BULLETIN NOVEMBER 2001
QUESTIONS AND ANSWERS ON
PFI, PPP AND THE EUROPEAN UNION
1.What is happening?
In recent years, under both Conservative and Labour governments, there has been an increasing tendency not only to push the privatisation of previously state owned enterprises further and further, but also to involve the private sector in more and more contractual arrangements for providing core public sector services. These include schools, hospitals, prisons, roads and rail transport facilities, notably the London Underground. By April 1999, around 150 PFI deals were in place, involving some £15bn. By the summer of 2001, total government plans for this form of financing had risen to some £85bn.
2.What are PFI and PPP?
The Private Finance Initiative (PFI) and Public Private Partnerships (PPP) differ in structure, but have much the same financial implications. PFI schemes are mostly concerned primarily with transferring the cost of paying for new capital investment from the public to the private sector, including the risks of cost over-runs. PPP schemes, on the other hand, involve a much greater degree of transfer of management responsibility to the private sector as well as the cost and risk. The advantages are claimed to be that the private sector can manage such projects so much more efficiently than the public sector that overall costs are reduced while at the same time greater efficiency and thereby a better service for the public are secured.
3.What are the realities?
While occasional examples of genuinely successful PFI schemes can be found, in general the extravagant claims made for their benefits are seldom realised. This is so for a number of reasons. First, PFI schemes are extremely complicated to negotiate and to document, and the legal and administrative costs of setting them up are therefore high. Secondly, private sector companies will not get involved in them unless they can make a profit out of them, and the money for these profits has to come from somewhere. Furthermore, capital schemes invariably involve borrowing, and the cost of money to the private sector, because of the risk, is invariably much higher - typically 5% more - than it is to the government. This means that PFI contracts have to be run much more efficiently by private contractors than would have been managed by public agencies to make them worthwhile. Is the private sector invariably so much more efficient than the public sector? There is not a shred of evidence that it always or even generally is, as dismal stories of non-functioning hospitals, and delayed and cancelled trains, show all too clearly. The notion that the public sector cannot run any kind of operation efficiently is no more than propaganda, as is clearly demonstrated by many examples of excellent public provision.
4.What are the effects of PFI?
The effects of PFI and other forms of privatisation, however, are not simply ones to do with cost efficiency and financial savings, even if these were always achieved, which they are not. They also have other profound and important implications. If improved cost-effectiveness is achieved, it is often done by worsening working conditions, lowering wages and pension entitlements and reducing job security. Whatever the financial gains from this process may be, there is also a significant social cost to be borne, while lower wages can drive recipients into income support, simply shifting the cost of providing the services concerned from one place to another.. There are also issues of accountability, which are often overlooked. Public sector bodies are all ultimately accountable to electors, who can exercise democratic control over what is done. No such corresponding restraint operates on private sector corporations, which are typically run by self appointed oligarchies, accountable to no-one, provided that they can make sufficient profit to maintain financial freedom of manoeuvre. A major cause of the huge decrease in equality of income wealth and opportunity which we have seen in recent years has been the weakening and diminishing of the public sector. PFI and PPP schemes comprise a significant component of this process.
5.Why is the government so enthusiastic about PFI?
Why, then is the government so keen on promoting PFI and PPP schemes, when they have so many disadvantages, and while they are generally so unpopular? The reason is that transferring borrowings to finance investment schemes from the public to the private sector reduces the public sector borrowing requirement and thus decreases the total volume of government debt. And why is this important? Mainly because Britain, like all other EU Member States, is obliged to do this as a result of the 1992 Maastricht Treaty, whose Convergence Criteria, reinforced by the subsequent Stability Pact, mandate each Member State to have a government deficit each year of no more than 3%, and total government borrowing of no more than 60% of national income. To achieve no more larger a deficit than 3% at the bottom of the economic cycle, it is necessary for the government to run big surpluses when conditions are on the upswing. This goes a long way to explain the substantial accumulation of funds which the Chancellor of the Exchequer currently has at his disposal.
6.Is there an economic case for the Maastricht Convergence Criteria?
Is there an economic case for funding investment in this way? Of course there are strong arguments in favour of government finances being run in a prudent fashion in all circumstances. There is no valid argument for governments borrowing recklessly, especially to finance current expenditure while avoiding raising taxes. This way lies inflation and eventual government insolvency. This scenario, however, is a very different matter from the government borrowing to finance desirable public investment projects with long pay back periods. Whether borrowing or lending is undertaken by the government on the one hand or by private sector banks, companies or individuals on the other, makes no real difference at all to the overall effect on the economy. Interest charges still have to be met, capital sums have to be repaid, and the impact on aggregate demand and claims on resources are virtually identical. There are, however, important consequences for future government financial stability. The combination of deferring the need to pay for public investment projects and the higher borrowing and profitability costs of many PFI schemes inevitably place an increasingly heavy contractual commitment on future government resources.
7.Why, therefore were the Maastricht Convergence Criteria and the Stability Pact imposed on Member States?
The reason why the EU adopted the Convergence Criteria in fact has little or nothing to do with any sensible economics. On the contrary, the Criteria were imposed, mainly by countries in the EU with more responsible track records, such as Germany, on the EU as a whole because others, such as Italy, had such poor reputations for financial prudence. There was thus perceived to be a real risk that the Single Currency would be derailed and degraded if they were not kept in check. The Convergence Criteria were then reinforced by the Stability Pact which introduced heavy financial penalties for any backsliding on the 3% per annum and 60% overall borrowing limits. The result has been a consistent deflationary bias to EU governments' policies, which is the main reason for the high levels of EU unemployment and its dismally low rate of economic growth, even at a time when the rest of the world, during the 1990s, was booming.
8.What are the current implications of these constraints on public expenditure?
The Maastricht Convergence Criteria and the Stability Pact made little sense when the global economy was doing relatively well during the 1990s. Now that the world is drifting into a potentially serious recession, exacerbated by the events of 11th September 2001, they are thoroughly and dangerously counterproductive. Especially if consumer confidence falters, it is vitally important that public spending is used to fill the gap thus created, to keep the level of demand sufficiently high to avoid unemployment rising, bankruptcies increasing and growth rates declining potentially into actual falls in output. It is no use relying on PFI schemes to do this, because they take months or years to prepare. Instead, action needs to be taken such as increasing social security payments, or lowering taxation, where the impact is immediate. The reluctance of EU governments, and the European Central Bank, to respond effectively to the present looming crisis of confidence has much to do with the fact that the Maastricht Criteria hobble the necessary response.
9.Why are the Maastricht Convergence Criteria so crucial?
There are a number of lessons to be drawn from the sorry results of the inter-action between privatisation and the Convergence Criteria. The first is that it is unwise to constrain the ways in which it is possible to respond to crises by adopting rigid rules such as these, which may well turn out to be entirely inappropriate as circumstances change. The second is that once such rules are adopted, not only do they make it more difficult to take the right action when unexpected events occur, they also distort the way that government initiatives are undertaken over long periods. This is exactly what has happened with PFI and PPP schemes. Without the Maastricht Criteria, it is very doubtful that the present level of government enthusiasm for them would be there. We would then be able to run our economy without the distortion, the cost, and the unpicking of well established and popular ways of doing things, many of which maintain the social fabric in ways which are extremely expensive to remedy when the safety net which they provide is removed.
10.Where does this leave Britain?
The Maastricht Criteria and the drives for privatisation in various forms which are engendered by them are doing nothing to promote the interests of the people whose interests Labour exists to defend. They make public expenditure more vulnerable, jobs less secure and well paid, the distribution of wealth, income and life chances more unequal, and the provision of public services, in general, worse and more expensive. This framework does not provide the best or the most sensible way to run vitally important sectors of our economic and social fabric. For this reason, as well as many others, we need to keep our ability to control our future as close at hand as possible. The solution to poorly conceived policies is to get them changed through the ballot box. Democratic change is the answer to policies, such as PFI and PPP, which are not working. We need to make sure that we retain the ability to get rid of them, and the misguided economic policies which encourage them. This is why avoiding further EU integration and especially joining the euro, which would undermine still further our powers of self government, is so vitally important.
Published by the Labour Euro-Safeguards Campaign
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Tel: 020 7691 3800 * Fax: 020 7691 3834
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