Uber is taking taxicab industry for a bumpy ride

Posted on by j.giglio

New firms that use mobile apps to connect passengers with drivers of vehicles for hire and ride-sharing services have been the target of protests by taxi drivers and owners across European and American  cities, most recently Cambridge, underscoring how digital technology is disrupting a regulated industry .

The protests are a study in what happens when well-established incumbents who are protected by regulators seek to maintain a cushy status quo rather than leverage technology to improve customer service.

The cabbies’ cup runneth over with rage because they claim the apps create an unfair advantage and the new market entrants fail to conform to regulatory and licensing requirements. Companies like Uber argue that they are introducing competition and offering customers the luxury of choice and superior service. The technology they use has the potential to transform transportation the way Amazon has changed the retail shopping experience.

As the economist Joseph Schumpeter noted, capitalism is the “perennial gale of creative destruction.” What is occurring in the taxicab industry has been repeated in one industry after another; none are safe from innovative technologies.

The taxicab business model has serious customer-service deficiencies. Too many passengers find cabs unavailable, poorly maintained and aggressively driven, all of which makes for an unpleasant experience. All this is occurring under the umbrella of officially sanctioned taxicab companies with near-monopoly power.

The industry structure in major American cities revolves around the issuance of a fixed number of medallions, operating licenses which are freely tradable so the right to operate a taxi is divorced from the actual work of driving one. The happy few medallion holders make their money by leasing cabs to drivers – independent contractors who receive no benefits. The restricted supply translates into high medallion prices; in Boston the current price is about $625,000. The system is a classic example of government regulation that creates wealth for a happy few at the expense of society as a whole.

The taxicab industry is an easy target for entrants using the latest digital technology, and they are  making a meal of it. Mobile communications technology facilitates a wide range of business concepts to address opportunities posed by a flawed industry model and an increasing number of city dwellers who choose not to own cars.

Uber was launched in 2010 in San Francisco. It lets customers use an app to call for a car with a few taps on their smartphones. The car arrives within a few minutes. The fare, including gratuity, is charged directly to the customer’s credit card, so no cash changes hands, enhancing safety for both passenger and driver. An email receipt is sent to the customer when the trip is completed.

Uber does not own its cars but relies on a network of established, licensed drivers who apply to be part of its network. In this sense, Uber is not in the taxi business but serves as a referral or dispatch system. It uses sophisticated data analysis to determine where drivers should wait so they can respond quickly to service requests.

Drivers and passengers rate each other. During peak demand periods, fees increase. Drivers get 80 percent of the total fare and the balance goes to Uber.

The firm uses technology to provide superior customer service in a mature industry that offers an undifferentiated product. Uber has entered a locally regulated market that has evolved over a long time to protect established interests.

Taxicab regulators are not elected and work closely with existing companies, to whose interests they are highly sensitive. The result is regulation that is designed to improve conditions for the regulated, not promote the public interest. As the Boston Globe Spotlight Team uncovered in April 2013, the taxicab industry mainly enriches the holders of government-issued medallions while drivers earn subsistence wages and passengers pay some of the nation’s highest fares.

Despite all the talk about the virtues of competition, businesses seek to move away from competition and toward monopoly. Instead of adapting to new technologies , the taxicab industry looks to government, like the cavalry in a John Wayne western, to ride to the rescue and protect the status quo.

originally published: June 21, 2014

Be careful of trade-offs with cap-and-trade

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By 2030, the U.S. power sector must cut carbon dioxide emissions 30 percent from 2005 levels, according to federal regulations announced on June 2.

The proposed rule, served up by the Environmental Protection Administration with a generous helping of gravity, is the cornerstone of President Obama’s pledge to combat climate change. The trick will be implementing it without further burdening an already battered middle class with fewer jobs and even slower economic growth.

This is arguably the most significant American environmental rule ever proposed and could transform the power sector. It is largely targeted at cutting pollution from coal-fired plants, which are the nation’s largest source of greenhouse gas emissions.

Coal has had a good run in the United States because it is abundant and therefore cheap. America has far larger reserves than any other country and has been called the “Saudi Arabia of coal.”

The new rule has come under attack from business groups and by Republicans and Democratic lawmakers from coal states. For example, the U.S. Chamber of Commerce claims it would cost the economy $50 billon a year and result in the loss of hundreds of thousands of jobs.

Despite concerns about the environmental consequences of natural gas, the president supports development of this resource as a means to combat global warming. In his 2012 State of the Union address he said, “We have a supply of natural gas that can last America nearly 100 years. And my administration will take every possible action to safely develop this energy.”

The fossil fuel natural gas is most frequently compared to is coal. The comparison much favors natural gas. It is the cleanest burning of all fossil fuels and produces the smallest amount of carbon dioxide per unit of energy. Burning natural gas for electricity produces roughly half the carbon dioxide that burning coal does.

Natural gas has been the fastest-growing energy source for electric power generation since the 1980s. Natural gas from shale has grown more than five-fold in the past five years. The domestic boom in shale drilling has led to a glut of cleaner natural gas, lower prices, ease of use and low levels of pollution. By 2012, the amount of natural gas used in electrical generation had grown to 28 percent from 11 percent in 1990.

Low natural gas prices also give a significant boost to the competitiveness of United States manufacturing by driving down electricity generation costs. The abundant supply of natural gas has kept prices so low that it is attracting manufacturing industries from overseas and positioning the United States to become a major player in the emerging globalized natural gas market. It may someday make  the United States an important source for countries now dependent on supplies from Putin’s Russia.

As the United States attempts to achieve ambitious greenhouse gas reductions, Americans would be wise to heed the advice all heard countless times from their parents: “Be careful!” Americans ought to recognize the possibility of economic trade-offs and what they may be.

In the midst of a still-fragile economic recovery, America cannot afford to make life further hell for the diminishing middle class.

originally published: June 14, 2014

America mugged by good intentions

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The Obama administration has unveiled a sweeping 645-page pollution control rule limiting carbon dioxide emissions from the hundreds of fossil-fuel power plants. It’s a noble gesture, but one that ignores the fact that climate change is a global problem that requires a global solution.

The rule requires a 30 percent cut in carbon dioxide emissions by 2030 relative to 2005 levels. Hardest hit are the roughly 600 coal-fired power plants that account for 40 percent of U.S. electricity and about 38 percent of carbon pollution, the single largest source of greenhouse gas emissions. They contribute to the U.S. being the world’s second largest source of such emissions.

In 2007, the Supreme Court ruled that carbon dioxide and other global warming pollutants could be regulated under the Clean Air Act. The Court gave the EPA the green light to regulate heat-trapping gases in automobile emissions and regulate greenhouse gases such as carbon dioxide that contribute to global warming.

The proposed rule is the strongest action the president has taken on climate change. It fulfills the pledge he made in his first year in office that, compared to 2005 levels, the U.S. would reduce its greenhouse gas emissions such as carbon dioxide roughly 17 percent by 2020 and 85 percent by 2050. During his first term, the president increased vehicle fuel efficiency standards.

The various stakeholders have a year to comment on the proposed rule. Each state will then have a year to design and submit implementation plans. States can employ a variety of measures to meet the target, including plant upgrades, requiring plants to switch from coal to natural gas, enacting measures to reduce demand for electricity, producing more energy from greenhouse gas-free renewable sources such as solar and wind, or by starting “cap and trade” programs in which states agree to cap carbon pollution and firms buy and sell permits to pollute.

If states do not develop plans, the EPA will impose one.

The transition to a low-carbon economy won’t be free. It will likely drive up the price of electricity and of goods down the energy chain. Environmentalists and others argue that some of the expense will be offset by decreased health care costs and that new clean energy technologies will create jobs.

But the problem is not American warming, it’s global warming. The U.S. is only one player in the climate game.

China, India and other developing countries are poised to see an explosion in carbon pollution as millions of people join the middle class and enjoy cheap, available coal-fired electricity. Coal is used to generate nearly 40 percent of all the electricity produced in the world.

China has already passed America as the leading emitter of greenhouse gases due to its increased reliance on coal-fired power plants and growing use of automobiles. As recently as 2007, China was bringing one or two new coal-fired plants on line each week. With a growing economy and rampant urbanization, it is the world’s biggest energy consumer; its use of coal, oil and other fossil fuels doubled between 2000 and 2010.

Coal accounts for 70 percent of China’s total energy consumption and 80 percent of its electricity. Its share of global coal usage rose from 27 percent in 2000 to 47 percent in 2010, twice the volume consumed in the U.S.

Emissions have leveled off in the industrial world but continue to grow rapidly in developing countries. The question is whether developing countries have an interest in accepting economic constraints that would change that dynamic. What evidence is there that the environment edges out economic growth as developing countries’ top priority?

The logic behind the proposed mandate seems to be that by leading by example, the U.S. will spur others to reduce greenhouse gas emissions. The U.S. being one strong voice among a chorus of reasonable nations might be a splendid idea if nations were reasonable, but how many times must the U.S. get mugged by countries pursuing their own self-interest?

Sadly, as Walter Cronkite himself might have said, “that’s the way it is.” Case closed.

originally published: June 7, 2014

Time to break out the brass knuckles on public executives

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A rash of preventable deaths has put the Department of Veteran Affairs under intense scrutiny. The tragedy highlights the need to do better by veterans by revamping outdated federal personnel policies.

The VA has an annual budget of about $154 billion and more than 340,000 employees, including roughly 360 senior executives. It serves some 8.3 million veterans enrolled in the largest integrated health care system in North America, with 1,700 hospitals, nearly 1,400 community-based outpatient clinics, community living centers, nursing homes, and other facilities. In recent years, the VA has seen its customer base grow at an unprecedented pace, with a new wave of injured and disabled veterans returning from wars in Iraq and Afghanistan.

The VA is engulfed by a growing controversy over allegations that perhaps more than 40 veterans allegedly died while awaiting medical care in a Phoenix, AZ facility arid that government employees falsified data and created secret waiting lists to hide the long delays. Equally serious is the charge that the VA was aware of the delays but did little to address the problem.

Government agency heads operate under handicaps largely unknown in the private sector. For example, onerous rules governing procurement, budgeting and personnel that were originally adopted to prevent public sector wrongdoing have created workplaces that are often inflexible.

Recent scandals have further undermined Americans’ confidence in government. When these institutions fail, the breach of trust is devastating, especially when government staggers from one disaster and mistake to another.

When Hurricane Katrina struck New Orleans in 2005, it overwhelmed the levees protecting the city and left nearly 1,000 people dead.. Eighty percent of the city flooded, whole neighborhoods were devastated, producing a repair bill at least 1,000 times larger than it would have cost to provide the kind of levees that would have prevented such a disaster.

The 911 Commission found that a year before the terrorist attacks, poor communications, poor coordination, and competition between multiple agencies contributed to the government’s inability to anticipate and respond to attacks.

More recently, Americans witnessed the botched rollout of healthcare.gov and the Benghazi attack in which four Americans died in an assault on the American consulate, which took place on the anniversary of 9/11 despite prior warnings.

Then there was the IRS targeting of conservative organizations. These are stark examples of the price of government’s failure to perform as it should and then not being held accountable for its failures. Antiquated civil service rules mean there is little threat of anyone being fired. Many public servants perform heroically, but these ghastly events dramatize the need for better performance from government agencies that deal with life-and-death situations.

It’s no secret that many public-sector employees feel a sense of entitlement when it comes to their jobs. Why shouldn’t they? They have virtually guaranteed lifetime employment followed by generous pension benefits from agencies that almost never go out of existence.

There is little incentive to focus on the taxpayer as a customer and mediocrity becomes institutionalized, creating a culture of complacency. Transforming a civil service mind-set to focus on the customer is profoundly difficult.

Now the uproar over VA treatment delays is triggering heated debate in Congress about whether it is too difficult to fire senior federal executives. Current law allows those who report directly to presidential appointees to be disciplined and fired, but the process can drag on for years.

The House of Representatives has passed legislation giving the secretary of the Department of Veterans Affairs authority to remove senior executives whose performance warrants firing. Given the recent history of government mismanagement, it is time to break out the brass knuckles.

The average American does not have guaranteed lifetime employment and has witnessed massive private-sector layoffs, pay cuts and benefit reductions.

Meanwhile, all the usual suspects made the obligatory Memorial Day visits to Arlington National Cemetery. They expressed outrage at the treatment of veterans and pontificated about honoring the families of those who made the ultimate sacrifice to protect our freedoms.

originally published: May 30, 2014

Corporations, integrity and dead customers

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These days, saying that no one much likes captains of industry is to exaggerate very little. It is as American as pizza, unwed mothers, cheating on your taxes and hating the Yankees.

But the actions of one corporate titan more than 30 years ago stand out from the crowd and prove that it doesn’t need to be that way.

On Sept. 29, 1982, Johnson & Johnson executives learned that seven people from the Chicago-area died after swallowing Tylenol capsules laced with cyanide. Nothing of this sort had ever happened in the industry.

That summer, J&J’s Tylenol pain medication was by far the country’s leading analgesic with a 35 percent market share. The brand seemed unstoppable, until the unimaginable happened.

J&J’s handling of the crisis was a textbook example of doing the right thing and putting the customer first. The firm took immediate steps to recall and destroy the 31 million bottles on American shelves and it developed the first tamper-resistant packaging. The moves cost over $100 million, and that doesn’t include the effects of plummeting sales in the wake of the recall.

But the firm was ultimately rewarded for putting customer safety first. A year later, Tylenol was once again the nation’s top-selling analgesic. After two years. Tylenol was back to capturing 33 percent of the analgesic market.

Acting to protect customers in the earliest stages of the crisis was consistent with the first stanza of J&J’s corporate statement of purpose: “We believe that our first responsibility is to the doctors, nurses , and patients , to mothers and all others who use our products and services.” Senior managers understood that you protect the brand by protecting the customer. If you put the customer first, employees, stockholders and other stakeholders all do better in the long run; it’s about customer trust.

General Motors is the latest example of bad corporate behavior. We recently learned that GM waited over a decade to recall 1.6 million compact cars with faulty ignition switches that contributed to more than a dozen deaths across the country. When they finally did act, it was by sending technical service bulletins to dealers instead of immediately recalling cars. GM’s current CEO Mary Barra called the firm’s slow response an “extraordinary” situation and said she didn’t know why it took so long to fix the ignition.

To make matters worse, this comes just five years after the federal government became the de facto owner of General Motors when it invested more than $100 billion in taxpayer money to bail out the troubled automaker. The feds of course swear on a stack of bibles that the bailout was a rousing success, resulting in more than a million jobs being saved and GM again becoming the number one automaker in the world.

Barra must have felt something go dead inside her as she realized she was saying so little and saying it so late. After all, this is the new GM, a far different company today than before bankruptcy. We know this because GM keeps telling us, even though there’s no evidence to back it up. One can only assume if they say it often enough, it will be true.

GM remains unwilling to admit the company made mistakes. The automaker recently filed a motion asking a federal bankruptcy court to enforce a provision that shields the “new GM” from liability for incidents that took place before it emerged from its whirlwind Chapter 11 bankruptcy in July 2009.

GM could have learned a thing or two from J&J, whose response to the 1982 Tylenol poisonings did justice to the company’s stakeholders. Though the person or persons responsible for tampering with the pills has never been found, J&J’s reputation wasn’t lost.

It is not surprising that in the weeks and months following the crisis, J&J was praised in the court of public opinion for demonstrating that doing the right thing matters and that making the customer the first priority is good business. It’s a lesson GM’s top executives never learned.

originally published: May 10, 2014

‘Too big to fail’ GM already has

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General Motors waited more than a decade to recall 1.6 million defective Chevy Cobalts, Saturns and Pontiac G-Ss with faulty ignition switches that could cut off engine power and electrical systems, disabling the air bag and leaving occupants vulnerable to serious injury. Thus far, the defect has been linked to 13 deaths.

GM’s corporate delinquency and callous disregard for persistent quality control problems are so disturbing that many find it difficult to reconcile them with company leaders’ constant claims that the company has a different organizational culture than the one that was in place when these lapses occurred. GM has reinvented itself, the story goes, and now builds the safest and best cars in the world.

The coming months will tell us a lot about whether those claims are just talking points or if new CEO Mary T. Barra, a 33-year veteran of the company, has truly transformed GM.

Last month Barra told a congressional hearing about the overhaul of GM’s corporate culture. These days, “creating a new culture” is one of the phrases CEOs need to wield to make their way in corporate America. The new CEO is going to push middle management and old timers to think and act differently, shedding its hidebound culture and putting the customer first.

After dominating the U.S. car market for most of the 20th century, the glory days of GM and the American auto industry began to unravel in the early 1970s. GM, for example, had a majority of the U.S. market in 1962 and was the undisputed leader in global car sales between 1931 and 2008. By 2009, this great American icon’s market share had fallen to less than 20 percent.

One reason GM and other American automakers lost their way is because senior management built strategies around the flawed assumptions that oil would be readily available and cheap, and American drivers would continue to buy large vehicles. Given their inflated cost structures, these were the only vehicles American car manufacturers could sell at a profit. On average, GM spent about $1,600 per car more than their foreign counterparts on pension, health, life insurance and other worker and retiree benefits.

The 2008 financial crisis hit the industry hard. U.S. auto sales declined by 18 percent from 16.1 million units in 2007 to 13.2 million units in 2008. Meanwhile, the price of a gallon of gas rose to over $4 in the summer of2008, up from about $2 in 2005. In 2009, the credit crisis, coupled with an already-declining market share, redundant product offerings, huge legacy costs and customer perceptions of poor quality pushed GM into bankruptcy court protection.

By handing GM close to $58 billion under the Troubled Asset Relief Program, the feds became the company’s de facto owner. Washington provided additional help by waiving the payment of $45.4  billion in taxes on future company profits, offering a $7,500 tax credit to consumers who bought the Chevy Volt, the Cash for Clunkers program, and an exemption from product liability on cars sold before the bailout.

In November 2010, GM returned to private ownership by launching a successful initial public offering.

But just as people have distinct personalities, so too do organizations. Transformation takes time.  Culture is the product of the firm’s organizational structure, the system used to reward senior management and motivate and shape employee behavior. Old loyalties, behaviors and identities are hard to change. They produce a massive amount of inertia which has to be overcome.

Does Mary Barra’s long tenure at GM doom her to repeat past strategies and traditions such as the slow response to safety issues? Can a company lifer drive the kind of major change Ford saw after it recruited Alan Mulally from Boeing in 2006 and he pulled the company back from the brink of collapse just two years later?

General Motors again faces the risk of years of costly litigation and a significant loss of brand equity and market share. Hey, no problem. GM is too big to fail.

originally published: May 3, 2014

Alan Greenspan’s downfall

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In the wake of the 2008 global economic crash, the once-esteemed name of Alan Greenspan doesn’t carry much weight. In the final analysis, his downfall came because he just couldn’t bear to close down the party.

Greenspan was appointed Federal Reserve chair by President Reagan in 1987. He succeeded the legendary Paul Volker, who is credited with having broken the back of virulent 1970s inflation by choking off growth in the money supply.

Because of his business background and admitted “Libertarian Republican” ideology , Greenspan was expected to continue emphasizing his predecessor’s low-inflation policies.

By any objective measure, Greenspan merited the title “History’s most qualified central banker.” He was, after all, no ivory tower academic lost in the stacks of some dusty library without hands-on experience in the real world. In fact, his vast and varied range of life experiences truly made him a quintessential man of the world.

As an undergraduate during the 1940s, he studied clarinet at the Julliard School of Music. He then toured the country as a saxophonist in a popular jazz band.

During this time he developed a sideline preparing income tax returns for fellow musicians. He then enrolled at New York University to study economics and became a member of an informal discussion group led by Ayn Rand, the famous libertarian philosopher who, through her best-selling novels “The Fountainhead” and “Atlas Shrugged,” was instrumental in resurrecting free market economic theory.

After NYU, he went to work for an economics consulting firm whose clients included Fortune 500 companies. He eventually became the firm’s owner and CEO (so he knew what it was like to have to meet payroll) and made himself a nice fortune in the process, earning an honorable discharge from the financial wars.

He had his first federal government experience during the Ford administration, when he chaired the President’s Council of Economic Advisors. After that, he returned to his consulting firm.

Almost immediately after being named Fed chair, Greenspan was confronted by the massive October 1987 stock market crash. He responded by flooding the financial markets with liquidity, which prevented a Wall Street bloodbath from laying a glove on Main Street.

During all these years, he led an exceedingly full life as an active pursuer of interesting women. His romantic targets included celebrities like Barbara Walters and NBC’s Andrea Mitchell, who became his second wife while he was Fed chair.

When a 1998 hedge fund meltdown triggered concerns that sizable losses to the firm’s creditors (mainly large Wall Street banks) would cause credit markets to freeze up, Greenspan worked behind the scenes to have the Federal Reserve Bank of New York orchestrate a bailout of the hedge fund by these banks. The Fed pumped up the money supply to depress interest rates, thereby making life easier for the banks.

Then the dot-com bubble burst, wiping out more than $5 trillion (that’s “t” as in “trauma”) in stock market value among tech companies by the end of 2002, helped along by the 9/11 terrorist attacks.

These events and others gave Greenspan plenty of excuses to keep interest rates low by pumping up the money supply, to oppose financial regulation, and arrange bailouts when banks got into trouble. All of which he repeated to the point where they opened wide the door for the housing and derivative booms.

He largely ignored the ruling guideline expressed by former Fed Chair William McChesney Martin, who supposedly said, “The Fed’s job is to take the punch bowl away just when the party’s going good.”

So when it comes to managing the money supply, the Fed should presumably grow it more slowly during good economic times and more rapidly during recessions.

But Greenspan’s guideline was to keep the party going full blast with generous bowls of vodka-spiked punch until the guests were staggering around the room, stumbling into the furniture, singing bawdy songs, knocking over floor lamps and throwing up on the carpet.

And then bring in the Fed to clean up the mess.

originally published: April 26, 2014

How an immigrant helped save an American ideal

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At 5:12 on the morning of Wednesday, April 18,  1906, San Francisco was struck by a severe earthquake estimated at 7.8 on the Richter scale. The San Francisco quake devastated a great many of the city’s buildings and generated fires that burned for four days.

By the time the fires were out, more than 80 percent of the city’s built-up area had been destroyed, more than 3,000 people lay dead and half of the city’s 400,000 residents were homeless. It was a catastrophe equal (in relative terms) to the five B-29 fire raids in 1945 that destroyed Tokyo, which had been the world’s third largest city.

As a result, the West Coast’s most important ocean shipping port and commercial center ceased to function. Or so it seemed.

But while the fires were still burning, Amadeo P. Giannini was aggressively seeking out his Bank of Italy’s small-business customers whose firms had been wiped out by the disaster, even though his bank’s storefront headquarters in the city’s North Beach section had also been devastated by the quake and fire. Giannini is surely one of the nation’s capitalist heroes, whose influence on the take charge actions by New York City’s J.P. Morgan during the Panic of 1907, is greater than most people realize. Yet his  name is largely unknown to most Americans.

Working from a salvaged plank placed across two barrels in the middle of a North Beach street,  Giannini helped each of his customers estimate how much it would cost to restart his business. He noted the amounts next to each business owner’s name in his black pocket notebook and told each one that the Bank of Italy was granting him a loan for the full amount, which he could begin drawing on the next morning.

Giannini’s gutsy entrepreneurial actions (which soon extended to small-business owners who had not previously  been Bank of ltaly customers) effectively shamed the leaders of San Francisco’s larger and more aristocratic banks to cease their paralyzed hand-wringing and get to work making increasing numbers of new loans to their own business customers.

The result was a massive expansion in San Francisco’s money supply. This free-flowing liquidity fueled a burst of new business activity. San Francisco’s homeless were hired to clear away the debris and virtually non-stop construction began on new buildings to house the city’s people and businesses.

By the opening of San Francisco’s Panama-Pacific International Exhibition (and world’s fair) in 1915, the city had been rebuilt and few signs remained of the 1906 disaster.

San Francisco’s quick-march reconstruction shows what intelligent management of a society’s money supply can accomplish when the chips are really down. Especially under the leadership of a savvy banker like that son of Italian immigrants who wasn’t afraid to roll his sleeves up and get to work and whose Bank of Italy grew into the modern giant (and recent recipient of a federal bailout) Bank of America.

Books on the history of organized crime often go out of their way to remind readers that the ultimate mental befuddlement of people like Chicago’s AI Capone and New Jersey’s Willie Moretti can be attributed to syphilis, a classic symbol of southern Europeans’ moral weakness and presumed inability to control their sexual desire. We can be forgiven for wondering if their mental deteriorations would be attributed, more politely, to Alzheimer’s disease or senile dementia had they not been of ltalian descent.

As a nation, we continue to be imprisoned by foolish myths and enchantment tales about immigrants,” “foreigners,” and others, like Giannini, who lack the names and physical features of “good Americans.” In the process, we rob ourselves of their talents and drive, which we desperately need and which inevitably costs us -big time.

originally published: April 5, 2014

Privatization is as American as guns

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It’s surprising that privatization makes some people feel uneasy. It just makes me feel long in the tooth, since privatization is as American as handguns.

Privatization is an arrangement under which private firms become involved in the financing, designing, building, owning or operating of public facilities or services. Another name for such arrangements is public-private partnerships. The underlying concept is that the public and private sectors both benefit by cooperating to provide services.

Public-private partnerships are more common than most people realize. For example, governments have always used private firms to prepare the engineering and architectural designs for public buildings. Essential public services such as electricity, gas, and telephone communications have traditionally been provided by private firms functioning as regulated monopolies.

More recently, private firms operate prisons, sanitation services, toll roads and other functions normally associated with public agencies.

If public officials had to list 10 reasons for their rising interest in public-private partnerships, the first nine would be saving money. This is driven by tight fiscal conditions and taxpayer demand for more services than governments have the resources to provide.

Since private firms must pay taxes and earn profits- two costs that public agencies don’t have- it is reasonable to wonder how profit-generating firms can deliver services at lower costs than public agencies can.

The usual answer involves vague references to “private sector efficiency.” But such vapid cliches undermine privatization’s credibility. An important factor that enables private firms to deliver services less expensively is that few of them are subject to the regulations that hamstring public agencies. As a result, their procurement procedures are simpler, faster and more strategic.

Private firms are always on the lookout for new technologies and other tools that promise to make  service delivery more effective. They understand we did not get out of the Stone Age because we ran out of stones. Most public agencies are risk averse. so the only practical way for government enterprises to get things done in new and better ways is to let private firms assume the risk of failure.

Public agency managers rarely have the option of choosing a supplier based on timely delivery, quality, and lower life cycle costs. They’re usually restricted to a small group of suppliers who have mastered  the intricacies of government contracts, are willing to dot every “i”, cross every “t” (often several times) and wait months to be paid.

Avoiding “waste, fraud and abuse” guide public agency procurement. The standard assumption seems to be that the public would rather waste countless extra dollars to avoid any possibility of losing a single dollar to fraud or abuse. And few public agency managers can be expected to lay his or her career on the line to exploit more efficient trade-offs.

The bottom-line focus of most private firms forces them to live in the real world, where practical results, not procedures, are what count, That’s why private managers can exploit the benefits of just-in-time inventory management, economies of scale in purchase orders, and meaningful supplier performance measures to make their operations more efficient.    ·

Greater efficiency also means being able to aggressively exploit new technology to improve customer service, streamline production, and reduce costs. But there’s always some risk in being among the first to embrace new technology.

Private managers are paid to accept and manage risk; public sector managers are paid to avoid risk. This, coupled with elaborate procurement rules, is why public agencies usually end up with trailing  technology. They prefer not to “risk the public’s money” until a better technology has been so totally proven that it’s often obsolete.

Persuading government officials to outsource the risk of developing, financing, operating, and maintaining new innovative technology is a full time job, one with plenty of opportunity for overtime.

originally published: March 29, 2014

Why not privatize public jobs?

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Recently, the small band of Republicans in the Massachusetts Senate attempted unsuccessfully to tack an amendment repealing the so-called Pacheco law- the nation’s strongest anti-privatization law- onto a transportation bond bill. When moves like this are debated, the quality of managers, one of the most important reasons why governments need access to private-sector expertise, is almost never mentioned.

These days, privatization is usually defined as a process through which government contracts with private firms to deliver services traditionally delivered by public agencies. In theory, there is no reason why any government service could not be privatized. This extends all the way to sacred cows such as police and fire protection, elementary and secondary education, and even the armed forces.

Such presumably boundless potential may be why debates about how far privatization should go have become unnecessarily philosophical, involving stained-glass abstractions such as “public versus private goods,” “economic externalities,” “natural monopolies” and, of course, “the proper role of government.”

All of which ignore what may be a more pragmatic question: Has Americans’ growing mood of disenchantment with the apparent shortcomings of government increased their willingness to rely more on private companies to provide public services?    ·

If it has, we ought to ask ourselves how profit-seeking, tax-paying private companies may be able to deliver better services for less than not-for-profit, tax-free public agencies. Privatization advocates cite a number of reasons such as operating efficiency, easier access to capital, better technology, the absence  of conflicting goals and better management.

The role the latter plays in producing and delivering high-quality services with maximum efficiency is dangerously underrated. Efficiency requires managers who are bright, well-trained and highly motivated. The most obvious way to attract and hold on to such managers is to pay better than the competition.

But government agencies are at a serious disadvantage when it comes to attracting good managers. The salaries of elected officials tend to impose an artificial ceiling on how much public agency managers can be paid. This ceiling usually ignores the realities of the marketplace, but elected officials are reluctant to advocating higher salaries for themselves because they believe it looks bad to voters.

Since managers rarely earn more than their elected bosses, comparatively low pay means too many government agencies lack the management talent they need to deliver services efficiently.

Few professional managers are independently wealthy. Their choice of where to work reflects the financial realities of paying mortgages, supporting their families and providing for their children’s education. For the best managers, the public sector is rarely where they can earn the most.

Sadly, some recent newspaper reports have gone after the Massachusetts Convention Center Authority, one of the quasi-public authorities where managers can earn salaries that, though still not comparable, are at least closer to what professional managers can command in the private sector. One report criticized the increased compensation some MCCA employees earned thanks to performance-based incentives.

Perhaps it’s not a coincidence that the MCCA might be the best-managed public agency in Massachusetts. Executive Director James Rooney is an outstanding manager and knows that using performance-based incentives that link compensation to performance is a tool that can help him attract and maintain talent.

Given the uniquely American attitude toward government and civil servants, there is little likelihood that these salary constraints will ever disappear. So the only practical way to assure that public agencies are consistently well-managed may be to tum at least some of them over to private companies that are willing and able to pay top dollar for superior managers.

originally published: March 5, 2014