion in federal funds into publicly owned (wastewater) treatment works (POTW) throughout the country. Congress initiated the phase out of the Construction Grants Program in 1987 and replaced it with the Clean Water State Revolving Fund (SRF) program which provides low-interest loans to communities for the construction of infrastructure projects involving water pollution control. On April 30, 1992, President George H.W. Bush signed Executive Order 12803, directing federal agencies to remove regulatory or procedural barriers to privatizing wastewater POTWs under their control. In addition, Executive Order 12803 required that privatized federally funded POTWs continue to serve their original purposes.1

The first privatization agreement of a POTW under Executive Order 12803 was approved on July 21, 1995, when a private contractor purchased the Franklin, Ohio, POTW for $6.85 million. The Miami Conservancy District owned and operated the wastewater treatment plant that served the residents of the cities of Franklin (Warren Co.), Germantown and Carlisle (Montgomery Co.), Ohio.  The combined population of the three cities was approximately 22,000.2 The contractor that had operated the Franklin Plant under contract since 1987 offered to purchase the POTW in 1992. The transaction took two years of negotiation between the Miami Conservancy District, which owned the POTW, and the private contractor. Subsequent to the negotiations was an eight-month state approval process, followed by a four-month federal (EPA and Office of Management and Budget) approval process. The Office of Management and Budget had to agree to the negotiated transfer price since the sale of assets was not competitively bid.3 When agreement was reached on the terms, the City of Franklin, Ohio, became the first municipality in the nation to sell the public asset of a POTW that had been constructed with federal grant funds and enter into a public/private partnership agreement with the new owner.

Privatization Case Study:  Franklin, Ohio, Wastewater Treatment Plant
Governmental Level:  City (Franklin, Ohio) and County (Warren and Montgomery Counties)
Primary Privatization Mechanism:  Asset Purchase and Operation

The Franklin POTW was accepted by the EPA as a privatization pilot project. Planning and negotiations between Franklin officials and the prospective buyer began in the summer of 1994. On July 14, 1995, the City of Franklin received word that the EPA had completed its final review and authorized sale of the POTW. The transaction was completed within two weeks and the contractor that operated the plant since 1987 purchased the POTW in July 1995 for $6.8 million.4

Key to the success of this privatization initiative was 16 months of extensive planning and negotiations. A 20-year service agreement was signed that addresses the following key provisions:5

  • Unit rates the city will pay for sewage treatment;
  • Acceptable conditions for rate increases;
  • Operation and maintenance standards;
  • Allocation of environmental liability;
  • Protocol for prompt conflict resolution; and
  • Renewal of the 20-year contract.

The three most pertinent fiscal considerations were the:6

  • Initial sale price of the plant;
  • Annual rate and the amount and timing of any increases to the rate; and
  • Repurchase price of the plant at the end of the 20-year contract or, as a contingency, repurchase of the plant prior to that date.

A consultant with privatization experience was hired to advise and work with the three city managers during the evaluation and negotiation phase. An advisory board was established to represent the interest of the three cities and two counties, and to provide one voice for the buyer to negotiate with.7

A matrix was devised that compared economic and noneconomic impacts of three alternatives:8

  • Alternative 1 – maintaining public ownership of the plant;
  • Alternative 2 – creating a regional sewer district; and
  • Alternative 3 – privatization.

The Miami Conservancy District retained ownership of the wastewater collection system that directs sewage to the POTW and a small part of the treatment process so that the treatment system could maintain the publicly owned treatment works classification and avoid the more stringent and costly requirements that would otherwise be invoked under the Resource Conservation and Recovery Act (RCRA). Similarly, the Ohio Environmental Protection Agency listed both the contractor and the Miami Conservancy District as being responsible for meeting POTW discharge requirements.9

A 20-year agreement was signed that made the private contractor responsible for:10

  • Financing all plant upgrades and expansions;
  • Operation and maintenance of the Wastewater Treatment Plant (WWTP);
  • Administration of the municipal industrial pretreatment program.

The agreement gave the Miami Conservancy District the option to repurchase the POTW at the end of the 20-year term.11 In addition, all plant personnel were retained under the contract.12

The city of Franklin’s rates for wastewater disposal were reduced by 23 percent during the first year of the contract and, with the exception of energy and chemical costs, future rate increases were limited to increases in the rate of inflation.13

The pace of economic development in the area increased after sale of the treatment plant. Stabilized wastewater treatment fees were reportedly a primary incentive for expanding operations of three area paper industries and a subsequent increase in jobs. Increased economic development was closely followed by an expansion of the water distribution system from approximately 4 million gallons per day (gpd) to 10 million gpd.14

The City of Franklin, Ohio, entered into its second public/private partnership on November 1, 1997, when it opened a new 5-million-gallon-per-day water supply treatment plant that was designed, built and financed, and is now operated by a private contractor.15

THINGS TO CONSIDER

  • The EPA must review and approve all proposals to sell POTW assets when Federal grants have been used to construct the treatment works.16
  • In addition to the EPA, the Office of Management and Budget (OMB) must also review and approve the sale of POTW assets constructed using Federal grants if the transaction price is not established using a full and open competitive bidding process.17
  • POTWs constructed solely using state revolving loans or local funding may be sold without EPA review or approval.18
  • EPA review and approval is not required when POTW operations are privatized (subcontracted to a private entity), even if the POTW was constructed using Federal construction grants.19

Ted Volskay (LWVNC) is a member of the LWVEF Education Study Committee on Privatization of Government Services, Assets and Functions.

Produced by the Privatization of Government Services, Assets and Functions Study, 2011

© League of Women Voters

ENDNOTES

1. EPA-832-B-00-002. Guidance on the Privatization of Federally Funded Wastewater Treatment Works; August 2000.

2. Samuel L. Coxson, “Privatizing wastewater treatment in Franklin, Ohio,” Government Finance Review accessed May 2011, http://www.allbusiness.com/finance-insurance/543487-1.html.

3. EPA 832-R-97-001a. Response to Congress on Privatization of Wastewater Facilities, U.S. Environmental Protection Agency Office of Water, July 1997. http://nepis.epa.gov/Exe/ZyPURL.cgi?Dockey=20002990.txt

4. See endnote 2 here and for following endnotes (5-8).

5.

6.

7.

8.

9. Roger F. Wakeman, P.E., “Municipal Wastewater Privatization: An Alternative with Solutions for Infrastructure Development, Environmental Compliance, and Improved Efficiency,” Masters Project, Old Dominion University Department of Civil and Environmental Engineering, June 15, 1998. Municipal Wastewater Privatization: An Alternative with Solutions for Infrastructure Development, Environmental Compliance, and Improved Efficiency

10. See endnote 4 here and below (endnote 11)

11.

12. See endnote 3.

13. Dana Evans Voight, P.E., Engineering Considerations for Privatizing Water and Wastewater Utility Systems. Master of Science Thesis, Department of Civil and Environmental Engineering, The Florida State University, FAMU-FSU College of Engineering, 2009. Title page for ETD etd-11042009-182807

14. Arndt, Randy, “Wastewater deal yields profit and innovation for Franklin, Ohio,” The Free Library, 22 January 1996. 14 May 2011. http://www.thefreelibrary.com/Wastewater deal yields profit and innovation for Franklin, Ohio.-a017903809.

16. See endnote 1 here and for following endnotes (17-19).

17.

18.

19.