Public-Private Relationships 1

Public Private Relationships

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Introduction

As opposed to private goods, non-rivalrous and non-excludable public goods can benefit

several individuals concurrently. Public goods are in excludable from the use of any citizens, and

any individual’s consumption of the goods cannot hinder others from using them too. They

include streetlights, clean air, and drinkable water. The public sector relates to the private sector

in the delivery of these public goods. The provision of public goods by the private sector is an

exceedingly debated issue both in real life and academic life. However, private sector provision

of public goods comes along with several possible pitfalls, including the willingness to pay, the

free-rider issue and funding. Thus, the only reasonable solution to these issues has inevitably

been the government’s provision of public goods. In circumstances where the government

withdraws itself from the market place as an active provider of services and goods, a renewed

concern in the private delivery of these services arises. The aim of this paper is to evaluate the

main forms in which the private sector is involved in the provision of public goods and key

features of concessions and reasons they are widely used in practice including the benefits

drawbacks of concessions in road and highway development as experienced outside Europe.

Part a

Main forms in which the private sector is involved in the provision of public

The private sector becomes involved in the provision of public goods in several ways

such as public procurement, concessions, public-private partnerships and privatisation.

Regarding public procurement as a form in which the private engages in the provision of public

goods, it is essential to note that most of the activities and functions executed by the government

for the direct delivery of public goods for example security, implementation of the rule of law

and healthcare necessitate procurement of services, works and goods from suppliers, especially
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businesses operating in the market place. Consequently, public procurement can be regarded as a

mild form of the private sector’s involvement in the delivery of public goods. In public

procurement, the state directly provides the appropriate public goods and businesses supply

elements of what is required to do so (Unit 1). Even with the current trend towards

subcontracting and outsourcing the delivery of public goods to the private sphere, public

procurement is still a significant share of the GDP of countries. Such a substantial amount of

transactions must be carried out effectively, providing the best value for money, and this will

distinctly illustrate the private sector’s involvement in public goods provision.

Another form in which the private sector has become involved in the delivery of public

goods is through concessions. Concession agreements are based mostly on a pre-existing public

good, which the government allows private partners to lease and operate, hence operating a

business to deliver public goods on the public sector’s behalf (Unit 1). In concession, assets such

as highways, utilities and bridges, which already exist as government-run assets, do not require

to be created before the private sphere can begin operating them. The operation of concessions is

such that it is done on specific periods after which the good is returned to the government, which

can then determine whether or not to subcontract their operations again, manage them internally,

sell the good or keep them idle. Concessions can be used to ensure the delivery of services and

goods that are considered too costly for the public sphere or no longer regarded as part of its core

activities. They will most often demand a regulatory, supervisory, state duty to prevent potential

rent-seeking undertakings on the consumers by the private sphere (Unit 1). For instance,

highway fees imposed by the private sphere would require to content an upper ceiling charged by

the appropriate public authority.

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Public-private partnerships are another form of the private sector’s involvement in

providing public goods. They usually cover the operation and construction of infrastructural

projects, which the public sphere lacks the necessary resources to build. In PPPs, private partners

usually provide funds and after that expect to regain their investments by running the good or by

receiving the invested finances from the public sector, generally in instalment plans spread over

time (Unit 1). In this unit’s article, it is clear that the primary justification for public-private

partnerships is that public assets can be delivered when government funds are tight and when the

private sphere is considered to be more productive in doing so. Public-private partnerships can

also pack up the various phases required to carry out the initiative into a single provider’s hands,

which does not require to be one firm although it can be an association of several companies.

Thus, the design, build, finance and operate, refer to a scattered framework where the private

partner oversees four phases inclusive of financial sponsorship.

The private sector is also involved in the delivery of public goods through privatisation. It

is considered the strongest model of private sector involvement in public goods provision. Here,

the government dispossesses the ownership of public assets to private investors, for instance,

when public services and other government-owned corporations are sold completely. One such

example took place incredibly in Eastern Europe in countries that shifted from capitalist and

centrally organised economies to decentralised market capitalist economies. It is also worth

noting that privatisation is evident in many countries through the extensive privatisation of utility

industries like telephone communication, energy and transportation (Unit 1). Countries do so

mainly because of tight financial resources rather than a shift of viewpoint by the government on

whether those services and goods should still be promised to the entire population on
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inexpensive conditions. Countries have divested such utility industries because utility control can

be desirable for the private sphere and its operations sufficiently lucrative.

Part b

Concessions

Concessions refer to partnerships between the state sector and mainly private

corporations where the latter solely run, maintain and implement infrastructural development or

render services and goods of overall economic interest. They are considered the most widespread

model of public-private partnership (Unit 4). Concession contracts may also comprise natural

resource management such as mineral extraction, land and forests.

Key Features

Concessions grant private concessionaires the responsibility to operate and maintain

public assets as well as finance and manage all the required investments. The ownership of assets

such as highways usually rests with the granting authority, and the entire rights concerning these

goods return to the granting authority at the close of the concession agreement. For example,

highways are state-owned, and it is only the government that can grant a private entity to power

to manage and maintain them. In my opinion, unlike other public-private relationships,

concession contracts are engrossed on outputs, that is, service delivery in conformity with

performance levels and standards.

Another distinguishing feature of concessions is that they are usually granted with regard

to already existing assets, utilities. For example, a bridge or highway is already existing as a

government-operated asset; thus, no need to build it before the private company begins operating

it. Another feature of concessions is that they are agreements for financial interests by way of

which more than one contracting authority delegates the implementation of projects or the
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delivery and supervision of services and utilities to one or more financial operators (Unit 4). The

focus of such agreements is the procurement of services or works by mode of a concession

contract, the deliberation of which comprises the privilege to exploit the services or works or in

that advantage along with payments. It is critical to note that concession contracts do not entail

ownership transfer to the contracting entities; instead, contracting entities usually acquire the

rewards of the services or works under consideration.

Different kinds of concession share a common component that the relevant public asset’s

property, even when developed and managed by a private agency, remains with the state sector.

As an illustration of different potential arrangements, Bousquet and Fayard (2001) review

expressway concessions in Europe and identify two kinds of concessions for expressways (Unit

4). The first type of concession is one where the users’ tolls pay the concession. The second one

is one where the government recompenses the entity in line with an estimation of the number of

vehicles that use that expressway. The reward in the second instance is termed a shadow toll, i.e.

a charge that is not directly incurred by the consumers but indirectly via the state.

In concession agreements, concessionaires are reimbursed based upon contractually

initiated tariffs gathered directly from end-users with relevant procedures for adjustment and

review. The prices are normally regulated using price-cap and rate of return mechanisms usually

steered by the concept of effective financial equilibrium enabling the private entity to earn a

proper rate of return on the investment. The price cap mentions the highest cost that an

infrastructure’s concessionaire can impose on end-users such as the maximal tariff per kilometre

on an expressway (Unit 4). Such maximal price levels must guarantee charge average for the

holder of a concession and a fair profit margin. Concerning the rate of return on invested capital,
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concessions require that charges imposed by private operators should make up for underlying

costs as well as yield a profit on the money invested.

Another attribute of concessions is that normally, just as the case of expressways, they

occur over a lengthy period for potential construction, maintenance, and investment tolls to be

offset by the concessionaire. Hence, when a private partner builds an infrastructure project, the

contract’s time frame is likely to vary considerably from the state procurement of projects. With

procurement, the PP relationship stops when the activities are completed, besides perhaps for

potential arrangements on regular maintenance and the asset will typically be run by the state

sector. On the contrary, with concessions, the association will last longer, and the private entity

will run the asset, which implies that concessions would in most cases involve many functions

from operating to building to asset maintenance.

Another key feature is that services and works are outsourced via concessions agreements

when the government sector does not regard them as part of their main activities or when the

essential resources are absent for creating and managing the elemental asset. As opposed to other

forms of public-private partnerships such as procurement, concessionaire’s revenue for the

delivery of services and works are not directly paid by the contracting entity instead via the work

developed through the concession (Unit 4). Thus, it confirms that one quantifying component of

concessions contracts is that the concessionaire bears the greatest share of the operating risk.

Practice of concessions

The widespread use of concession contracts in practice is attributable to a rise in the need

for regulatory procedures and policies. Regulation plays an essential role in concession contracts.

Concession contracts require transparency in the award of contracts while clarifying several

issues inclusive of which agreements would constitute. Most arrangements are characterised by
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high sunk costs usually required for the preliminary investment in infrastructure projects (Unit

4). Thus, concession contracts, which are heavily regulated help to avoid such scenarios. Also,

due to the likelihood of opportunistic conduct by the government sector, the private agencies

may choose not to invest resulting in the alleged hold-up issue. Hence, the need to curb this

problem can exclusively be addressed by concession contracts. However, the hold-up problem

can happen, still where the public sphere would not have sought rent-seeking conduct, and the

association could have been mutually beneficial.

Benefits of concessions

One advantage of concession contracts is that they allow specific public goods for which

ownership by the private sector is economically ineffective and politically impossible to be

managed and operated competently by private actors. Another advantage is that bidding for

concessions instigates competition into the private sector. Such competition usually impels

private entities to reduce costs as a criterion utilised for awarding concessions is price curb

regulation where they are required to declare the lowest price, they would impose for services

rendered. In concession contracts, competition between private entities happens before

commitment to investment, which creates adequate space for optimum pricing.

Concession contracts attract nil costs to the state and also provide it with the financial

space to finance other projects for the provision of public goods and services. The ownership of

highways rests with the government, which also possesses the granting authority. Thus, it can

provide an assurance that the private agency committed to managing and running a project does

not drop off while the contact is ongoing. The state has powerful control over the concessionaire,

and it can make sure that the tariffs are not dropped midway at its expense. The presence of this

guarantee means that a concession is credible and attracts zero costs to the state.
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Disadvantages of concessions

One of the drawbacks of concessions is the hold-up problem. For example, in a possible

undertaking between two agencies X and Y, this problem might take place when X wants to

make some significant investment, which is particular to the overall project hence cannot be

utilised for other motives. If X hesitates that this property specificity together with its lack of

substitute employment possibilities apart from the defined project might short change him with

reference to Y, who could exploit the lack of choices to renegotiate circumstances in his favour.

Similarly, the concessionaire may attempt to use its capacity and undertake rent-seeking

undertakings at the end-user’s expense. For instance, in operating an expressway, the

concessionaire can decide to impose extremely high charges for its use or to lower safety levels

and maintenance costs to conserve resources and draw out as much rental as possible from

operators. In this instance, rent-seeking exploits would comprise reducing safety levels and asset

quality, possibly due to lack of sound monitoring and contract specifications. Additionally,

appropriate regulatory procedures would be required to prevent such conduct and protect users.

Lack of relevant road maintenance to minimise costs, hence endangering safety depicts a

classic form of the concessionaire’s opportunistic behaviour. The constructor may substantiate

the contract renegotiation by arguing that the fee paid for the concessions was extremely high

regarding clear-cut revenues and potentially that prices were more than anticipated. For example,

the table depicting renegotiated concession contracts reveals that about 30% of the contracts

have been renegotiated. The concession renegotiations can be attributed to differences in

competition in the softer markets leading to concessionaires’ greater negotiation power (Unit 4).

A concession agreement can't cover all ambiguities involved, which means that fixing a single

price over the contract period usually emerges to be unfeasible and creates opportunities for
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renegotiation together with its exploits. Additionally, in concessions, no incentive is available for

the private entity to operate and maintain the amenity well or take up relevant investment

towards the close of the contract period. Lastly, on the disadvantages of concessions is that

potential users may refuse to pay for the use of highways and other developments, which leaves

the state in suspense on how to alleviate this.

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Reference List

Unit 1. Defining public-private relationships: Privatisation and public-private partnerships, n.d.,

pp. 1-9.

Unit 4. Concessions of public assets: Privatisation and public-private partnerships, n.d., pp. 1-16.