All Commentary
Monday, June 1, 1987

Privatizing Federal Programs

Most attempts at Federal budget cutting fail. Powerful interest groups stand in the way and fight to safeguard their entitlements and favorite programs. By contrast, taxpayers offer little opposition. Program costs are spread thinly among millions of taxpayers, amounting to a few dollars per capita. While the costs are dispersed, benefits are concentrated, providing an important guidepost for politicians. It indicates that they have nothing to gain, but much to lose from opposing particular spending programs.

Because of all the pro-spending incentives, few programs are ever terminated or even reduced. Federal spending rises continuously and Federal debt increases with no end in sight. Some observers despair over the democratic process, but many are convinced that there is a better tactic for spending control—“privatization.”

Privatization transfers services from government agencies to private producers. The efficiency gains that flow from competitive enterprise are to be used to cut spending.[1] Privatization is also said to pay rich political dividends. It creates powerful groups of providers and beneficiaries who profit from the programs. They may be mobilized to support privatization and build a coalition for decisive spending Cuts.[2]

At the present there is no coalition for spending reductions; but we do sense a pow-erful movement for privatization in all comers of politics, from the extreme right to the radical left. On the left, it may spring from the search for new government programs and the need for new sources of revenue. On the right, it may be a new version of the old vision of individual freedom and enterprise, or merely a natural reaction to more than ten thousand off-budget government enterprises that have sprang from local, state, and federal governments in recent years.

No matter what the motive powers may be, the movement should ring an immediate alarm with all friends of genuine privatization and put them on the alert about the actual meaning of privatization. If so many reformers agree on an economic program, it is likely to be either empty and meaningless or vague and fuzzy. In this case, “privatization” has at least seven different meanings and many more connotations that permit everyone to endorse it:

1.       Federal assets may be sold at market prices to individuals who acquire unhampered ownership and control of the assets.

2.       Federal assets may be sold at bargain prices to favored individuals.

3.       Federal assets, such as Amtrak, may be sold to individuals who remain under the juris diction of regulatory authorities.

4.       No assets are sold, but private contractors are engaged to holster expensive and unsatis factory services of government enterprises, such as the Postal Service.

5.       Private contractors are engaged to assist transfer and welfare agencies and make their programs more effective, from public housing to the administration of Medicaid and Medicare benefits.

6.       Privatization may take the form of a wide system of vouchers that give low-income people access to competitive markets, such as the education and housing markets.

7.       Privatization may place loan assets in the hands of private investors, such as the portfolios of the Farmers Home Administration and the Export-Import Bank.

All but the first of these versions of privatization are bound to be disappointing in the end because they do not really reduce Federal expenditures; they merely seek to make the present system more efficient. In fact, some are likely to cause government expenditures to increase as they call upon private contractors to supplement government services, or create new classes of beneficiaries who hope to profit from government largess. Experience also teaches that the new classes of beneficiaries will not replace the old classes, but instead can be expected to take their places in line with the others.

Wherever these versions of privatization make the present system of transfer and entitlement more effective, they give it new vigor and strength and cause it to grow. Surely, a successful voucher system that provides better housing is likely not only to offer better homes for more people and cause the housing industry to profit and expand, but also to boost the demand for ever more housing vouchers and generate a demand for vouchers for other goods and services. Such privatization is likely to extract more income and wealth from taxpayers, lead to more deficit spending, and pave the way for more collectivization and socialization.

Genuine Privatization

The only privatization worthy of its name is the sale of government assets at market prices to individuals who acquire clear and unhampered title to the property. For example, until the beginning of this century it was public policy to sell Federal land to homesteaders. Unfortunately, in recent decades the policy has been to take land from private owners and use it for “public purposes,” such as irrigation and flood control, power projects, wilderness areas, or any number of programs. The federal government now owns more than 30 per cent of all the land within the continental U.S., and its holdings are increasing steadily. It now owns more than 69 per cent of the area of Arizona, 71 per cent of Utah, 85 per cent of Nevada, and 90 per cent of Alaska.

It is rather difficult to assign present-day market values to Federal real property, consisting of public domain property, donated property, and properties under the supervision of the Architect of the Capitol. But this writer is willing to conclude that, at the height of the real estate boom in 1978-79 when the Federal debt was less than one trillion dollars, the market value of more than one million square miles of Federal land probably exceeded the Federal debt. Unfortunately, the debt has doubled since then while real values have fallen substantially, which no longer permits us to draw this conclusion. But it is fair to assume that a “privatization” of Federal land not only could be made to cover the budget deficits and reduce the mountain of Federal debt, but also would substantially enlarge the real base of individual income and wealth.

Many other Federal assets and enterprises could be liquidated and the proceeds allocated to the reduction of the Federal debt. In many cases the sale would represent significant losses by government, which usually manages to acquire assets in most inopportune moments and at exhorbitant prices. In 1979, for example, when oil prices exceeded $35 a barrel, the federal government established the Strategic Petroleum Reserve (SPR). At the end of 1986, when the price stood at less than $15 a barrel, more than 600 million barrels of crude oil were in storage. Plans call for a 750 million barrel stockpile that is to be maintained in standby readiness, providing protection against supply disruptions.

Genuine privatization would liquidate the stockpile immediately because its continued existence only makes matters worse. At the outset, its accumulation lent aid and comfort to OPEC, purchasing huge quantities of oil when OPEC was restricting world supplies and boosting prices. When OPEC finally succumbed to market pressures and oil prices retreated to recession levels, the SPR stockpile depressed prices even further. The stockpile as well as current SPR policies continue to disrupt the oil market, as did Federal controls over U.S. oil production before 1981. SPR should be abolished immediately and its assets liquidated forthwith.

The Synthetic Fuels Corporation (SFC), another glaring folly of Federal politicians and of ficials, provides subsidies for “nonconventional” fuel production. With world oil prices declining since SFC was created in 1980, prospects for commercial use of synthetic fuels have diminished substantially. A program of genuine privatization would terminate SFC operations and liquidate its assets immediately.

Sale to Favored Individuals

A form of privatization that has been practiced rather successfully by the Thatcher Ad ministration in Great Britain is the sale of assets to favored individuals. Government housing, for instance, is sold at bargain prices to low-in-come and public-assistance tenants, who are likely to applaud the sale and oppose any future attempt at renationalization. Similarly, government-owned enterprises are sold at bargain prices to their employees, who hope to profit from the sale. To assure highest possible market prices of their shares, the new owners are likely to demand an unrestricted freedom of sale to other individuals.

Obviously, such a policy of asset liquidation pays rich political dividends to the sellers of the property. But it usually overlooks the fact that a sale amounts to just another favor to a pressure group that reaps benefits at public expense. The bargain price that is so attractive to buyers is a distress price to taxpayers who provided the assets in the first place. The fact that the sale may be the lesser evil among several evil alternatives does not change the nature of the taxpayer loss.

This kind of privatization would not find much popular support were it not for the bargains and favors. At market prices most government assets offered for sale probably would be bought by investors and speculators whowould want to safeguard their investments and improve their yields through cost reductions and productivity improvement. Public-housing tenants would strenuously oppose such sales, just as civil servants would reject such a privatization of their places of employment. In final analysis, this privatization program promises to pay political dividends because it enriches some people at the expense of others, just like all other transfer and entitlement programs.

Many friends of the private property system nevertheless favor such privatization because it may reduce the economic scope of government and bring us a step closer to an unhampered market. It may necessitate another handout in the short ran, we are told, but will bear economic freedom in the long ran. It may even turn civil servants and transfer beneficiaries into staunch defenders of the private property order.

Surely, privatization as an interim step toward unhampered economic freedom deserves our undivided attention and assistance. But such an interim step must not be confused with just another step on the old road of transfer and entitlement. Privatization that safeguards old privileges, grants new favors to old interest groups, and imposes stipulations and conditions on the new owners is a make-believe privatization designed for gullible observers and investors.

Counterfeit Sales

Federal assets may be sold to individuals who remain under the jurisdiction and control of regulatory authorities. Such a privatization unfortunately does not change the employment of the asset in the process of production. Surely the legal title to an asset does change from government to private hands, but its control, which is the economic essence of property, does not change at all; government continues to wield authority over the asset through its agencies.

All sales of assets that have public utility status are likely to be spurious and fictitious. The sale of the northeast corridor of Amtrak to employees and other private interests, as suggested by The Heritage Foundation,[3] would merely transfer economic control from the Department of Transportation to the Interstate Commerce Commission and several other agencies that regulate the use of capital and dispense immunities and privileges to labor unions. Sale of the two Washington airports, National and Dulles, to individual investors, which cost taxpayers some $2.3 billion to build and millions of dollars every year to maintain, would raise new cash for other Federal programs, but would not alter the economic status of the airports. Government agencies would continue to control every aspect of operation, would limit the maximum investment yield which stockholders would be permitted to earn, but would refuse to give assurance of a minimum yield. Investors may do better by buying Treasury bonds, notes, or bills than to invest their savings in Federal utilities offered for sale.

Private Contractors to the Rescue

The federal government owns and operates some 125 economic enterprises, most of which suffer substantial losses and serve their customers rather poorly. To reduce budget deficits and improve services, the enterprises should be privatized forthwith—their assets should be sold at market prices, without regulatory restrictions, to anyone willing to operate them in competition with other businesses.

But this is not the intent of most privatizers. They would like government to retain ownership and control over enterprises, but would be willing to have private contractors render some of their services. They would assign difficult and expensive tasks to private contractors, but retain profitable services and other activities that are likely to pay political dividends.

The Postal Reorganization Act of 1970 established the U.S. Postal Service as an independent Federal enterprise. Annual appropriations to the Service will reach an estimated $2.7 billion in 1987,[4] which include not only subsidies for carrying certain categories of mail at free or reduced rates but also total actuarial costs of employee pensions. The hourly labor costs of some 740,000 Postal Service workers are estimated at $19.11, which are 33 per cent higher than the wage rate for equivalent work in competitive business. Moreover, USPS labor productivity lags far behind that of private couriers, which suggests that every phase of the postal service can be contracted out at considerable savings to taxpayers. According to a Congressional Budget Office investigation, contracting out janitorial services alone would save $980 million annually.[5]

Such a conclusion is based on a simple assumption that must not be taken for granted in government enterprises. It assumes that the transfer of an activity from government to private hands will reduce government outlays. Actually, the transfer may set civil service labor free, but is unlikely to terminate its employment and expenses. Government workers enjoy civil service protection, which bars dismissals no matter how much work is contracted out. Surely it is unlikely that contracting the management of national parks to environmental and conservation organizations would bring any savings to the seven land-management agencies: the Bureau of Land Management, National Park Service, Army Corps of Engineers, Forest Service, Bureau of Reclamation, Fish and Wildlife Service, and the Tennessee Valley Authority. Contracting out undoubtedly would improve the service, but would necessitate additional expenditures.

Similarly, replacement of the Legal Services Corporation with legal services provided through State Bar Associations and contracts with private legal clinics may not bring forth the dismissal of a single Legal Service Corporation attorney and his staff, but merely cause their transfer to other agencies. In recent years, the mere attempt at agency reduction has led not only to frantic interagency shifting but also to the creation of many thousands of off-budget government corporations that have greatly enlarged the scope of government. Surely, they all should be privatized; in reality, they are merely reorganized.

Private contractors may also be called upon to assist transfer and welfare agencies in their service to special beneficiaries. But it is unlikely that such assistance will help to reduce government expenditures. For example, contracting out the management of public housing to tenants’ organizations is unlikely to yield any savings. Instead, it is more likely to invite ugly tenant strikes and lead to expensive legal confrontations between the tenants’ unions and public authority. Similarly, it is doubtful if freezing all VA hospital construction and leasing hospital facilities from private owners would effect any savings. Instead, it would make more private capital available for VA use.

Vouchers Expand the Sphere of Government

Many privatizers would introduce an extensive voucher system in order to slash the Federal deficits. They would issue signed or stamped credit documents to beneficiaries who could spend them for purposes designated, under conditions stipulated, and in places clearly defined. They would establish systems of education vouchers, Medicaid vouchers, Medicare vouchers, health benefit vouchers for Federal employees, subsidized housing vouchers, VA health care vouchers, and many others.

But it is rather doubtful that the voucher system would provide any savings to the U.S. Treasury. On the contrary, a system granting educational benefits to certain beneficiaries might not only boost government outlays, but also greatly expand the sphere of government influence and control. It is unlikely to lead to a contraction of public education in any form, but undoubtedly would thoroughly affect private education. Private and parochial schools would have to meet government-imposed conditions to qualify for vouchers. After all, the authority that is issuing the vouchers and spending the money can be expected to set the conditions under which they may be used. In the end, refusal to accede to such conditions might spell financial ruin to the resistor.

Similarly, a voucher system for housing would affect all sectors of public and private housing. The influence of government, which already is very extensive in this industry, would reach ever further and touch every aspect of housing as the voucher authorities would define the official conditions. Moreover, a voucher system would be likely to bring forth new governmental powers of enforcement over recalcitrant individuals who refused to honor and accept the official vouchers. Woe to the builder who failed to meet the voucher conditions and woe to the house owner or private school that refused to honor the voucher!

A health care voucher system for Federal employees, veterans, or Medicare and Medicaid patients surely would not be permitted to diminish beneficiary services. Nor could it be expected to reduce the present army of health care workers who render services to Federal employees, veterans, and Medicare and Medicaid beneficiaries. Surely the voucher system would not be allowed to close a single veterans hospital. But it would soon permeate the whole industry—as do Medicare and Medicaid—with hospitals, doctors, and nurses scrambling to meet the voucher conditions. Indeed, it is difficult to find a trace of genuine privatization in the voucher system.

Sale of Loan Portfolios

Federal government loan asset sales have gained widespread support on Capitol Hill and on Wall Street. Federal politicians and officials are eager to turn the bulging Federal loan portfolio into cash in order to meet Gramm-Rudman-Hollings deficit reduction targets. Investment bankers are eagerly awaiting the sales; when the Farmers Home Administration recently announced its intention to sell portions of its rural housing portfolio, 39 investment bankers made unsolicited bids to manage the sale. The Administration, too, is ready to sell all new direct loans to private investors. In fiscal year 1986, the total amount of new direct loans is estimated to exceed $26 billion. In future years it may be much larger.

Some privatizers would like the federal government to sell outstanding assets of the Guar anteed Student Loan Program to private investors. The sales, they tell us, would not only generate deficit-reducing revenue, but would also bring discipline and efficiency to the credit process. They heatedly argue with lawmakers and bankers about the details of the sales, especially Federal guarantees and private insurance. Federal guarantees, they are convinced, would jeopardize the discipline and efficiency of the marketplace by reducing the incentive for private investors to pursue collection. On the other hand, Federal guarantees would bring higher loan prices in the sale.

It is significant that these privatizers do not advocate an immediate end of the loan program on grounds of political economy and morality. On the contrary, they would like to render it more efficient. They do not question the role of government in credit affairs, nor the economic consequences of the proposed privatization. They merely engage in idle discussions about the efficiency of government in the collection business and the sale of student loans to private companies better suited to the task. Unfortunately, they completely miss the crucial effect of the privatization program: it permits government to tap more private resources that heretofore escaped taxation and borrowing, to consume more private capital, and otherwise extend its influence beyond its previous bounds. This kind of privatization is completely counterproductive. If there were truth in politics, it would be called “the new collectivization-extension program.”

At the end of 1986 the outstanding loan portfolio of the GSL program was an estimated $40 billion.[6] The portfolio carried over $2.2 billion in defaulted loans, with the present default rate at 11.7 per cent and expected to rise to 13.6 per cent by 1990. The sale of this portfolio or any part thereof would affect the loan market in precisely the same way as a Treasury bond offering. Both would crowd out private borrowers. It does not matter whether the loan assets are guaranteed and insured or merely left to the play of the market, they all would take the place of cash or other assets in the portfolios of private investors. The student loan might replace a mortgage loan, commercial loan, or just another government loan. In fact, it is even conceivable that such a privatizationmight permit government in time to pre-empt the entire loan market through massive credit activity and simultaneous portfolio sales. With off-budget accounting it would not even show up in the budget, and the deficits would be limited to the defaulted loans not yet sold to private investors.

It is a sad commentary on the state of political and economic thought that conservative or ganizations and foundations which profess to promote the principles of a sound economy are using their meager resources to promote this kind of privatization. While the battle at the Federal entitlement trough is raging and hundreds of billions of dollars of income and wealth are tossed about by the Washington agents of entitlement, the self-styled defenders of individual freedom and the private property order are proposing the privatization of the buoy maintenance program, the sale of National Airport, and the opening of rural postal delivery to private carriers. “Please support our national grassroot campaign,” they urge their readers, “to help the President gather support for privatization.”

Privatization is the new catchword that fires the imagination of many believers in political salvation. If they would only stop and listen, they would hear the persistent calling for more government and more spending. []

1.   Stephen Moore, editor, Slashing the Deficit, Fiscal Year 1987 (Washington, D.C.: The Heritage Foundation).

2.   Ibid., p. x.

3.   Ibid.. p. xviii.

4.   Budget of the United States Government, Fiscal Year 1987. pp. 5-64.

5.   Congressional Budget Office, Curtailing Indirect Federal Subsidies to the U.S. Postal Service, August, 1984.

  • Hans F. Sennholz (1922-2007) was Ludwig von Mises' first PhD student in the United States. He taught economics at Grove City College, 1956–1992, having been hired as department chair upon arrival. After he retired, he became president of the Foundation for Economic Education, 1992–1997.