Russian Economic Reform

Past Articles on the work of each of the 21 Expert Groups can be accessed here:

Privatization – “what to” and “how to”!

Published on July 31 2011
Posted by: jeff

Expert Group 15 has prepared a very good interim report on “Managing government property and privatization” which will be included in a interim consolidated report by all the Groups to be discussed by the Government in August. 

The Group 15 interim report only appeared on the “2020Strategy.ru” internet site on 26 July, but parts of it were reported in “Vedomosti” on 25 July. On 26 July “Vedemosti” reported that First Deputy Premier Igor Shuvalov had already sent a report to President Medvedev with suggestions for widening the privatization program in the period to 2017. Medvedev has been pressuring the government (headed by Putin) to quicken the privatization process (and had set a deadline of 1 August for new proposals).

It could be that the advisory work of Group 15 has struggled to keep up with the government decision making process and that the early appearance of its interim report in the media was an effort to compensate for this. However, the 27 page report of this Group is generally in sync with what has been reported about the Shuvalov report (which is, in any case, probably much shorter), and with its considerable detail can be seen as a “how-to-do” as well as “what-to-do” document.

Shuvalov’s report seems to contain few surprises.

Full privatization is suggested for 14 state-owned companies, and partly for another four. A “golden share” will be retained in Rosneft, RosHydro, Zarubezhneft and United Grain Company.

No radical changes are suggested for natural monopolies. The state retains a 75.1% shareholding in Russian Railways and FGC (Federal Electricity Grid), and sells at least some of the subsidiaries of MRSK-Holding (the Inter-regional Electricity Distribution Grid). 

Presumably the MRSK subsidiaries to be sold will not have full natural monopoly characteristics. However, I do have some qualms about RosHydro – while it is not a natural monopoly supplier (of electricity), there could be very significant public resource (water) management issues.

The natural monopoly decision means that state will sell 3.1% of Transneft (it now has 78.1%). Going on the current market capitalization, the 3.1% is worth about $450m, according to at least one financial market analyst. But he says the company is undervalued, and with the right steps (for example increased transparency) these shares could be worth more than $1bn.

Earlier reports on possible privatization receipts put them at over 1 trillion rubles (about $36 billion) per year, but that was apparently contingent on the shareholdings in natural monopolies being lowered to 50% — so it is now likely to be less.

In its own report, the Expert Groups says that without a decrease in the size of the government-sector it will not be possible to successfully develop the Russian economy.

It says that state banks and companies were used as instruments to combat the recent financial crisis, and this indirectly led to an increase in the size of the state-sector. But what was good in the crisis is bad for innovation-based growth. Any further growth in the state-sector should now be considered as entering a “red-zone”, and any significant asset acquisitions by state companies should be subject to maximum scrutiny and control.

The creation of new state companies should be prohibited, and existing state companies and their subsidiaries should be prohibited from buying private and privatized assets until 2014.

The Group says that the current privatization legislation, including significant amendments in 2010, “on the whole does not require radical change”.

However, it says that there is a need to improve the operational capacity of government (at all levels) in conducting privatization, and toughen demands for transparency in privatization procedures. It sets out — in considerable detail — steps that need to be taken in both of these areas. It warns against privatization which only results in the redistribution of state ownership (for example from federal to regional level).

The report also addresses many issues regarding improved supervision and management of organizations that will not be privatized – and, these are essentially the same as those involving in publicly owned commercial and semi-commercial organizations in a country such as Australia.

The main exception is the “unitary enterprise” which is essentially an entity tasked with “managing” public sector assets (without the power to sell them or buy more) and transfer any profits to the owner (federal, region or municipal government). The report favors the gradual transformation of this form of legal entity, with the assets being disposed of or managed by more conventional commercial and non-profit legal organizations.  

While members of the Group have not agreed amongst themselves on all issues of detail (and the report identifies some of these areas and the reasons why), it does present some “Main principles for forming state policy in managing state property and privatization”. These are:

(1)   General “presumption of usefulness” of privatization, and a principle that except for a declared tight circle of companies, in the period to 2020 all other companies with state participation, unitary companies, state corporations and state companies may be privatized;

(2)    “Presumption of usefulness” of participation by foreign investors and foreign capital in privatized companies, including the biggest;

(3)   Privatization does not mean rejection of existing social obligation and (or) direct reduction of the functions of the social sector;

(4)   Development of alternatives to direct participation of state in capital of companies in terms of securing social interests, combined with continual efforts toward privatization itself and to enhance the institutional and economic conditions for privatization;

(5)   Any steps, direct or indirect to increase the “weight” of state in the economy, including through the mixed ownership sector (ie entities with both state and private shareholders), should be treated as entering a “red zone” – and must be exceptional, and with maximum “encumbrance” in terms of substantiation and approvals;

(6)   Companies under control of the state should not enter areas of activity where private business operates or where there is scope for competition, and should not form barriers to entry of new companies into their “own” markets;

(7)   Priority is to provide a structure which is effective for economic advancement from privatization;

(8)   Principle of “reasonable persistence”, sequencing privatization with gradualism and restriction of risk;

(9)   Transparent process of managing of state property and basis for taking decisions, with openness to various forms of social control and assessment;

(10)  Formation of integral system of motivation for all participants, with invitations to society and business to enter serious dialogue with government about privatization policy and management of state property.

In my view this is a very good report by Group 15. It is comprehensive, detailed and practical within a framework strongly orientated toward reducing the role of the state in the Russian economy.