On the Social Effects of Privatizations in Latin America

Latin Americans have generally disapproved of privatizations since the initial stages of structural reforms in the early 1990s. Nevertheless, opinion poll approval ratings for privatization have substantially increased in recent years as the benefits of specific privatizations have become more apparent. According to this trend, a growing share of the population is able to enjoy the benefits of privatized enterprises, especially in improved access to and quality of basic services, which in turn improve access to a wide array of economic and social activities. Recent progress notwithstanding, approximately two out of every three Latin Americans take a negative view of privatizations. In the last round of polling by Latinobarómetro (2006), covering 17 countries, only 30 percent of Latin Americans said that they were “satisfied or very satisfied” with the results of the privatization of public services, “considering price and quality.”

What shapes Latin Americans’ opinions of privatization? Some people have shown that support for privatization is closely linked with wealth and the perception of social mobility. The richest quintile of the region’s household are on average 8 percent more likely to approve of privatizations than the poorest quintile. Also, regardless of their income level, households whose members perceive that they have experienced (or may experience in the future) social mobility are significantly more likely to approve of privatizations. Other explanations for popular discontent—and perceptions that privatization has exacerbated social exclusion—suggest that this discontent stems from a widespread belief that privatizations have given private investors, who are seen as members of the economic elite, control over assets considered important for the country. These feelings became especially apparent during the privatization of telecommunications in Mexico and Peru. Popular approval of privatizations is further diminished by the absence of a political consensus on which activities should be under government control. According to a 1998 survey conducted by the Wall Street Journal Americas in 14 Latin American countries, on average 31 percent of those interviewed thought that airlines should be under government control, with 26 percent supporting government management of television stations and 61 believing that water services should be provided by the government.

It should also be noted that public perceptions of who benefits from privatizations, at least in the short term, have some basis in fact. Those who approved of privatizations in the Wall Street Journal Americas poll were also those who identified themselves as belonging to the political right, being in the higher deciles of the income distribution, and actively participating in—as well as being the first beneficiaries of—economic improvements in their countries. Though some may benefit more than others in the short run, there is no definitive answer to questions such as, whether privatizations ultimately benefit groups that are already worse off in favor of wealthier interests.

Most research on the effects of privatizations has evaluated the efficiency or productivity gains of private over public management. These issues, however, hold little immediate interest for the public at large, who are probably much more concerned about direct welfare effects. At the household level, these include basic features of welfare, such as access to public services and their price. Additional direct effects on households include job losses, a diminished ability to unionize, cuts in social benefits and a greater sense of job insecurity. Wider concerns include corruption scandals arising from some privatization processes and the enrichment of particular individuals or companies as a result of privatization. While all of these factors are important in forming public opinion and have serious economic consequences, they do not necessarily lead to the conclusion that privatization has negative social or distributive effects.

It is apparent that in the medium term many firms ended up rehiring workers who had initially been fired during the privatization processes—once it became that clear that the “wrong” workers had been dismissed. Privatizations in Latin America have offered a prime example of this so-called “adverse selection” problem. Some workers who were let go did in fact end up in the informal sector indicating that social exclusion as a result of privatization layoffs did occur, but this problem was in some cases mitigated by the rehiring of those workers. About 20 percent of previously dismissed workers in Latin America were rehired by the same firms—the highest percentage in any region (Chong and Lopez-de-Silanes, 2006)

Whether the efficiency gains from privatization were driven by productivity-enhancing investment, or by reductions in jobs and social benefits, remains unclear. Although in some large countries many workers were dismissed as a result of privatization, in other countries privatized firms actually created a significant amount of new jobs in the medium term. Critics of privatization maintain that employment reductions are both the primary means of driving up productivity and the major cause for the exclusion of low-skilled and elderly workers from the formal labor market. While the limited evidence available suggests that labor cost reductions contribute to profitability gains after privatization, these savings do not explain the bulk of increased profitability. Moreover, job reductions are not the only means of increasing labor productivity and, even when they occur, they may be accompanied by other cost-cutting measures such as lower wages and benefits.

Productivity, though, cannot be viewed in isolation. Taking into account other labor indicators and using the World Bank’s Productivity and the Investment Climate Survey, which provides considerable detail on the microeconomic and structural dimensions of 75 countries’ business environments, Chong and León (2007) find mixed evidence on the benefits of privatization. Managers in privatized firms earn significantly higher wages than their counterparts in either state-owned firms or firms that have always been private, while the wages of lower-skilled workers in privatized firms do not differ significantly from similar workers in private or state-owned firms. On the other hand, working conditions appear to have significantly deteriorated in the transition from public to private ownership. In addition to labor deregulation throughout the region, there has been a clear trend of reduction in non-wage labor costs, especially social benefits. In other words, privatized and private firms seem to be favoring temporary workers over permanent contracts and employing more low-skilled workers. Under these circumstances, workers’ ability to organize has been diminished, and privatized firms display significantly lower unionization rates than state-owned enterprises.

A concern is what happened to those workers who were laid off during the restructuring process either before or after privatization. This segment of the population, usually drawn from the groups that are most vulnerable to economic shocks of any kind, arguably faces the greatest risk of social exclusion due to privatization. In fact, one of the leading concerns surrounding privatization has been that laid-off workers may be unable to obtain comparable jobs in the private sector because of age, low skills, or the accumulation of industry-specific human capital. Although data limitations have made it nearly impossible to seriously address this issue on a large scale in most countries, Chong, López-de-Silanes and Torero (2007) have analyzed the conditions of laid-off workers in Peru both before and 10 years after privatization. They find that, even though laid-off workers were given a compensation package, the average worker suffers a significant initial hit after being fired, which validates concerns regarding the impact of privatization on inequality. On the other hand, the evidence provided by these researchers show that workers’ wages and benefits eventually recover up to a similar level to those workers in the private sector in the corresponding industry at the country level.

Perhaps more surprising is that “stayers” in Peru command higher wages and benefits than comparable workers who had been fired because of privatization or who had always been in the private sector. Workers in former SOEs were apparently able to extract more than other workers due to firm market power, union power or favorable terms of a collective contract that remains in effect. This result helps to explain why the compensation of workers who lost their jobs because of privatization reverts to the mean of their private sector industry. The same study reveals that the typical worker consumes the compensation package within the first two years, usually through investment in the home or through the creation of a self-run business. Unfortunately, however, the average new business fails by the end of that period and workers move on to activities related to their previous employment. Although limited to the case of Peru, these results help to qualify the belief that workers lose in the long term after privatization and that workers who lose their jobs are condemned to unemployment or poverty.

In addition to the effects on labor markets, privatizations have important distributive and welfare effects through their impact on consumption. Typically, privatizations of public services bring important increases in tariffs, which affect low-income groups more strongly. However, the effect of expanding coverage of services operates in the opposite direction, as relatively richer households typically already have access to public utilities. Consequently the net effect on poverty and inequality is a combination of both factors.

A relevant study is that by Galiani et al. (2007) who analyze the effect of the expansion of waterworks by a privatized firm, which expanded coverage to urban marginal shantytowns, where there was no service previously (although coverage is still not complete). The partial coverage of the water service allowed the researchers to assemble a panel data set that selected a control group from those households that had not benefited from the water service expansion. The results show that in the area of Buenos Aires access to piped water had significant effects on the reduction of diarrhea episodes among children. Also, when they were present, diarrhea episodes were shorter and less severe than those experienced by children from households that had not benefited from the expansion of the water services. Similarly, the improved provision of water produced substantial savings of money and time, because families did not have to spend time looking for other sources of water provision. An interesting and unexpected additional finding was that even households that had illegal connections before privatization received gains in health and time because, although the water might have been free, it was of very low quality. These results reinforce those from a previous study by Galiani, Gertler, and Schargrodsky (2005), which used data from municipalities with privatized water services (about 30 percent of the country’s municipalities) to show the effect of the private provision of water services on child mortality in Argentina. Their earlier results show that child mortality fell between 5 to 7 percent in areas that privatized their water services, and this effect was largest in poorest areas.

Also for the Argentinean case, González-Eiras and Rossi (2007) address the effects of the expansions of the privatized electricity networks on health outcomes. Their study adopts a novel approach to trace a link between electricity provision, durable goods ownership and nutritional content of the food consumed by household members. Their goal is to measure the effect that good electricity service (measured by access to and continuity of service) can have on the quality of food consumed in households, and how this can affect children’s health. The underlying hypothesis is that in areas where the electricity supply is not stable and continuous, refrigerators do not work well, and this in turn affects the type or quality of food consumed by individuals. In their study, based on information collected at the household level, they find suggestive evidence that electricity privatization reduced the frequency of some public health problems usually caused by food poisoning and nutrition. In provinces where electricity distribution was privatized, the frequency of low birth weights decreases in the range of 3.7 percent to 5.8 percent relative to provinces with public networks, though results are not robust to accounting for the potential problem of serial correlation in the data. Similar results are found when evaluating the continuity and frequency of electricity provision on child mortality.

In a very recent study of Colombia, Barrera and Olivera (2007) also analyze the effects of water service privatizations on access to the service, its quality and price, and some associated health outcomes. In the absence of panel data at the household level, the researchers used two different household surveys: the Encuesta de Calidad de Vida and the Demographic and Health Surveys (DHS). Overall the results showed a positive effect of privatized water services on e welfare indicators such as the number of children with diarrhea, which in rural areas shows a reduction of around 11 percentage points. Urban municipalities with private water provision saw a significant increase in the coverage of the network, and the water provided also had higher quality. When the quality of water is measured as the frequency of the service, it is higher in non-privatized urban municipalities, although the second quintile presents an improvement in the frequency of the service compared to the fourth and fifth quintiles. There was also a redistribution effect toward poorer areas in the frequency of the service. While richer areas saw a significant reduction in the frequency of service, it increased in poorer areas.

Regarding health outcomes, improvements in the frequency and quality of water services in privatized municipalities significantly increased the weight for height index of children, which is taken as a proxy of health status. Despite the positive impact observed on health, the users saw a great increase of the prices of the water services, which may out weight the other improvements in the quality and extension of the service. Given the information available, it was not possible for the researchers to disentangle the effect of the private enterprises and the cross-subsidies that were eliminated once the public network was divided into several local companies.

In the case of Peru, Chong, Galdo and Torero (2007) find that privatization of the telephone service brought important benefits for the rural poor. The government required the private company, Telefónica del Perú, to install public telephone cabins in some villages selected at random. Taking advantage of this “quasi-natural experiment,” the study evaluates the effects of this decision on the beneficiaries, concluding that that there were tangible improvements in income, especially non-agricultural income, which is crucial for stabilizing the income of the rural poor. In this way, total per capita non-farm income among the population who is treated (“existence of public telephone installed by the privatized firm”) would be around 28 percent lower otherwise. In this case; there were clear effects acting against social exclusion, reinforcing the mechanisms through which campesinos could generate a more stable source of income out of the agricultural work. Although these benefits were not the result of spontaneous initiatives on behalf of the company, but rather of government requirements, the results suggest that in circumstances where public companies may not have the means of extending coverage or improving the quality of the service, a combination of privatization and adequate government regulation may channel the benefits towards less privileged social groups.

Another study for Peru suggests that electricity privatization has substantially benefited peasants and poor rural workers (Alcázar, Nakasone and Torero, 2007). This was established by comparing areas where electricity distribution was privatized with areas where control remained with the public sector. According to the study, there the quality of service improved substantially in a substantial improvement in the quality of the service in the privatized areas, which had an impact on the time management of users. More continuous and reliable electricity service enable users to spend less time on agricultural work and more on non-agricultural or leisure activities, with positive effects on income and welfare.

A relevant factor in shaping public opinion is the tendency to group together simultaneous events or trends and consider them the common cause of short-term changes. In the economic policy area, the “Washington Consensus” or the “neoliberal economic model” are the common denominator under which a set of policies are grouped whose separate effects are difficult for an observer to disentangle. An objection to one outcome can lead to a rejection of all policies that observer correctly or erroneously associates with it. It is important to inform the policy debate so that it is grounded on rigorous empirical analysis of the effects of reforms, as opposed to qualitative and descriptive evidence made of correlations.

Chong A., and F. López-de-Silanes. 2006. “Privatization and Labor Restructuring around the World.” Under second revision, Journal of Public Economics

Chong, A., and G. León. 2007. “Privatized Firms, Rule of Law, and Labor Outcomes in Emerging Markets.” Research Department Working Paper 608. Washington, DC, United States: Inter-American Development Bank.

Chong, A. F. Lopez-de-Silanes, and M. Torero, 2007, “What Happens to Workers after Privatization? Manuscript, IDB.

Chong, A., V. Galdo and M. Torero. 2006. “Access to Telephone Services and Household Income in Poor Rural Areas Using a Quasi-Natural Experiment for Peru.” In: Privatization for the Public Good? A. Chong, ed., Harvard University Press.

Galiani, S., M. González-Rozada and E. Schargrodsky. 2007. “Water Expansions in Shantytowns: Health and Savings.” In: Privatization for the Public Good? A. Chong, ed., Harvard University Press.

Galiani, S., P. Gertler, and E. Schargrodsky. 2005. “Water for Life: The Impact of the Privatization of Water Services on Child Mortality.” Journal of Political Economy 113(1): 83-120.

González-Eiras, M., and M. Rossi. 2007. “The Impact of Electricity Sector Privatization on Public Health.” In: Privatization for the Public Good? A. Chong, ed., Harvard University Press.

Barrera-Osorio, F., and M. Olivera. 2007. “Does Society Win or Lose as a Result of Privatization? Provision of Public Services and Welfare of the Poor: The Case of Water Sector Privatization.” In: Privatization for the Public Good? A. Chong, ed., Harvard University Press.

Alcázar, L., E. Nakasone and M. Torero. 2007. “Provision of Public Services and Welfare of the Poor: Learning from an Incomplete Electricity Privatization Experience in Rural Peru.” In: Privatization for the Public Good? A. Chong, ed., Harvard University Press.

2 Responses to "On the Social Effects of Privatizations in Latin America"

  1. Vitoria Saddi   October 9, 2007 at 3:41 pm

    Alberto, We need more pieces on privatization! This is a great contribution. My questions are:
    1) On Argentina: regardless the impact that the privatization of energy companies brought on health do you think that the privatization process in Argentina was growth enhancing?
    2) In your view, the early privatizations (from early 90s) were as good (in terms of regulatory agencies and so forth) as the one implemented afterwards (say Brazil mid 1990s)?
    3) I thought that the water privatization was so controversial (according to many studies from the World Bank) that now I am unsure if privatization of water has been succesful in Latam (and a non-issue) or not?
    Thanks

    Vitoria

  2. Guest   October 9, 2007 at 9:54 pm

    This is a very good discussion of privatization; a brilliant overview of the most important issues.