Development Theories and strategies

Chapter 4

Private Sector and Development

 Issues to be addressed
• The concept of private sector
• Privatization
• What is it?
• Justifications
• Challenges
• Some countries’ experiences including Ethiopia

• Role & contributions of private sector

• MNCs, Small & medium, and micro enterprises
• Constraints for private sector development
• Measures to promote private sector development
 4.1 Introduction
• Firms in the Private sector:
– Cover farmers and micro entrepreneurs to local
manufacturing companies and multinational enterprises
– They invest in new ideas and new facilities that
strengthen the foundation of economic growth and
prosperity.
– They provide more than 90 percent of jobs
– create opportunities for people to apply their talents and
improve their situations.
– provide the goods and services needed to sustain life and
improve living standards.
– The main source of tax revenues
 4.2 Concept of the Private Sector

• The part of the economy that is not state

controlled, and is run by individuals and
companies for profit.

• The private sector encompasses all for-profit

businesses that are not owned or operated by
the government or the third sector
4.2.The issue of Privatization
 Privatization: Definition
• Privatization is the transfer of ownership and
management control of a public enterprises to private
shareholders.
• This means transfer of:
– Capital investment responsibility
– Going-concern/bankruptcy risks
– Incentives and profit benefits

• At one extreme, privatization can consist of just

transfer of management responsibility (without
transfer of capital and profit risks) or outright/absolute
sale of assets or shares at the other extreme.
6
 Justifications for privatization

Performance
Increased efficiency
Corruption
Accountability
Goals
Capital
Political influence
 Advantages of Privatization
To Government:
• Reduces the operating costs of government
• Raises proceeds to reduce the debt
• Reduces future calls on government expenditure
• Turns losses into tax revenues
• Reduces lobbying pressures on politicians
 Advantages of Privatization

To the Private Sector:

• Stimulates development of private enterprises
• Helps create a competitive environment
which in turn increases efficiencies and
reduces costs
• Could provide a basis for an export industry
 The Challenges of Privatization
• The absence of supporting policies
• Inappropriate time for implementation has impeded a smooth
transition.
• The existence of a variety of interest groups favoring the status
quo,
• the absence of a viable private sector and private capital
• the absence of a well-developed market,
• enduring government controls such as:
– restrictions on exports,
– requirements to maintain the existing line of business,
– restrictions on the sales of assets, and the entry of new businesses and
– the hiring and firing of workers, have created hurdles to the achievement
of successful privatization.
• Inadequate legal and economic information also constrains
restructuring.
 4.7.4 Experiences of some selected countries including Ethiopia
• Popular in the 1980’s in the West, mainly due to
– the growing distrust in the ability of the government to efficiently manage
public enterprises.
• A historical turn of the Soviet Union and other East European and
socialist countries from planned economy to market oriented
economy has created a high time for fast privatization around
the world.

• Latin American countries such as Chile and Argentina had

transferred large-state controlled telecommunications, railways,
power and energy, airline, mining and oil and petroleum
industries to private ownership or management during the 1970s
& 1980s.
• Today it is pervasive
 Experience of some selected countries including Ethiopia-Cont’d

• The spread of privatization in Africa has

been remarkable as evidenced by the
existence of the program in many
countries’ such as South Africa, Uganda,
Tanzania, Nigeria, Togo, Coted’Ivoire,
Zambia, Kenya, Ethiopia, etc through
structural adjustment programs of WB
 Privatization in Ethiopia
• Privatization is relatively a recent phenomenon in
Ethiopia.

– It was initiated in 1994 through the establishment of

the Ethiopian Privatization Agency by proclamation
N0. 87/1994.

– In 2004, further amendment was made through

Proclamation No 412/2004 by merging privatization
agency and public enterprises supervising agency.
 Privatization in Ethiopia-Cont’d
• The objectives of Privatization and Public Enterprises Supervising
Agency include:
– Implementing the Privatization Programs in accordance with the
privatization of public enterprises legislation in transparent and
efficient manner;

– Supporting public enterprises in attaining higher level of capacity

utilization and the employment of better management systems and
technology and thereby to improve their performance and to
maximize their achievements;

– Initiating the establishment of new enterprises in sectors where

private investors could not participate for various reasons and which
will be bottlenecks for the overall economic development;

– Supervising the management of public enterprises; and

– Safeguarding the ownership rights of the state in public enterprises
and share companies.
 Privatization in Ethiopia-Cont’d
• Strategies and values for the program
– to ensure maximum revenue, competitive bidding system and
transparency.
– involving the private sector in areas of business, which were
earlier reserved only for the public sector.
– Creating favorable conditions for private investment has been
considered as a reinforcement mechanism to give rise to
competitive environment.

 promoting economic development through expanding the private

sector is underscored as one of the prime objectives of
privatization.
 Privatization in Ethiopia-Cont’d
Privatization modalities

– asset sales method through competitive bidding

– share sales by competitive tender,

– Restricted Tender and Negotiated Sale,

– Lease and sale,

– management contract ,and

– joint venture method

4.3. Role and contribution of private sector in development

• Three types of actors:

– Multi national companies (MNCs),
– small and medium enterprises (SMEs),
and
– Micro-enterprises.
• These actors can overlap
 4.3.1 Characteristics/features and contribution of MNCs
• MNCs are corporate entities that have commercial operations in
more that one countries.
• They are known by other names like transnational
/global/corporations or multinational enterprises

Major characteristics:
 Area of operation---multiple products and activities in many
countries
 Comprehensive term---includes many categories
 Profit motive
 Management: parent company Vs subsidiary companies
 Manufacture and marketing activities
 Quality consciousness
 Characteristics/features and contribution of MNCs-Cont’d

Direct Contributions:
– Employment and Income
– Infrastructure and essential services
– Goods and services

Indirect Contributions:
– Economy
– Tax
– Policy and governance
– The environment
 Small and Medium Enterprises (SMEs)
SMEs categories- International standards
• Micro-sized enterprise is any enterprise having 1 up to 5 employees, with
fixed assets (excluding land, building and vehicles) not exceeding
US$10,000.00.

• Small-sized enterprise includes any enterprise with between 6 and 29

employees, with fixed assets (excluding land, buildings and vehicles) not
exceeding US$100,000.00.

• Medium-sized enterprise includes any enterprise with between 30 to 100

employees with fixed assets (excluding land, buildings and vehicles) not
exceeding US$1,000,000.
• Any enterprise beyond this specification is regarded as a large-sized
enterprise.
Source: (UNIDO, 2004).
 Small and Medium Enterprises (SMEs)
Characteristics
• SMEs can constitute the major employer in the private
sector in both developing and developed countries.
• Some of the criteria to define SMES:
– employment, assets, sales and investment.
 Micro enterprises
Characteristics
• Micro enterprises are usually operated by self-employed
individuals or family business.
– They include street vendor, lottery-ticket sellers, taxi drivers, tour
operators, photocopying and printing providers, farmers, etc.
– most enterprises are micro, and most are in the informal sector.
They are thus one of the most important parts of the private sector
through which the poorest communities can work their way out of
poverty.
– They also act as a crucial safety net scheme.
•  A micro enterprise has up to 10 employees, total assets of up to
US$ 10,000 and total sales of up to US$ 100,000 (WB).
 Small and Medium Enterprises (SMEs)-Contributions
Direct contribution
• Employment and Income
• Goods and services
– They frequently produce light consumer goods – food, textile and
garments, wood products, etc to meet households demand. They can be
important part of the supply chain of the essential services, such as
sanitation, water, and even compete with major service providers in some
cases.
Indirect role of SMEs in development
• Economy
• Tax
• Policy and governance
• Policy and governance
• The environment
 Ethiopia’s Definition of MSE
a) The 1998 definition of MSE (FeMSEDA )
Old Definition of MSE in Ethiopia

Categories Manpower Paid up capital

Micro enterprise --------------- < 20,000 ETB ( 1,200 USD)
Small enterprise ----------------- ≤ 500,000 ETB ( 30,000 USD)

Source: FeMSEDA (Federal Micro & Small Enterprise Development Agency

The limitation of this definition:
1. It does not provide information on job creation, size and
asset base (employment and asset ownership are not part
of the definition).
2. The definition does not differentiate between
manufacturing (industry) and services.
 Ethiopia’s Definition of MSE
b) The New (2010/2011) Definition
• According to the new Small & Micro Enterprises Development Strategy of
Ethiopia (published 2011) the working definition of MSEs is based on capital
and Labor.
• Minimum asset requirement for services and industry is different as shown
in the table below:
Level Sector Human power: Total asset
hired labor

Micro Industry <=5 < 100,000($6000 or E4500)

enterprise
Service <=5 < 50,000($3000 or E2200)
Small Industry 6-30 < birr 1.5 million ($9,000 or
enterprise E7,000)
Service 6-30 < birr 500,000($30,000 or E
23,000)
 Ethiopia’s Definition of MSE
Ethiopia targets Micro and Small enterprises, many other
developing countries target Small and Medium enterprises.

Small

Medium
Micro
 Ethiopia’s Direct Policy Support to MSE Development
• Ethiopia adopts a layered policy support in
which MSEs are categorized into start-up,
growing-middle and maturity
– stages of MSEs development

• The direct policy support includes:

i. access to markets,
ii.access to finance,
iii.access to industrial extension,
iv.access to training and technological support,
v. Access to working space
 Government Supports and Selected Sectors
• Some of growth oriented sectors are:
– In the manufacturing sector: Metal & engineering, textile and
garment, leather products, wood work products, agro
processing and handicraft products.
– In the construction sector: contractor, building material
production, cobble stone production, traditional way of mining
extraction.
– Urban agriculture: cattle fattening, honey production,
forestry, poultry farm, animal food preparation

– Trade sector: domestic product wholesale and retail trade

– Service sector: solid waste collection and recycling,
maintenance service, etc…
 Discussion Space
• Identify the major challenges and constraints
in development of private sector (the
Ethiopian context), and

– Forward your recommendations to address

theses challenges of privatization
 4.4. Major constraints in the development of private sector

A. Market and Government Failures

• Market failures can arise from several sources:
– The negative externalities of private actions (such as
pollution),
– positive externalities that result in free-rider problems or
underinvestment (as with public goods),
– lack of complete markets, asymmetric information (which
distort market prices)---the imbalance of knowledge in a
market between buyers and sellers. or
 Major constraints in the development of private sector –Cont’d

Market and Government Failures

– Therefore, government must establish the “rules of the
game” that ensure competitive markets and provide an
appropriate legal and regulatory framework, a stable
macroeconomic environment, and a robust social and
physical infrastructure (health and education as well as
roads, communications, etc.).

– These “rules” must also mitigate the negative impacts on the

environment, health, and labor that are sometimes
associated with private enterprise
 Major constraints in the development of private sector-Cont’d

Market and Government Failures—Cont’d

Government also fails.
• “government failure” refers to problems that occur when states
fail to regulate appropriately and do not have effective
institutions to support needed public activities (infrastructure,
education, and public health, among others).
• The often-criticized inefficiencies of government bureaucracies
can hamper private initiative through red tape and delays.

• Additionally, the government’s unique role in allocating budget

resources and issuing permits and licenses, as well as its
potential for the selective legal enforcement of rules and
regulations create ample opportunities for corruption
 Major constraints in the development of private sector-Cont’d

B. Scale of Firms, Informality, and Poverty

C. Capital Constraints on Private Sector Growth

D. Lack of competitive pressure on larger companies

 Major constraints in the development of private sector-Cont’d

E. Weak inter-firm linkages

– Linkages among small and large, modern and traditional, or domestic and

international enterprises in value chains or through clusters have a

number of positive effects which ultimately contribute to company

competitiveness

F. Lack of innovation capabilities

 Addressing institutional weaknesses, the related high costs of doing
business, and improving the coordination of public-private
interactions, make up the major part of reform agenda.
4.5 Measures to promote private sector
(PSD strategies)
 4.5. Measures to promote private sector/PSD strategies

I. Improving the Business Environment: Reducing the Cost

of Doing Business
a)  Improvement of investment climate
b) Reforms to ease business registration and the
acquisition of licenses

II. Building the capacity of market support institutions

and promoting good governance

III. Improve access, availability and quality of basic

infrastructure services to facilitate investment and
trade
 4.5. Measures to promote private sector/PSD strategies_ cont’d

IV. Improve access to requisite resources needed for

private sector development.

V. Improving access, availability and quality of support

services is vital to building firms’ capacity to compete
nationally, regionally and internationally
Thank you