Role of SoE's in the Economy

In today's context, there is a genuine case to be made for the role of well managed efficient SoE's

admin, 06 Sep 2013

Fathmath Muaza

In every economy, private sector firms are meant to be efficient and hence they increase productivity, Small Medium Enterprises make better use of the locally available resources and offer equitable income distribution. State Owned Enterprises (SoEs), often are in the best position to generate positive externalities that benefit the society as a whole.

While classical economic theory advocates minimal state interference in the market operations, limited to state interference only when markets fail, many developed economies have protected certain industries, such as agricultural industries of the developed world using a variety of mechanisms. They include the huge subsidies, to government assistance to develop specific areas of interest, to pure government ownership of SoEs even in some of the most developed economies like Singapore.

SoEs, especially in developing countries are assumed to satisfy a variety of economic and social obligations that include among other things national infrastructure development, protecting and maintaining control over key strategic industries by preventing foreign influence and private monopolies, controlling prices of essentials, creating employment and upgrading of unskilled labor.

Studies show that even in some of the most developed nations, SoEs remain to be the principle suppliers of some of the most basic social services. They are meant to contribute positively to the economy through efficient delivery of essential services such as health, water, electricity and transportation to the public from a perspective of equity, and retaining these services as state entities is said to guarantee the common people affordable, equitable and efficient provision of social services.

Over the past fifty over years, countries around the world established large numbers of SoEs to achieve economic growth, among the most important of which have been to provide basic social services and infrastructure that could not easily be provided by government departments or by the private sector. Even in the developed countries, SoEs have been an important instrument for the development of certain key industries and channeling of investments in to areas not favored by the private sector.

Studies show that even in developed countries where the contribution of SoEs is relatively lower than the private sector, the strategic importance of SoEs to the national economy still remain quite significant.

These being said, there is still no ‘golden law’ with regard to the state’s involvement in the economy, which can be applied strictly across all countries. Hence, the degree and type of involvement by the state are designed to address national realities and aspirations.

SoEs in the Maldives and their contribution to the economy

State involvement in the economy through SoEs began some time back with state involvement in exports of dry fish but the present perspective may have said to be started in the 1970s with the formation of the first ever shipping company in the Maldives. This was followed by the trading industry, fisheries, transport and infrastructure and airline industries. Infrastructure required to engage in business and economic growth in these sectors were non-existent, until the state initiation in infrastructure development in these sectors that paved way for the private sector to thrive their business in some of these sectors.

SoEs continue to occupy significant roles in the Maldivian economy and even today are prevalent in some of the key sectors such as banking, trading, telecommunication, provision of utility services, infrastructure development, housing and land development, aviation, fisheries, tourism, some of whose performance is of great importance to broad segments of the economy. While the private sector’s level of engagement is not sufficient for the state to pull out its involvement in some of these industries, there is still a strong justification for the state’s engagement in some of them.

SoEs in the Maldives have played important roles, critical to the development of major sectors that owe their success, at least in part, to prior state ownership such as fisheries sector. In the 1970s, the World Bank funded fish collector vessels, cold storage systems and over 250 fishing dhonis for the state, initiated development and flourished the fisheries industry we have come to see today. State involvement in trading even today stabilizes the prices of essential consumables and other necessities. Development of infrastructure through SoEs has developed and in turn boosted economic activities in the island communities through development of infrastructure needed for economic growth. Small Medium Enterprises (SMEs) are known to be ‘the single most important driver that creates wealth and growth across economies’; SoEs play an important role in contributing to the growth of SMEs through its engagement in the banking sector that has enabled SME financing that contributed considerably to this sector.

In the recent past, and until the recent political turmoil that has grappled the society and the economy as a whole, SoEs have been a significant contributor to the national budget. However, SoEs today are not in a very envious state, with the management inefficiencies led by rising corruption, the distressing fiscal state of the economy and SoEs exposure to failures of the government has inhibited their positive input to the economy. SoEs, at times, have been formed and restructured without due regard to their economic and financial sustainability and many of these entities have been used as easy conduits for job creation driven by political motives. As a result, this has decreased efficiency, creating unsustainable levels of expenditure and adversely affected their results.

The Maldivian Economy is undergoing a major transition from being one of the least developed countries to a middle income economy with a sudden decrease in the amount of foreign aid and special concessions. This has increased the potential role which SoEs need to play in developing essential infrastructure and provision of other social services. In addition to this, some fundamental aspects of the necessary institutional systems are still in its nascent stage of being newly established, including effective regulators across sectors that are vital to ensure efficient utilization of resources, discipline behavior of commercial entities in the provision of goods and services.  Absence of such has restrained the ability of the government to hold management accountable for their actions that had caused significant losses to the economy. The incompetency of board directors and managements translates to weak strategies and decisions that have led to overall inefficiency of these companies.

Even with these challenges for SoEs to deliver their intended purposes, since there is no ‘one size fits all’ model for state involvement in all economies; SoEs in some critical sectors still needs to play an integral role in the Maldivian economy. State involvement in critical sectors of the economy is especially important in countries like the Maldives where entirely outsourcing state activities to the private sector is rather difficult.


Management and Monitoring of SoEs

It is crucial that SoEs must perform efficiently and effectively and where appropriate, under market conditions. While delivering the responsibilities assumed by the state, SoEs must function well, be efficient, innovative and offer high quality services. When services are provided by SoEs, they are expected and meant to be available at low cost and at better quality. They should not be a ‘burden’ on the public purse, but instead look to contribute to the national budget, they should be ‘benchmark’ companies with regard to efficiency of management and operation, be exemplary in good governance and in developing local capabilities and thus do so, they should not operate at cross-purposes but should rather act in a manner ensured to create synergy within themselves and across the larger economy. 

Some of the non-commercial considerations cause SoEs to appear and at times actually be highly inefficient and a drain on public resources. While some observers state that idiosyncrasies specific to state ownership can cause less effective management and weaker SoEs performance and that SoEs will by default when subsidized be inefficient, others argue that ownership of shares by the state does not necessarily imply thus.
These conflicting objectives and expectations warrants careful review of the role that SoEs are meant to play in the economy that should look to address the issues of managements, structures, performance monitoring and more importantly state engagement in the areas of the economy where it is indeed necessary. It is evident from the health of the economy that SoEs have a role to play in it, but the state actually needs to decide that role and identify the extent and type of involvement.

Given that SoEs objectives and roles extend beyond simple profit maximization, it requires very different management tools and feedback mechanism for performance monitoring. The fact that SoEs have a purpose that precedes simple profit maximization necessitates that their performance should not be judged by their financial performance and commercial viability alone. Hence, the performance monitoring aspects must also look for non-market tools that can provide for semblance of cost efficiency and ensure transparency and accountability in the management of SoEs and must be ensured to create synergies within them and across the larger economy.

State of SoEs in the Maldives

The challenges that are associated with SoEs being used as a political tool is not an aspect unique to just the Maldives. However, our unique geographic setting and limitations in terms of market size and key resource availability adds to the limitations in realizing the economic benefits of some of these entities. Certain specific expertise and experience integral for the functioning of boards and managements of SoEs are very limited in the market. This warrants a review of whether quality of a few well-functioning SoEs will benefit the economy over the quantity. We have seen a rapid increase in the number of SoEs created with the objective of providing various public services over the recent past, most of which turned out not too well, highly mismanaged and ultimately a drain on public resources. Hence it can be argued that the former will be more practical in an economy of this size and endowed means.

In many countries, challenges with regard to proper governing and exercising government ownership rights in SoEs have always been challenging. With the inherent politics, SoEs in many countries tend to take on a life of their own, pursuing their objectives independently of the state policy and ultimately fail to perform functions for which they were actually formed. In today’s political reality, objectives pursued by SoEs are often not well defined and can be very short lived in the context of changing policies and administrations, facing continuing risks of political interference, of cronyism and corruption in their governance and operation, and of an inability to generate adequate financial returns to either cover their costs or return a surplus to the shareholder.

This self-enriching behavior of SoEs can be the result of interpretation of the autonomy given to SoEs management and boards. The confusion created with regard to ‘strategic autonomy’ and ‘operational autonomy’ of owners and management, the former in deciding fundamental direction of the company and the latter given to the management to effectively achieve the goals set and decided by the owners.

With our past experience of governing and monitoring SoEs, legislative powers has always been crucial to exercise government control over them, especially in the account of effective performance monitoring, ensuring accountability and transparency in their operations and management. However, the recently enacted Privatisation, Corporatisation, Monitoring and Evaluation Act by the parliament exacerbated the current situation with the inconsistencies and vagueness of its content that further confuses and constraints fulfilling of SoEs anticipated objective in the economy.

Among the reasons why the state decides to keep poorly performing SoEs include protecting strategic industries and sectors of the economy that are vital for economic development, fear of social and political repercussions from elimination of jobs, providing services to the low income groups at subsidized rates and the belief that certain public goods and services can only be provided effectively by the public sector.

Whatever the reason, the policies and strategies decided for SoEs should ideally be inclined towards the growth of national economy and must align with the social development plans of the country. With these roles and objectives, investments by SoEs pay their way in the longer term and priorities slightly differ from a completely for profit entity. SoEs are subject to social obligations and political constraints in doing their businesses, mainly involving their pricing policy and viability of projects that most of the time conflicts with the commercial objective of a typical business entity.

The argument however still remains that SoEs can be efficient and competitive if they are well governed and controlled. Simple as it may sound, in order to achieve this, and given the current social and political reality, the culture and the ‘use’ of SoEs by the state need to be rethought. Strategies need to be set out with clear visions for how SoEs are expected to contribute to the economy with aligned missions and performance targets.

The legal framework needs to be revised, clarifying the ownership relationship between the State and the SoEs, clarifying the nature and extent of autonomy and impose standards in preparation of financial statements that are accepted internationally. For these to materialize, the vital role of a politically objective and qualified Board of Directors with ideal composition that best suit the business needs to be recognized by the state.

All in all, SoEs should be viewed from a more collective perspective, in that they should contribute to national development, provide quality services and ultimately be an instrument for economic growth.


Ms. Muaza has worked for seven years in the Public Enterprise Monitoring and Evaluating Board (PEMEB) of the Ministry of Finance and Treasury including for one and half years as CEO of the entity. She has an Honors Degree in Business Studies and an MSc in International Management at the University of Bath, UK.
 

© 2013 Maldives Economic Desk. All Rights Reserved.