Governments’ search for growth

The US, China, the European Union (EU) and the United Kingdon (UK) are all worrying about growth.

The US has been the most successful this decade, with faster growth powered by its great digital companies. Both the Trump and Biden presidencies used fiscal stimulus to boost the economy. Measures introduced in Joe Biden’s Inflation Reduction Act countered the severity of the Federal reserve’s monetary squeeze.

The EU has stagnated this century, falling further behind the US. China went in for a longer Covid-19 lockdown and emerged with a much-reduced rate of growth compared to the first twenty years of this century. The new UK government now wants to boost growth, which has been disappointing since the banking crash of 2008-9.

China is reverting to more growth expected from approved industrial and service activities from state enterprises, or from heavily regulated, private-sector companies. China has been unhappy with the speculative excesses of the private sector in housing and property and Beijing has now accepting there will be a lower growth rate as that sector is slimmed down.

The UK government looks to a new Great British Energy public-sector company and a National Wealth Fund to boost investment using taxpayer cash. They see making faster progress to net zero as central to creating green jobs and growth. The EU has embarked on a large, centralised borrowing programme to finance a green-led recovery. The US, through the Inflation Reduction Act, used grants and subsidies to boost investment in green and digital technology.

Mounting concern over state finances

The pressures on public budgets and the consequent build-up of significant debts now prompts questions over just how much more the state itself can do to boost investment and output. It is likely to move governments to seek to use more private finance and to build more bridges with the private sector.

The advanced countries recognise that their investment ambitions for green transition will require large sums in private finance, just as most of the digital investment is coming from private-sector companies and financial markets.

The US is doing better on growth because it is well ahead in cutting-edge digital technology. In this case, the private sector finances most of the digital developments and people willingly buy or use digital services and products without government intervention. The more managed markets for electric cars and heat pumps are proving a slower sell to the public – and require more public subsidy and pump-primed investment.

Whilst central bank actions and the different stages of the economic cycle will affect relative outcomes and the phasing of growth, there is no reason to think the Europeans and UK are about to catch up with the US.

China has more scope to relax its monetary policy and to stimulate activities through state intervention, but it faces offsetting problems. It is encountering more tariffs angled against its export-oriented dominance in areas such as green technology. It is still removing speculative excess from its property sector.

As a result of Beijing’s actions, China’s economy will grow more slowly than before the pandemic, with state direction playing a bigger role in what is produced. Its growth rate should stay higher than the advanced countries as it seeks to reduce the income gap.

However, there is more than just a simple public sector/private sector divide.

The search for hybrid models

Too much commentary presents the economic world as a binary division between public and private sectors. Study public spending and tax revenue and you understand the government bond market. Study trends in consumer spending, company turnover and profits and you can get a handle on the equity market. Most recognise the crucial importance of central banks and managed interest rates on both markets.

In a complex modern world – where government regulation, purchasing and influence stretch into all areas of business life – we need a better way of understanding the interplay of public and private. They are often in partnership using hybrid vehicles to deliver goods and services. There is no completely pure public-sector activity and no private sector company that avoids all government contact.

Instead of dividing enterprises into public or private it is better to ask three main questions about businesses. Do they have a monopoly – or do they compete for customers? Do they charge the customer for what they buy or is it delivered "free" with the costs covered from other income? Are the employees employed by the state or a private company – and are the assets state owned or privately provided?

In both Europe and the US, there are remorseless pressures for the state to do more and spend more. There are budgetary limits on the US, EU and UK, as they have seen a big rise in government debts and interest charges in recent years.

This means there is a desire for ways to harness more revenue and capital for services the state wishes to provide or influence. This is without being able to afford to do them all as traditional public services where taxpayers pay all the bills. It also means more efforts to find ways to tax the successful private sector more, to help pay for the growth ambitions. There are now more windfall and carbon taxes. The EU and UK are looking at a new carbon border tax or tariff. The EU and US are introducing high tariffs on Chinese battery cars.

The trend to find ways to expand the state is reinforced where there are centre left governments philosophically disposed to the state doing and providing more. The Democrats in the US want to expand the state’s role in healthcare, welfare and infrastructure. The Social Democrats and Greens in Germany and Labour in the UK wish to expand state activity in energy and infrastructure.

The 1997-2010 Labour government in the UK decided to accept most of the privatisations carried out by the previous Conservative government. It was keen on what it called ‘Third Way; finance – making more use of leases, partnerships, contracting out and private finance.

Labour introduced the idea of the NHS buying-in operations from private sector hospitals. The previous government used the private sector in the hotel services industry, such as catering and cleaning. It went in for major capital projects financed with private monies. It is likely the new Labour government – and its European counterparts – will be doing more of the same as they juggle the debt numbers.

The potential outcome

Expect more off-balance-sheet financing and imaginative accounting. Germany has been using so-called ‘special funds’ to borrow money beyond the strict limits its own debt controls impose. The US keeps raising its debt limit. The UK frequently overruns its deficit forecasts and simply extends the date when they will get to lower borrowings. China borrows plenty of money through local government and state enterprises, whilst keeping official state debt demands lower.

Given the wish of these governments to boost growth and to change and expand infrastructure there will be more inventiveness around public/private definitions. They all accept there are tighter political and financial limits to how much more they can borrow generally and directly in their own name.

Investors will need to be careful to understand where the true risks reside in the new joint ventures and partnerships and to see where governments might vary the terms of these new arrangements that could be damaging. Private enterprise companies will have more contracts and complex deals with governments, which markets will need to appraise.

State vs private

The purest form of a public sector activity is a state monopoly not charging users, employing state officials using state-owned assets. The closest to this is defence, with the NHS high in people's minds as a free state service.

In the case of UK/EU/US defence, there is no charge for deploying the personnel. Most employees work for the state and most of the defence assets are bought and owned by the state. The state has a monopoly of legal force to deploy outside the country and the dominant legal force inside the country. Defence, however, uses private sector contractors to do a lot of the back-up work and is dependent on competing private companies for weapon supply and innovation.

In the case of the NHS, care is provided free to users by state employees in state-owned facilities. However, many GPs are independent businesses working under contract for the NHS. Some hospitals are provided by the private sector for a regular contract fee. All pharmaceuticals used are discovered and produced by competing private-sector companies.

In the private sector, free-enterprise companies compete, charging customers and employing private-sector personnel and assets are still the most common form of business in advanced countries. Food and clothing, two basic requirements, are supplied by competing producers, manufacturers and retailers. They charge the end consumer for what they buy, employ private sector staff and raise private capital. There is plenty of competition.

Even here the modern state intervenes. All companies must meet standards over health and safety, employment, location of premises, permitted machinery and the rest. The state may be a big buyer of specialist clothing and of food for its establishments.

The following are the main hybrid models that are currently used when public and private agencies work together.

Private-sector monopolies that charge

Now we move on to the different hybrid models. UK water companies are a good example of regional monopolies that charge the customer directly, with state regulation over service levels and prices.

UK train operating companies also enjoy regional monopolies but needed to renew their contracts through a bidding process.

Private-sector monopolies not directly charging customers. In the UK, there are local monopoly-free sheet newspapers and local radio stations. There are various free-to-user computer services where the provider has a strong market position where the service is paid for by adverts or business counterparties.

Contracting out

Private-sector companies provide services to public bodies and governments. State services often buy in a wide range of support from the private sector, often through competitive tender. The provision of meals, cleaning, computing, and facilities are commonly provided by the private sector to support public functions such as welfare and defence.

Public-private partnerships

The state and a private company may enter into an agreement to share risks and rewards from a business project or investment. A company may agree to design, build and operate or maintain a building and facility for the state. Revenues may come from a government budget or from consumers. A company may be a joint venture with local or national government. A council leisure centre may be managed by a private company which collects revenue from clients and keeps an agreed amount for costs and profits. A ‘Design, Build, Operate’ (DBO) hospital is paid for out of tax in the UK.

The regulatory body

The public sector charges users for a monopoly service. A lot of public sector regulators now charge the regulated for permits and licences to pay for regulatory costs. In the UK, bodies such as the Environment Agency charge for permits to use boats on rivers, to fish and to extract water. Parts of the refuse service require user payments rather than household tax.

Public-sector trading

The state sometimes enters competitive markets and charges for a service – but it competes. In the UK, council leisure facilities compete against privately-owned pools and gyms. The state provides some council-owned and managed care homes which compete against privately owned and managed ones. UK social housing is a mixture of directly owned council homes and Housing Association properties, which are owned by a private concern but heavily regulated and rely on state revenues.

Leasing and private finance

The public sector uses private sector companies. The state often hires in staff and assets to carry out functions. It may use privately-owned buildings on a lease or rental agreement. It may sell and leaseback buildings it previously owned. It may pay for services from an external laboratory or hire specialist equipment.