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1
PUBLIC-PRIVATE SECTOR PARTNERSHIPS IN DEVELOPING COUNTRIES:
PROSPECTS AND DRAWBACKS*
ARGENTINO PESSOA
Faculdade de Economia do Porto
Rua Dr. Roberto Frias
4200-464 Porto, Portugal
Email: apessoa@fep.up.pt
Abstract
As it is well known the debate of new public management, together with the shortage of
public funds in most developing countries, has had a considerable impact on social services
delivery. Accordingly, many developing countries are searching positive impacts on the
efficiency, equity and quality provision of the public services through increasing competition
and active participation of the private sector, considering public-private partnerships (PPPs)
as the appropriate instrument to attain such endeavour. Accordingly, PPPs have been used for
many and widespread purposes, ranging from the construction of physical infrastructure, to
the provision of health and social services, to public administration. But, while the idea of a
PPP in general is theoretically appealing, its practical implementation in developing countries
is not so easy as theory suggests. Perhaps partly for that reason, a large number of
implemented PPPs have left the contractual parties dissatisfied, which may indicate that,
either developing country authorities, or investors (or both) may have had too high
expectations to what could be attained. Though some contracts have been granted under
circumstances that made them susceptible to changes in the political environment, the large
majority of the others have also suffered from inflated or unrealistic expectations. So, the
need for a legal and regulatory framework, which can guarantee a transparent and credible
relationship between the different actors, is critical. Unfortunately many, if not all, regulators
in developing countries lack one, or more, qualities required for an effective regulation.
Keywords: Contracting out, public services, market/government failure, infrastructures,
public-private partnership.
JEL codes: H4, H5, I18, I28, L33.
* A previous, and shorter, version of this paper was presented at the 11th International Conference on Public-
Private Partnerships: Enhancing Sustainable Development, held in Iaşi, Romania, 25th-28th May 2005. The
author would like to thank the helpful comments of participants in that Conference.
2
1. Introduction
This paper analyses the prospects of Public-Private Partnerships (PPPs) in developing
countries. In a precedent paper (Pessoa, 2004) we have argued that PPPs, conditional on some
assumptions, can be efficient forms of enhancing well-being and of promoting growth. Our
argumentation was grounded on a PPP definition and some assumptions. As a matter of fact,
we have defined PPP as a sustained collaborative effort between the public sector and the
private sector1 to achieve a common objective while both players pursue their own individual
interests. This definition implies that in a PPP each partner shares in the design; contributes a
fraction of the financial, managerial and technical resources needed to execute, and
sometimes operate, the project in accordance with each partner's comparative advantage, and
partially takes on the risks associated with the project and obtains the benefits, expected by
each partner, which the project creates.
Defined in the above-mentioned way, a PPP entails some assumptions. Firstly, a change in
roles: a PPP requires a shift in the roles and attitudes of public and private entities, moving
away from the usual client-contractor approach towards focusing on the core functions of
supervision and regulation by the public authorities, and assuming greater responsibilities and
risks in execution, operation and the mobilisation of resources by the private sector. This
change requires a transformation of the partners as some capacities of the public sector are
transferred away to the private sector.
Secondly, a sustained collaborative effort in order to attain a common objective is assumed.
The basis of the third "P" of the PPP, entails a joint alliance between the public and private
sectors beyond the traditional contractual relationship. Such association brings the best of
each partner’s competence to optimise the achievement of the common objective. Given the
mid-term, or long-term, nature of that objective and the transformation generated by the shift
in roles, the joint alliance needs to be sustained over a long period of time. The longer the
nature of the objective, the larger are the uncertainties associated with the project and the
more critical and relevant the third "P" of a PPP becomes.
1 The composition of the private sector is complex. The private sector can be categorized into private-for-profit
institutions and private not-for-profit organizations. Commercial enterprises essentially belong to the category of
profit-oriented organizations, and NGOs, professional associations, and other non-government institutions are
examples of not-for-profit organizations. Whereas the focus of PPP at first has been on the relationship between
the government and the for-profit sector, recently there has been a shift of attention towards the role of the non-
profit sector and its possible contribution in providing goods and services.
3
Finally, an assumption on the individual interests of each partner is crucial: generally, it
consists of a return of investment for the private partner2, and a net benefit to the society and
the economy as a whole for the public entity, through the achievement of specific goals, such
as the improvement of accessibility, the reduction of transport costs or the actual provision
and deliverance of other public services in an efficient way3. These interests are channelled
through the definition of risks. Thus, a clear assignment of risks is a precondition of the
implementation of a PPP project.
Whereas the idea of a PPP in general is theoretically appealing, its practical implementation in
developing countries is not so easy as theory suggests. On the one hand, there has been much
confusion in using the expression PPP4. Often donor agencies and governments promoted
privatisation and provided subsidies to private entrepreneurs in the name of building public-
private partnerships (World Bank 1986), while they are promoting other forms of private
involvement. On the other hand, governments of developing countries frequently overvaluate
the actual usefulness of PPPs.
As we have said above, in order to fulfil the criterion of a “partnership” there must be some
ongoing set of interactions, an agreement on objectives and methods as well as a division of
labour to achieve the goals. So, public-private-partnerships are therefore no equivalent to the
promotion of a free market economy, as usually some governments seem to consider. As a
matter of fact, looking at the reality of PPP in developing countries, we note that the debate is
very much concentrated on “complementarity” and not on cooperation (Robinson and White,
1997), which basically reduces the role of government to providing a favourable environment
to the other social actors.
Given these conditions, this paper analyses some forms of involvement of the private sector
and the potential of PPPs in developing countries. The outline is as follows. In section 2 we’ll
characterize what we mean by social sector and impure public goods. In section 3 we’ll
discuss the role of government in providing impure public goods. We’ll dedicate section 4 to
the make versus contracting out decision. In section 5 we’ll describe some reasons, in an
economics perspective, which must configure the role of private sector involvement in
2 If the private partner belongs to the not-for-profit category, the private interest is generally a way of attaining
its own main object more easily.
3 The public authorities must put a clear and stable framework that will be sufficiently transparent to the private
partner in place. This is notably the case for technical standards, taxation, and the setting of toll levels.
4 For both a clarification of the concept of PPP and a historical perspective of the public-private mixing, see
Wettenhall (2004).
4
providing impure public goods. Section 6 describes some conditions that are favourable to the
establishment of PPPs and relates them with some requirements in order to assure an effective
regulatory framework in developing countries. The paper closes with some conclusions for
discussion and future research.
2. “Impure” public goods
As it is well known, the role of government in formerly developed countries started from the
very limited scope of Adam Smith’s “cheap government” that provides only defence and the
administration of justice. However, it is widely acknowledged that the relative share of
government fiscal activities tended to increase steadily in the national economy towards a
greater government (see, for instance, Peacock and Wiseman 1961).
Economics teach that the pricing mechanism of the market secures an optimal allocation of
resources, if certain conditions are met. For private goods, these conditions are satisfied
reasonably well over wide areas in the so-called market economy. In these areas, the
government normally does not have itself to get involved with matters of resource allocation.
There are, however, a number of conditions where the market forces cannot secure optimal
results, and here we are faced with the problem of how the government can interfere to obtain
a more efficient resource allocation.
According to public economics literature, we can distinguish between public goods and
private goods. Pure public goods are best thought of as a scientific term used to describe a
hypothetical good that is non-rival in consumption and, simultaneously, has a zero degree of
exclusion. In the actual economy, goods that are nearer this concept are defence and
administration of justice. By contrast, a pure private good is a supposed good whose benefits
are completely rival in consumption and has simultaneously a perfect degree of exclusion. So,
depending upon the degree of each characteristic, goods and services are classified from the
pure public good on one extreme to a pure private good on the other. There is a wide
consensus that the main role of government is providing pure public goods.
No doubt, there are a wide variety of intermediate areas between two extreme cases in relation
to various degrees of non-rivalness and exclusion. We may call relevant goods provided in
these areas “impure public goods”. As a consequence, as shown in Figure 1, both private
sector and government have an overlapping zone from which impure public goods are
provided to the national population. In the context of this paper, social sector is defined as a
5
set of activities that deals with goods (named impure public goods or merit goods) included in
that overlapping zone.
Figure 1. Social sector and impure public goods
So, the distinction between private and public goods by using two characteristics is not of an
absolute kind. Inefficiencies occasionally arise in the provision of private goods through the
market process. Wherever such is the case, we could say that an element of public goods is
involved with certain social value. The difference is essentially one of degree, but its
distinction remains of fundamental importance.
However, theoretically an unambiguous line can be drawn between two types of goods
(private goods provided for adequately by the market and public goods satisfied through the
government action), in practice we need to consider situations where government corrective
action is required to secure an allocation of resources that is in line with consumer
preferences. Certain goods are satisfied by the market, subject to the exclusion principle,
within the limits of effective demands. But, if they are considered so meritorious that their
satisfaction ought to be provided for through the government over and above what is supplied
by the market and paid for by private buyers, they become a sort of “public” goods. This
second type of public goods is usually referred to as merit goods, whose typical examples
include such services as free education, free health services, subsidized low-cost housing,
etc5.
5 See Musgrave (1959, pp. 13-14).
Private goods:
• Rival
• Exclusive
Public goods:
• Non-rival
• Non-exclusive
Social
sector
Private sector Government
• Impure public goods
• Merit goods
6
Obviously, the satisfaction of merit goods cannot be explained in the same terms as that of
pure public goods. Although both are two so-called public goods in that the government
provides them, different principles are applied. Public goods in general constitute a special
problem caused by market failures, but the provision of merit goods because involve
interference with consumer preferences fall within the scope of consumer autonomy, as
private goods are satisfied.
Some goods that the government is now provided for may fall on the frontier between private
and public sectors (i.e., social sector in our terms), where exclusion can be applied to part of
the benefits gained but not to all. Public provision for free educational or for free health
services are typical cases in point. Such services are of direct benefit to the particular pupils or
residents, but apart from this, everybody enjoys from living in a more educated or healthier
community. Thus, goods that come into view of society as merit goods may include
substantial positive externalities.
Figure 2 intends to clarify the basic nature of goods in whose provision government is
involved by using two criteria: efficiency and equity.
Figure 2. Different types of goods
Efficiency is taken on the horizontal axis while equity corresponds to the vertical axis. It is
apparent that goods of type B, usually classified as merit goods (v. g., education and health),
Efficiency
Equity
Type A
Defense;
Judicial System;
…
100%
100%
0%
Type B
Health;
Education;
…
Type C
Telecommunications;
Utilities;
…
7
would be located in the intermediate position, between pure public goods (type A) and more
rival goods.
However, government has provided for other services (type C), not generally named as merit
goods. Utilities such as water supply, gas, electricity and telecommunications and certain
modes of transport such as rail, all include natural monopoly characteristics arising from
persistent economies of scale and scope. These characteristics mean that competition is
unlikely to develop, or if it develops, it will be uneconomic because of the duplication of
assets. Although technological advances, notably in telecommunications, have reduced some
of the natural monopoly characteristics in utilities, permitting economic competition in certain
areas of service delivery, nevertheless each of the utilities retains some natural monopoly
features. As a consequence, privatisation of these industries, in whole or in part, threats the
introduction of private-sector monopolies that will exploit their economic power in the market
place, leading to supernormal profits and a consequent reduced consumer welfare. Consumers
may suffer from both no or limited choice of goods and services and face monopoly prices.
On the other hand, looking at equity, a society might be interested in correcting the final
allocation of goods and services as it closely depends on the initial distribution of wealth.
Therefore the government might want to correct these inequities by a policy, which directly
benefits the poorer part of the population, e.g. providing services at a low cost or for free to
the poorest part of society. It is, however, quite arbitrary to draw the vertical line of social
value among each item, because it depends on value judgments. Consequently, the amount of
social goods provided for by the government is unclear in a political process influenced by
specific social values6.
3. The role of government in social sector
In the provision of public and social goods economic theory suggests that market failure and
equity considerations call for governmental intervention. The role of government can be
described as consisting of the following:
• Overcoming market failures. For goods of type A and type B, market failure means
essentially an underprovision, e.g. in the case of the health sector either non patient-
6 A position of strong individualism, like the prevailing in the US, could demand that merit goods be provided
for, to a considerable extent, by private sector, while the prevalence of social values, like in the North European
Countries, tends to extend the desirable sphere of merit goods.
8
related preventive services or disease control and vaccination/immunisation programs.
Where needs are likely to go unmet because of market failure, there is a role for the
government to step in. When the social benefits of services exceed the private benefits,
there is likely to be sub-optimal provision and this often calls for government provision.
As one example, people typically contract sexually-transmitted diseases (STDs)
accidentally. By bearing some of the cost of detecting and treating STDs, governments
confer benefits not just on the individuals treated, but also on those who may otherwise be
at risk of infection. The same can be told about vaccination programs and other forms of
diseases control. Another example of market failure in developing countries is the
education of girls. Many families fail to see any benefit from sending girls to school or are
averse to give up the household labour, or income, they make available. However, as a
social investment, girls’ education is crucial because it is associated with improved
opportunities for them to live longer, richer, and more rewarding lives — and with better
health and social outcomes for their children. Thus, by encouraging the education of girls,
through educational scholarships or consciousness-raising campaigns, governments can
benefit both girls themselves as well as their families and communities. This example may
be extended to the health sector, as the welfare of infants depends heavily on the health
status of the mother. For goods of type C market failures mainly relates to the existence of
co-ordination malfunctions induced by scale economies. There is the case of external
economies that arise when a new highway is built or as the size of a telecommunication
service increases. The market failure is that at a given point in time, current prices may
not convey the information about prospective expansion that is relevant to attaining a
lower cost of production (Scitovsky, 1954; Chenery, 1960).
• Providing for the poor, the rural and under-served populations. Providing health care or
education in rural areas tends to be particularly difficult, and generally unprofitable from a
private viewpoint. Not only rural populations are often small or dispersed but also private
providers are often scarce or nonexistent7. The public sector is best-placed to provide a
safety net for citizens who cannot pay market prices for health or education. However, this
can be achieved by providing services directly or by creating incentives for the private
sector to carry out the task.
7 Government clearly has a role providing services here, but it can also act in other ways. It can place obligations
on private providers to provide broader access when they occupy a monopoly position or consider subsidizing
access to private systems for disadvantaged groups.
9
• Implementing appropriate regulations to ensure quality. In education, quality is usually
monitored by evaluation and accreditation, with private institutions expected to meet
minimum standards. Consumers will also act as a force for quality, but only if they have
sufficient information. Governments can act as important providers of this information.
But the existence of asymmetrical information is also overwhelming in the health sector.
When drugs are sold on the open market the manufacturer is usually better informed on
the efficiency and safety of the drug than the purchaser. To address the described market
failures the government usually reacts doing something to minimise the effects of
asymmetric information, e.g. the official registration of health professionals and official
recognition of drug quality.
• Controlling costs. Quite frequently, governments act to put a ceiling on fees private sector
providers can charge. This is controversial, as it causes a market distortion, and should be
done with care. However, restrictions may be necessary where there is little competition,
no parallel public provision, or where consumers are relatively poorly informed about
their needs and the quality of the provision. Pharmaceutical cost is one area where the
potential for excess profits is high and control may be necessary, but in goods of type C
the problem is also real.
• Additionally, the government must deal with other examples of market failures, such as
the problem of adverse selection and moral hazard, associated to the privaty run insurance
schemes, which leads to an unequal coverage of health care services8.
The presented stylised facts on the role of government have been mainly derived from
theoretical considerations. In practice, however, some of the above mentioned points have to
be equated with the possibility of government failures. If one looks at the role of the
government’s performance in practice one has to recognize that due to allocative inefficiency,
operational inefficiency and equity problems the state sometimes poses more problems than
solutions. Additionally, if social services are provided for free and are accessible, then the
quality is often so bad that people prefer to go to a private provider and to pay fees with a
certain guarantee of a quality treatment. But if people prefer a private provider even if they
have to pay fees, a question arises: Why not “contracting out”?
8 Private insurers will only include good risks in their schemes. This behaviour makes risk pooling among a
society difficult and leaves the bad risks to the public sector.
10
4. Why not “contracting out”?
The expression “contracting out”, in this context, means the outsourcing of activities formerly
done by the public sector as popularised by the discussion of new public management. Such
debate, opened in developed countries, like the USA and the UK, spills over to the developing
ones with a considerable impact on social services delivery. Additionally, in the context of a
worldwide welfare systems reform, decentralisation of services from the national to the local
level is frequently suggested in conjunction with an improved participation of the population
in determining and implementing the services. Contracting out could be an element in this
overall strategy (WHO 1998).
The main strength of the private sector is its variety, with players acting for different motives.
In particular, there is an important distinction between profit and non-profit organizations. In
recent years, non-profits have proved especially skilled at improving provision to the poorer
people, their size and flexibility allowing them to achieve notable successes in areas where
governments have failed.
Looking at the private sector in general, the following strengths are usually referred to:
• Improving quality. Private providers must develop their businesses and, in most situations,
this involves retaining existing customers as well as attracting new ones. They tend to be
highly innovative and also to learn from their competitors, thus aiding the transmission of
best practice. The private sector can also act as a leader in demanding that information is
made available to the public.
• Improving customer service. Public services are recognized the world over for low-
standards of customer care. In recent years, many business sectors have been
revolutionized by a new customer-focus. Education and health stand to make similar
gains. It is interesting to note that when poor people are seriously ill, they often borrow to
see a doctor privately.
• Improving management standards. Management standards are generally higher in the
private sector, with staff usually better paid and motivated. So, business can act as a
partner transferring important skills for a great lot of sectors including the ones of health
and education.
• Investing in research and development. The private sector is well suited to carry out
research and to develop new techniques. The returns from investment in social areas have
11
successfully mobilized private investment in pharmaceuticals, surgical instruments, and
other medical practices9.
• Developing new services and market-based systems of rationing. The private sector has an
essential role where demand is expanding or the patterns of demand are changing. When
these changes happen, it is an increasingly important provider of higher education, for
example. Skills development and professional development, for instance, can be funded
privately, either directly at the level of the firm or through reimbursement mechanisms. It
is inevitable that some costly procedures, perhaps of limited efficacy, cannot be funded
universally. The government is able to set the context of what is considered an essential
service available for all. The private sector can ration access to other services using the
price mechanism.
However, on efficiency grounds governmental agencies, as well as private companies, need to
consider the costs and benefits of contracting out versus in-house provision. With regard to
the benefits, it is usually argued that contracting-out allows savings on the long-term costs of
hiring specialised experts, who may be required only in very specific periods of time being
under-occupied for the rest of the time. On the other hand, public bodies often attempt to fill
the “capability gap” by contracting out functions where “in-house” capacity is limited10. This
may be particularly required for capabilities that are highly specialised.
Consequently, contracting out, if done in the right fashion, enables governmental agencies to
benefit from the combined force of specialization and competition, and therefore to reduce
their costs substantially. The savings provided by adopting outsourcing, seem in some cases
significant. Overall, it has been estimated that the benefits of competitive contracting out may
allow reductions in costs by as much as 10-20 percent, at the same time as constant quality is
maintained11. If the advantages are so important, public bodies need to assess their functions
according to their relevance to their core values, and contract out all the others12.
Alongside these attributed benefits to contracting out, the cost side should not be overlooked.
Contracting out will increase transaction costs, including both contracting and monitoring
9 Nevertheless, the government must retain an important role in financing basic research that can produce
important building blocks for subsequent applications that may improve well-being and for which short-run
commercial gains are not apparent.
10 In order to develop specific systems or carry out training on a short-term basis, it could be more effective to
acquire capabilities externally.
11 See Domberger (1998).
12 See Prahalad et al (1990) for a managerial perspective on this subject.
12
costs13. Moreover, the costs related to the loss of monopsony purchasing power and the social
costs arising from equity problems (Robinson, 1990; von Otter and Saltman, 1992)14 could be
significant. But, these direct costs are not the only ones that we must control in public services
provision. In this specific sector, contracting-out requires maintaining minimum levels of
qualified staff in-house in order to specify employment terms clearly and in a way that fits the
specific purposes of the activity, or to correct the service provided externally in the event of
provider failure. Table 1 synthesises the pros and cons of contracting out.
Table 1. Pros and cons of contracting out
Pros Cons
Reducing costs, for the same
level of quality
Filling the “capabilities gap”
The replacement of direct,
hierarchical management
structure by contractual
relationships between
purchasers and providers
will increase:
• transparency
of prices
• competition
Which will lead to a gain in
efficiency
• Private providers respond to the population’s
willingness to pay for public services. As a result,
they will serve those groups in the population who
are most willing to pay, such as affluent urban
residents. The result will be increased inequity in
access and use of public services.
• Because of lower willingness to pay, private
providers will undersupply socially desirable
services, such as immunizations and personal
preventive care. This will worsen allocative
efficiency in the corresponding sector.
• Driven by the profit motive, and because they
have significant control over demand, private
providers will take advantage of clients by supplying
more than is required. This is particularly significant
in health care services. This is inefficient and may
result in health-weakening actions.
• Private providers can also take advantage of
clients by providing low-quality services, which may
result in welfare losses15.
The actual effect of these four major worries is as greater
as there is lack of competition.
13 See Coase (1960) for the economic framework in the “make vs. buy” decisions, and Brueck (1997) and
Donahue (1989) for its practical applications.
14 In addition, some other impacts should be taken into account, too. As Mills (1995) argues, the introduction of
contracts may both lead to a fragmentation or lack of co-ordination within the broader public service system, and
could have an impact on staff resources with a drain of key personnel to the for-profit providers.
15 See Berman (1997).
13
As is apparent from the analysis of table 1, several factors come into play in reaching efficient
decisions. Factors like the need to fill a “capability gap” or to reduce costs would advise the
contracting out of some functions. If this is the case, public bodies face the need of, at least,
maintaining quality constant. Such decisions should be based on the identification of the
agency’s core functions and consideration of the costs and benefits of contracting out versus
in-house provision. In the last twenty-five years, more and more governments in developing
countries are turning to private sector participation as an alternative answer to the traditional
solutions based on conventional projects centred on public investments in new capacity and
training. Let us see some of those solutions.
5. Private sector involvement in public services
As highlighted in previous sections, the provision of public services has undergone major
changes in the last two decades with many developed and developing countries choosing to
move away from the traditional public sector model of service provision and to introduce
private sector participation. The involvement of private sector in public services has followed,
in general, six basic forms:
• Short term service contracts. In this option, specific tasks, usually everyday
maintenance jobs, are contracted to the private sector, but overall services management
remains within the public sector. This type of contracts has been implemented in many
countries with good records of success and is often seen as a first step towards PPP. In
order to define the compensation to the private sector partner, two types of contract are
frequent. In a quantity-based maintenance contract, the remuneration of the contractor is
based on unit prices defined in the contract and the quantities are measured on site. The
other type — performance-based maintenance contract — is derived from the previous
one type of arrangement, by shifting the focus from administration (maintenance activities
and resources) to certain performance conditions valued by the users. In this case, the
payment is based on a fee directly stated in the agreement and linked to performance
indicators.
• Management contract. A management contract is an arrangement by which a private
company is entrusted with various types of tasks, relating to the organization and
maintenance operations usually performed by the public authority. This type of contract
involves the payment of a fee to the private company. Usually, the function of the private
14
firm is to respond to day-to-day routine maintenance needs by contracting private
companies, on behalf of the public entity.
• Lease. In this form, a private company leases the assets of a utility, and maintains and
operates them, in return for the right to revenues.
• Greenfield Projects. These are new projects usually built and operated by the private
sector that takes on the commercial risk. Political and exchange rate risk can sometimes be
shared with the public sector. Such projects can take many forms, but the most common is
Build-operate transfer (BOT). In this option, very usual in public works, the private
sector develops, finances and operates bulk facilities. Under a BOT, the responsibility of
the concessionaire is not limited to the operation and maintenance of the infrastructure but
it also includes a component of initial construction, upgrading or major road
rehabilitation. Massive investment and consequent mobilization of private funding sources
are therefore required from this company, which is to be repaid from the revenue collected
from service users (usually tolls). The BOT arrangement stresses the responsibility of the
private entity during construction and operation of the infrastructure and the transfer of the
assets to the public entity at the end of the operation period. The high initial investment
required from the private sector and the consequent long concession period turn the
distribution of risk between the parties into a key element of success in such schemes.
Others forms of Greenfield projects include Build-Own-Operate-Transfer (BOOT),
Design-build-operate (DBO), Design-Build-Finance-Operate (DBFO) and Build-Lease-
Transfer (BLT)16.
• Concession. In a concession a public entity owns the assets, but it contracts with the
private sector for operations, maintenance and investment. For instance, a road concession
is an arrangement under which, the owner of the road, delegates to a private entity
(concessionaire) the responsibility for providing and maintaining a specified level of
service to road users in exchange for the right to collect revenue from those users. Besides
the issues inherent in a concession agreement, an operation and maintenance concession is
similar in scope and approach to what is required and negotiated in a typical operation and
maintenance agreement between private parties under a BOT-type arrangement.
• Divestiture: the assets of a public utility are sold to the private sector.
16 Other variations on this type of contract have been implemented with a consequently growing number of
acronyms used to label them (v. g., BOO, BTO).
15
From the above description, it is obvious that several aspects may distinguish the diverse
forms of private involvement. If the principal reason of the participation of the private sector
is the large potential for gains in efficiency in the public sector, it may be expected that
projects with higher level of private sector involvement deliver more efficiency gains.
However, the consequent risk of failure grows correspondingly. The following table
summarises advantages and drawbacks of the different options from a theoretical perspective.
Table 2. Pros and cons of the different private involvement options
Option Pros Cons Typical
duration
Service contract Can inject good
technical expertise
Unlikely to greatly improve
performance where overall
management is weak
6 months to 2
years
Management contract
Gains in managerial
efficiency
Gains can be difficult to
enforce; public entity
remains responsible for
investment
3-5 years
Lease
Commercial risk borne
by the private sector,
giving strong
performance
incentives
Administratively
demanding;
public entity remains
responsible for investments
10 to 15
years
Greenfield projects
Good way of getting
efficient delivery of
bulk services, with
private investment
Not a good solution if
supporting distribution
systems are in bad shape, or
traffic levels are uncertain
15 to 30
years
Concession
Potential for high
efficiency in
operations and
investment
Requires considerable
commitment and regulatory
capacity
25 to 30
years
Divestiture Potential for high
efficiency gains
Requires credible
regulatory framework
Indefinite,
but may be
limited by a
license
As it is apparent from table 2, options that yield higher social benefits also tend to demand a
higher level of government commitment, and a better prepared institutional framework.
According to the PPI database (World Bank, 2006), Between 1990 and 2003, there were over
2750 projects with private participation in infrastructure in developing countries, with total
public and private investment in these projects amounting to 785.758 billion of US 2002
dollars (table 3).
16
The analysis of the importance of PPPs in developing countries shows a concentration around
a scarce number of sectors and around a reduced number of countries. Table 3 illustrates the
importance of PPPs in four sector and six large regions together with the prevalence of each
type of PPP by sector and region.
Table 3. Type of PPP by Sector of activity and Region
Total Type of PPP:
(USD millions) Management
and Lease (%)
Concession
(%)
Greenfield
(%)
Divestiture
(%)
Sector: 785,758 0.1 14 45 41
Energy 260,224 0.0 4 54 42
Telecom 362,194 0.1 1 44 54
Transport 123,553 0.3 57 37 6
Water 39,787 0.3 67 18 15
Region:
E. Asia and
Pacific 186,729 0.0 16 63 21
Europe and
Central Asia 118,580 0.1 5 46 49
Latin America 373,592 0.1 17 29 53
Middle East and
North Africa 30,958 0.1 25 47 28
South Asia 45,026 0.0 2 90 8
Sub-Saharan
Africa 30,879 1.4 12 53 34
Source: World Bank (2006).
It is apparent from the table that private participation in infrastructure in developing countries
has been concentrated in the telecommunications sector, which accounted for 46.1% of the
cumulative investment in 1990-2003. Energy, which includes electricity and the distribution
of natural gas, attracted the second largest share of investment, accounting for 33.1% of the
cumulative investment in private infrastructure projects. In contract, private participation in
the water sector has been limited, accounting for 5.1% of cumulative investments over the
same period. The limited amount of private involvement in water utilities is likely to reflect
the inherent difficulties that face privatization in this sector, in terms of the technology of
water provision and the nature of the product.
The transport sector represents only 15.7 per cent of total investment. One half of this
investment has gone into toll roads, with the rest in railways, seaports and airports. Unlike in
17
telecommunications and energy, concessions are by far the most important form of PPP in
this sector, owing partly to the political sensitivity of transferring public assets to the private
sector. In the 1990s, three quarters of toll road concessions involved expansion or
rehabilitation of existing roads rather than the construction of new infrastructures.
Divestitures have been rare and have mostly occurred in China where minority stakes were
sold in several state-owned toll road companies in order to finance future road construction
(OECD, 2005).
In regions, policy makers appear to have a preference for greenfield projects, which allow
new infrastructure to be built without necessarily having to embark on major structural
reforms. Exceptions are found only in Latin America and transition economies where
divestitures were more widespread, reflecting major privatization programs in many countries
in these regions.
The greater prevalence of greenfield projects in Asia and of divestitures in Latin America
show that private investment has tended to complement public expenditure in Asia and
replace it in Latin America. As a matter of fact, in Latin America private participation in
infrastructure was often part of a broader reform program where divestitures and concessions
of existing assets predominated in the cumulative investment in private infrastructure projects.
In contrast to Latin America, the Asia region has focused on the creation of new assets
through greenfield projects.
Table 4 shows the occurrence of each type of PPP across sectors and regions. Most
concessions contracts are seen in the transport sector and most divestitures in telecoms.
Greenfield projects were quite equally divided between energy and telecommunications, as
are management and lease contracts between telecoms and transport. The largest share of both
concessions and divestitures has arisen in Latin America, while greenfield investments are
much more evenly distributed. Almost one half of the management and lease contracts have
been implemented in Sub-Saharan Africa.
Predictably, divestitures and greenfield projects, which involve actual investment, have taken
the largest part of PPPs (85.6%). The latter tend to be most prevalent in the energy sector,
divestitures in telecoms, and concessions in both transport and water sectors.
18
Table 4. Importance of PPPs by sector and Region
Type of PPP:
Management
and Lease Concession Greenfield Divestiture
Sector: 884 112,653 352,489 319,732
Energy 2% 10% 40% 34%
Telecom 44% 5% 45% 62%
Transport 40% 62% 13% 2%
Water 15% 24% 2% 2%
Region:
E. Asia and Pacific 0.2% 27% 33% 12%
Europe and Central Asia 8% 5% 15% 18%
Latin America 43% 57% 31% 62%
Middle East and North
Africa 2% 7% 4% 3%
South Ásia 0.0% 1% 11% 1%
Sub-Saharan África 48% 3% 5% 3%
Source: World Bank (2006)
Although almost all developing countries have witnessed some form of private investment in
infrastructure since 1990, private investors in infrastructure have tended to be directed to a
small group of developing countries: the ones with relatively large, rich or fast-growing
markets. Table 5 shows the top 25 destinations for investment in PPPs in infrastructure in
developing and transition economies in the 1990-2003 period.
The 25 countries presented in table 5 account for almost 90 per cent of total. Among the
developing regions, Latin America accounted for the great bulk of the cumulative investment
in infrastructure. Together 3 Latin American countries (Brazil, Argentina and Mexico)
account for more than a third of total PPP investment in the developing world.
The extreme concentration of the investment in Latin America countries, where corruption
has high indexes by international standards or in Transition Economies acknowledged by poor
19
market regulation, can explain almost partly some recent disappoint about PPPs that contrast
with the higher expectations prevalent in the middle of 1990s17.
Table 5. Investment in PPPs by country, 1990-2003
Country USD millions
per cent Country USD millions
per cent
Brazil 157,098 19.7% Czech Repub.
16,388 2.1%
Argentina 72,858 9.1% South Africa 15,959 2.0%
China 61,170 7.7% Russia 14,784 1.9%
México 59,753 7.5% Colombia 13,779 1.7%
Malaysia 36,695 4.6% Peru 13,762 1.7%
India 33,108 4.2% Morocco 12,812 1.6%
Philippines 31,017 3.9% Venezuela 11,858 1.5%
Indonesia 29,210 3.7% Pakistan 7,487 0.9%
Thailand 23,662 3.0% Slovak Repub.
5,837 0.7%
Chile 22,003 2.8% Egypt 5,689 0.7%
Poland 18,025 2.3% Romania 5,321 0.7%
Turkey 17,719 2.2% Bolivia 4,848 0.6%
Hungary 17,415 2.2% Top 25 708,257 88.9%
Source: World Bank (2006).
PPPs have been an important vehicle for the investment of OECD multinational companies
(MNCs) in developing countries’ utilities and infrastructure sectors. According to OECD
(2005) there is a propensity for larger investment size to involve a greater domination by
multinational players. For instance, in telecommunications, the top 20 investors account for
over 60 per cent of total investment (see OECD, 2005, table 5). MNCs domiciled in OECD
countries represent only 1 per cent of private investors, but 30 per cent of total investment in
telecommunications and energy. Consequently, infrastructure projects are under control of a
small group of large firms.
17 See OECD (2005). This report explains the decrease in actual investment in infrastructure projects involving
PPPs by the fact that either developing country authorities, or investors (or both) may have had too high
expectations to what could be reached.
20
This implies that, for example, a government negotiating the terms of private participation is
not necessarily faced with an “atomistic” group of suppliers, and may in practice be dealing
with one corporate entity with a market power comparable, or even superior, to its own. This
fact needs to be kept in mind when we emphasize the need of strong regulatory bodies in
developing countries.
6. Conditions for building PPPs and the need of regulation
Both macroeconomic and microeconomic conditions affect the building of a PPP in a specific
country: in a macro level we find all the incentives for putting up a PPP; in a micro level we
find all those circumstances related to the capacities of the different actors in acting as a
competent partner. Concerning the macro level, political factors are important: without an
overall political environment favouring both private for-profit and not-for-profit activities no
real partnership can be established. In countries where civil society and/or the private sector
are discriminated, the government will remain the dominant supplier of social services.
Apart from the political factor, the economic situation in a country is important. A financial
and economic crisis is often the starting point for the rethinking of government activities. As a
matter of fact, we can mostly find two actual factors in the origin of the increasing
attentiveness to PPPs. First, there are fiscal pressures that have led governments to look for
innovative solutions and for maximum effectiveness in reallocating resources. In this strand,
various studies have shown that there is a large potential for gains in efficiency in the public
service sector. Second, some other studies demonstrate that private providers either non-profit
or for-profit oriented can play an important role in social service provision, a role which has
been, in the past, largely neglected by governments.
However, in spite of the role that the private sector can play in social service provision, the
financial engagement of the government in the public services sector is crucial in the mid to
long-term for the sustainability of a PPP, as the poorer part of the population will
continuously depend on public support. Finally, on the macro level, the legal framework is
important. The credibility and transparency of the cooperation between the different players
are critical determinants for a long-term success of a PPP.
Concerning the micro-level, several conditions are important for establishing a PPP. First of
all, there must be an interest and a commitment of some individuals to make a PPP happen.
As in the Venezuelan case (Jütting, 1999), the personal involvement of the users of services
21
helped to provide an efficient and equitable service provision. If there is an interest in a PPP
and an acceptance of the different partners to be involved, then one has to look at the
capacities of the different actors. In this respect, we have to consider not all the skills of the
staff to provide specific services, but also the financial availability for an engagement in
service provision and the overall organisational and management structure.
The need of efficiency calls for the existence of independent regulatory bodies18. Ultimately,
the sustainability of the reforms and the ability of the public sector to use money more
effectively in leveraging private money will depend significantly on the political commitment
to design and carry out effective regulatory policies.
The main changes in the last two decades in provision of public services, both in developed
and developing countries, calls for strong and competent economic regulation of
infrastructure and social sector services, in order to ensure that the interests of all parties are
protected. Such protection is necessary first and foremost, to defend the customers’ interests
but also those of the public and private parties to a contract19. Those institutions in charge of
regulating public services, which we refer to as “regulators” in this paper, can either take the
form of an independent regulatory agency, or be set up as a specialised cell under line
Ministries, or even be a department within line Ministries.
The role of institutions in charge of carrying out regulatory functions is even more important
in developing countries than in developed ones. In the former, owing to several reasons that
affect differently the two groups of countries, a much more intrusive and demanding form of
regulation is required. Besides the reduced educational level of the population and the scarcity
of infrastructures, which may restrict the availability and circulation of information, many
other reasons affect the effectiveness of the regulation in developing countries. However, in
developing countries the need for regulation is even more vital, because they are usually
characterized by non-competitive industry structures and/or lack of capital market discipline.
In such environments, too little market information is revealed and information asymmetries
are overwhelming.
18 For details on how specific features of regulatory contracts have been implemented in various developing
countries and the lessons that can be drawn from that knowledge, see Bakovic et al. (2003).
19 Since the beginning of utility reforms in the late 1980s – early 1990s, it is estimated that about 200 regulators
in some 130 countries have been granted the functions of regulating public services such as telecommunications,
water, and electricity (World Bank, 2004).
22
In addition, regulators in developing countries face other specific challenges, when large
portions of the customer base for infrastructure services are poor and unconnected, tariffs are
being kept artificially low, baseline information for decisions tends to be limited or unreliable
and the regulators have difficulties in establishing their credibility and in implementing sound
governance arrangements.
As a matter of fact, to be effective, regulators are required to fill three qualities: competence,
this quality being measured by access to technical expertise in a wide variety of areas;
independence, both from government interference and from capture by service providers and
interest groups; and legitimacy, i.e., both long-lasting by existing legal principles and
practices and being transparent and accountable.
Many, if not all, regulators in developing countries lack one or all of the qualities required for
effective regulation. These deficiencies can be due to different reasons, including limited
resources, repeated political interference in regulatory decisions, difficulty in attracting and
retaining competent staff, and short or no history of performing regulatory functions. All
these deficiencies are particularly apparent in the case of countries emerging from social
conflict or where the political environment makes it difficult to set up any kind of independent
institution.
Where there is lack of independence we can’t prospect either great legitimacy or competence.
This lack in turn limits capacity of agencies in charge of regulation to act as effective
regulators, i.e. to promote adequate levels of investment in the regulated sector through the
setting of tariffs that recover costs without depriving part of the society from using the
services, to attract private investment and/or to monitor the public sector for superior
performance.
Of course, developing countries can contract out regulatory functions taking profit of the
developing assistance20. Though this can be a temporary solution it is in many cases seen as a
foreign intromission in internal affairs and it is consequently felt as a lack of independence of
the regulators. Furthermore, as has been acknowledge “paradoxically, those regulators who
would most benefit from contracting out are the ones that have most difficulties in entering
into such agreements to bring about a satisfactory outcome, either for lack of financial
capacity or capacity to monitor performance…” (World Bank, 2004).
20 For a discussion of the theoretical rationale for contracting out by public or private agencies and how this
rationale may be applied to utility regulation in order to improve regulatory effectiveness, see World Bank
(2004).
23
7. Concluding remarks
Owing to the worldwide welfare systems reform, public bodies are permanently confronted
with the decision of whether they should produce a service internally or contract it out. In
many cases, developing countries experiment forms of private sector involvement in
provision of impure public goods both of type B (education, health care) and of type C
(infrastructures, utilities), searching efficiency gains and relying in PPPs for attaining this
endeavour. However, the results are very different from one to another type of goods. While
telecommunications and other infrastructures have had a great receptivity by Foreign
Investment, education and health care are generally overlooked.
In numerous developing countries the role of the private sector in providing public goods of
type B is still neglected or limited to a typical contract in an outsourcing way, overlooking the
potential benefits of genuine PPPs, namely the ones involving not-for-profit private sector
organizations. The theory shows that PPPs, namely through the capacity of not-for-profit
private actors to participate in the provision and determining/management of social services
have a positive effect on efficiency, equity and quality of service provision. In some countries,
Venezuela for example (Jütting, 1999), a substantial part of the population was formerly
excluded from both public as well as for-profit provided health care. Only after the explicit
recognition and building of linkages between the not-for-profit sector and the government, did
poor people have the chance to set up their own systems.
In developing countries, the poor population especially depends on the support of the public
sector. But, beside the role of the government concerning social protection, another important
role is the setting of rules and standards of conduct. The design of rules and regulation and its
enforcement are crucial in efficiency and equity grounds, where government decides
contracting out public services or involve itself in a partnership.
The involvement and the delegation of power to the local level are important. Without the
active participation of the communities and the municipalities, which can better deal with
information asymmetries, it is difficult to implement innovative solutions in social sector
services. Such solutions should integrate the local people in designing, providing and
monitoring services. Moreover, if they use voluntary work they can provide services at lower
costs. Finally, through such self-help activities mid-term to long-term benefits in form of a
strengthening of social capital among community members might mature.
24
On the other hand, the use of PPPs for the provision of type C goods, where the majors PPPs
are built, is subject of some drawbacks too. First, developing countries are to a great extent
dependent to the foreign investment of a restrict number of large companies, with the
consequent effects on the negotiation of the contracts. Second, the capacity of these countries
to design a regulatory framework (either in legislation or through a contract) is very limited.
Third, the non-competitive industry structures and/or lack of capital market discipline makes
mandatory the quality and credibility of regulation.
The development of an outline on how to build a PPP in the public services sector of
developing countries is both undesirable and unattainable. It depends on a variety of country
specific conditions that set the framework for cooperation between the different actors.
Moreover, PPPs vary across-countries in targets, forms, processes and parties. The most
successful co-operative arrangements, stem from a flexible approach drawing and adapting
experience of other cases, but are not simple copies (Gentry and Fernandez, 1998).
History suggests that fine-tunings are often more difficult to put into practice than large
reforms. If governments and international development aid will support this emerging policy
agenda, a new hybrid model of PPP will emerge with a significantly larger positive impact for
users, operators and current, as well as future, taxpayers. However, the corrections needed to
the reform path require a strong political commitment at the national as well as at the local
level. This commitment is also needed because addressing these issues implies strong
redistribution of rents.
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