Q: How many liberal economists does it take to change a washer?

 A: None. If the washer needed changing the market would have already done it.

Q: How many socialist economists does it take to change a washer?

A: None. The government will take care of it.

The theoretical battles behind such old, well known economic jokes persist in the modern world, in particular when it comes to the question of whether privately managed utilities perform better than those run by the state. Even among the most developed economies there is no single answer: while regional water supply and sanitation services are in the hands of private companies in Great Britain, in the USA they are in the hands of municipalities. Well, which ones perform better?

Unfortunately, there is no simple and conclusive answer to this question. As a general rule, changes from public to private management results in significant efficiency improvements, as private operators strive to maximize profits. The cost saving, labor productivity and service quality gains are irrefutable when private-sector activity takes place in an open and competitive market. However, the empirical results of the impact of private sector participation (PSP) in utilities, such as water and sanitation services, are less clear-cut.

Water and sanitation services are by their nature natural monopolies. It wouldn’t really make much sense for a number of different enterprises to be laying down competing networks of pipes to connect your household or business to the water system. A single network – efficiently run - is obviously more cost effective.  The delivery of water and sanitation services is also an activity which provides social benefits and thus there are inherent externalities associated with the provision of these services. Put another way there is a real interest to ensure good clean water is provided, not only to the recipient household, but for the community as a whole. Dirty water provided to one household could result in diseases being communicated to neighbors which would adversely affect society at large. Moreover the demand for utilities is pretty inelastic. Water is a basic need in every day life. Unless a society faces extreme climatic conditions, the demand for water as prices rise or fall is not going to change as much as say demand for caviar. It is, after all, the source of life as we know it.

For all these reasons: natural monopoly, externalities, inelasticity of demand, it is extremely important to approach PSP in utilities with a coherent well-thought out strategy, with a robust regulatory framework or contractual system, which provides the private sector with the right incentives to efficiently deliver a safe, clean product.

Let’s pause for a second.  Before local or central governments embark on promoting private participation in water and sanitation they should also take a step back and ask themselves - what goals are we trying to achieve for the sector?   The aim of trying to deliver a quality service at the lowest possible cost/price is an obvious target of private sector participation. But I suppose that there is also no doubt in anybody’s mind that another sector objective is to ensure universal access to water and sanitation services throughout Serbia.  Last, but not least, service delivery should be sustainable. There is no use in setting up a water supply system that can’t stand on its on feet – both in terms of covering its own costs (notably operating, maintenance and specified investment costs); and, in terms of being environmentally sustainable.

So is there anything in the current state of the Serbia water sector to suggest that a change of approach – that is greater private sector participation – is warranted? Well yes. In terms of efficiency and quality there are clearly shortcomings. What was known to old-timers like me as unaccounted for water (now called non revenue water (NRW) by modern-day practitioners) - or you might say water that just “disappears” - in urban areas in Serbia is estimated to be at 30-50%, while the international benchmark is 19%.  Serbia meters 43 percent of public consumption, while the international standard is 100 percent. 71 percent of sampled water is estimated to be of good quality, while the standard to be attained is 100 percent.  Indicators on access to water are much better - urban coverage is 99.7% with the benchmark at 100%. Nevertheless, only 82 percent of connected urban consumers have water for 24 hours, it should be 100 percent.   Making judgments on sustainability is a little more difficult, given the available data. May be there is a message in that fact alone.

If we are agreed that some type of reform is necessary - what approach should Serbia take? There are essentially five models of managing utilities worldwide. Owned and run by municipalities; outright privatization; run by private companies through concessions; leased to private companies; or, run by private companies through management contracts. While privatization means 51% plus of the utility’s shareholding is transferred into private hands (this includes everything: infrastructure assets, operating assets and operating rights); concession is a transfer of the utilities assets and operating rights for a limited period; lease contract means the municipality continues to own infrastructure assets - but there is joint ownership of operating assets and private ownership of operating rights for a limited period; and, a management contract means the municipality continues to own infrastructure and operating rights, but the management contract sets clear performance benchmarks that the private operator needs to meet.

What does a quarter of century of PSP experience tell us? It really is a mixed bag of results. Experiences differ from one country to another. Even within one country – Argentina - while there were good results in Cordoba, there were disappointing experiences in other provinces and towns. Perhaps it’s best to take a close look at a success story, to see what the secret was to ther success. In terms of efficiency, coverage and sustainability, Chile did extremely well. The two elements of its success were a strong regulatory framework, along with a transparent, targeted subsidy to low income consumers. Under a compulsory concession law, the regulator, the Superintendencia de Servicios Sanitarios, grants concessions to all operators, whether publicly or privately owned, to provide service within a given area.  Concessions are unlimited in time but can be revoked by the regulator if operators fail to comply with the service coverage and quality norms. The poor are protected with subsidies for households identified by the municipalities as low-income; they are paid by central government, not by the operator. With this approach all three goals: efficiency, sustainability and coverage are attained!

So if we are to be successful in changing the washer, let’s ensure we know what our goals are, clearly define the rules of the game, and stick rigidly to them when inviting in private sector operators.  (The same applies to road concessions and tenders for privatization by the way!)

Simon Gray

World Bank Country Manager in Serbia

Weekly NIN, May 13, 2008