Public Private Partnerships -
A temporary landmark for the third way
Samuel Brittan: Winchester 13/11/01

The Third Way

Nothing is more natural than human affairs than to seek a third way. None of us likes having to make a difficult choice. This especially applies to politicians who know that choosing one or the other might lose millions of votes. The instinctive response when asked to choose between A and B is to say: A and B; or neither A nor B, but C: in other words a third way.

So much for the very primitive logic. For most of the 20th century a third way meant a third way between capitalism and socialism. Capitalism usually meant the capitalism of the Great Depression between the wars when millions were unemployed and coffee was thrown into the sea to keep up its price. The one example of a fully socialist existing society was the Soviet Union with its Gulags and one party state.

Even in western countries the choice seemed to be between a very imperfect form of capitalism and Clause 4 socialism. In 1938, Harold Macmillan published a book entitled The Middle Way which was meant to be a compromise between capitalism and socialism. He advocated policies which would be too far out for New Labour today, such as bulk buying of foodstuffs, a national investment board and compulsory industrial reorganisation. John Maynard Keynes did his best to write a favourable review; but he made it pretty clear that he favoured a very different type of third way, and one which was characterised by the regulation of total spending - he called it aggregate demand - so that there was never so little spending power that the economy plunged into slump or nor so much that we had a runaway inflation.

More than 10 years ago belief in full scale state management and state ownership suffered a body blow with the end of the former Soviet Union; and even the softer kinds of semi-socialism practised in countries such as Britain or Sweden received a number of setbacks. From the cartoonists point of view the high or low point was reached in 1976 when Chancellor Denis Healey had to turn back at London Airport on his way to an IMF Conference because of the rate at which the pound was falling and reservers were dropping.

In recent years the argument has been conducted in much lower key. We hear less of socialism but more of contrasts between two models of capitalism. There is the Anglo-American kind based on direct responsibility to shareholders, active financial markets and the threat of hostile takeovers as a spur to performance. Against this is often placed the Rhenish model based on the French and German varieties of capitalism - or idealised versions of them. Here companies are controlled by banks; there are supervisory boards where workers representatives have half the seats. There are also nationwide collective bargaining and much greater power for the labour unions than the British unions have enjoyed since Margaret Thatchers reforms or even before.

For Tony Blair the third way is a half house between the Anglo-American and the Rhenish models. The practical point is that whilst he was in opposition Tony Blair won a long standing battle to get rid of Clause 4 of the Labour party constitution which committed the party to the common ownership (usually interpreted as state ownership) of the means of production distribution and exchange. This was a great achievement on his part. Many years before Hugh Gaitskill had tried to get rid of Clause 4 but was defeated. Harold Wilson did not believe in it either; he tried to laugh it off by asking the nationalisers if they wanted to take over Marks and Spencers to make it as efficient as the Co-ops! This jibe does not seem nearly as witty now, in view of the recent troubles of the M&S Retail Corporation. But Blair was the person who actually forced the change through.

He then faced a question of what to put in its place. The most straightforward answer would have been nothing. If a proposal is a mistake why not just get rid of it? But the general view was that he had to put in something; and the words he inserted were by the strength of our common endeavour we achieve more than we achieve alone. The vast majority of commentators dismissed the new formulation as a mere platitude, like saying Man is a social animal.

But I have to admit that I did not like this kind of Third Way all. Lurking in the background was the belief that collective bodies were more important than the individuals who comprised them. A whole academic industry - mostly sociologists and political theorists but hardly any economists - has made a full time job of knocking what it calls individualistic liberalism. Such people, especially in America, call themselves communitarians. Typically they wax lyrical about neighbourhood associations, churches or parent-teacher associations for running schools. But they give away their most authoritarian aspects when they advocate a year or two of compulsory national service (not necessarily military) to knock some patriotism and civic virtue into the American young.

In my view the whole communitarian movement is based on a confusion between self interest and selfishness. It identifies individualism with self-interest and self-interest with selfishness. This is a howler, as can be testified by anybody who has laboured for a charity, for a good cause or a religion or any of the arts or merely to improve the lot of his or her own family and friends.

The problem is that Tony Blair had basically only two places to go for advice. One was the left-wing of the academic community, most of whom had never stopped being Old Labour and could not understand why the electorate had deserted them. The other place to which he could go were various religious groups with whom he had associated, who also tended to regard individualism as close to sinful and a distortion of a true aim of life.

Stakeholder Detour

Obviously the debate could not remain at this highly abstract level. Once New Labour was in government a more practical agenda was required. There was for a time a vogue for what was called the stakeholder view of the modern company. This held that it was not sufficient for it to be responsible to its shareholders, but it should take into account a much wider constituency - not only its workers, but the needs of the future and of the environment - and anything else you care to name. The whole movement was eagerly taken up by certain types of management consultants and other parasites who write speeches for company chairmen who wish to make a vague good impression.

But because of its very vagueness, the stakeholder idea soon began to fade. The main cliché nowadays is the so-called social responsibility of business. Most chief executives go along with is either for the sake of a quiet life or because it adds to their self-importance. There is a promised review of company law which will state more clearly the responsibilities of directors. But there is no chance of social auditors from Downing Street descending on each board of directors to make them feel more confused than they are already. The stakeholder idea is dead as a focus for government policy.

The Emergence of PPPs

In the end the landmark for the Third Way has turned out to be something quite unexpected and unphilosophical. Indeed it has its roots in the projects and problems of the last Conservative government.

A key event occurred early in the 1980s when British Telecom tried to devise or what was called a Buzby bond so that it could raise some of its own finance and break out of the governments restrictions on nationalised industry spending. It did not however succeed in convincing the Treasury that the purchasers of these bonds would bear any genuine risk. Indeed the failure of the Buzby project gave privatisation a shot in the arm. For many of the managers of the nationalised industries concluded that they would be better off outside the public sector altogether and free to raise capital without engaging in scholastic arguments with the Treasury.

Nevertheless the thinking behind Buzby bonds was resurrected. By 1992 a post-Thatcher Conservative government had convinced itself that there could be mixed finance to fund public investment, with a genuine element of risk attached to the private contribution. It is not an accident that this conversion occurred at a time of record Budget deficit and during one of the most severe of recent recessions after Britain had been forced to leave the European Exchange Rate Mechanism.

Labour ventures are a continuation. If anything the government is putting private capital into areas where Conservatives did not dare to go. But there is nothing either unusual or reprehensible in one government continuing the agenda of another.

What was novel is that public private partnerships received a new emphasis which they had not had before. Alan Milburn, the Health Secretary said in 1999: Partnerships between the public and private sector are a cornerstone of the governments modernisation programme for Britain. They are central to our drive to modernise our key public services. Such partnerships are here and they are here to stay.

The Third Way appeal is apparent. The words public and partnership enable Labour leaders to say that they continue to see a large role for government. But the private side enables them to say that they have broken with old style Labour insistence on public sector monopoly. Indeed the prospect of the private sector making some contribution to services such as health and education became a hallmark of New Labour. Until the atrocity of Sept 11 diverted him, Tony Blair almost welcomed the prospect of a confrontation with the public service unions at the last Labour conference, He saw it as a demonstration that New Labour was different and was not afraid to take on the unions.

PPPs Defined

At this stage we need to go into a little more detail on what exactly is meant by a PPP. The respectable definition is a risk sharing relationship based upon a shared aspiration between the public sector and one or more partners to deliver a publicly agreed outcome. You can learn this by heart if you have nothing better to do. But I would rather ask what ministers and commentators are talking about when they sing the praises of these ventures. They seem to me to cover two different kind of activities.

The first is known as the purchaser-provider split. This means that even if the government or a local authority pays for the service, it does not have to provide all that service itself. To qualify as a PPP in the modern sense the private contribution to - for example - a prison would have to go beyond the old story of the Irish contractor putting up a prison for the Government (screws) to operate. In a more ambitious PPP, the contractor might actually operate a prison in return for an agreed fee and subject to the general rules governing the conduct of prisons.

PPPs also refer to a second kind of activity. That is the provision of private finance for public sector investment projects, as the Buzby bond would have done. It can even mean that the public sector makes a contribution to a private sector project as in the case of the proposed new London rail link for the Channel Tunnel.

The bible on the whole subject is a book entitled Building Better Partnerships, published this year by the Institute of Public Policy Research (IPPR). I have unashamedly used this as my crib and would recommend you to do the same if you want to look into the subject further.

But I need to warn you that, like the Bible, the report has a mixed authorship. The IPPR proclaims itself to be a left leaning think tank and some parts of the Report read like a soap box speech, e.g. The people of Britain demand better public services. For this report however, the IPPR co-opted a number of knowledgeable people of all parties and none, and obtained as its chairman Martin Taylor, formerly chief executive of Barclays Bank and now chairman of W H Smith.

Limitations and Advantages

The hard economics of the report are contained in Chapters 3,4 and 5. But I would not claim that they are a laugh a minute. At the back of the whole report there are several pages devoted to defining all the acronyms and a glossary defining phrases such as public sector comparator or compulsory competitive tendering (CCT).

There are two main lessons to be extracted from the report. The first is that the injection of private capital cannot itself enable us to afford a single extra hospital, school or railway line. This is contrast to what some Conservative ministers might have believed in the 1990s and what Labour tended to believe when in Opposition.

Any government is rightly worried about borrowing too much, because the build up of debt imposes a burden on future generations in the form of the stream of interest payments required to service the debt. But PPP also sets up a future set of obligations to service the payments that are due to honour the contracts. In the case of the prison this would consist of the running costs plus profit margin that the Home Office would have to pay the private contractor to keep it going.

A homely illustration is when an individual buys a car. He may well borrow from a finance company the initial sum; but the illusion that this enables him to afford a car beyond his means will soon be dispelled when he has to pay out from his own income the monthly instalments needed to service the loan.

To apply this nationally: If we want more of the nations resources to go to health or public transport, then less of the nations resources are available for other uses - no reforms to the framework of public finance could get round this constraint. Too much attention has been focused on trying to provide spurious accounting solutions to real problems.

But the second point emerging from the IPPR report is that, even after we have shed the belief that PPPs can provide something for nothing, they can still be worthwhile. Private sector management can bring in the greater experience that the private sector has in undertaking large scale capital projects. The private sector can also provide a genuine element of risk-taking rare in the public sector. Above all - although this is rarely said - the private sector brings in people whose own money may be at stake in the success of the venture.

The IPPR view is that a value for money assessment needs to be made. And it is only if it survives this test that there is a case for a PPP. [Opponents make a great deal of the fact that private corporations have to borrow at rates 1 or 2 per cent higher than the gilt edged rate that the government borrows. This is not nearly as catastrophic as it looks.

Future interest payments themselves are subject to a discount as are all future payments in the market place. In addition, the capital element in a project may be only a quarter of the total cost, the rest being the annual operation. Putting these elements together, the net additional cost of private as opposed to public finance may amount to only 2 per cent of the total cost of a typical project.]

Thus it is possible that a partnership project could provide better value for money and not just be a trick to avoid Treasury borrowing controls. An Arthur Andersen study for the Treasury suggested that the value-for-money gains could be as much as 10-20 per cent.

I need to emphasise that such assessments are still largely crystal gazing. There is yet little hard evidence to draw upon. The indication so far suggests that there have been significant gains from PPPs in prisons and roads, but not in education and health.

There is often a subtext to these things. One of the reasons why politicians are anxious to have private prisons is that they want to escape the hold of the union of prison warders, which is both a source of restrictive practices and the biggest obstacles to humanising prison conditions.

Assessment

A difficulty in presenting this subject is to find the right line to draw between excessive cynicism and gullible acceptance. The Treasury and the National Accounting Office have issued strict instructions that creative accounting must never be allowed to influence decisions and every project must be justified in its own terms. In other words: does it yield a sufficient return - even if , as in the case of a school that cannot be quantified in cash terms - and does the private sector involvement bring a real element of risk and management skills?. The IPPR report goes further and proposes that government departments should be set an overall spending budget that encompasses both traditionally financed public spending and the capital value of PPP spending.

But for all these worthy sentiments many public sector operators, especially in the local authority and educational world, do see PPP as mainly a way of getting projects off the public sector balance sheet. They are often reported as saying that PPP is the only game in town and the one way in which they can finance a new school, a new road or leisure centre or whatever.

The present chancellor Gordon Brown, is undoubtedly interested in using the new partnerships to improve the management of the public sector. Nevertheless ministers would be less than human if they did not look at the apparent cash savings from private sector finance, however spurious and short term they are. When emerging economies in crisis turn to the IMF or other international rescue bodies, they nearly always include a large element of asset sales to make their deficit-cutting plans look more impressive. Even Gordon Brown could well be tempted to pay more attention to the accounting benefits if his own prudent borrowing rules come to be threatened by increased demand for both public spending and public services beyond the end of his present planning period (2002) as well perhaps as by disappointing economic growth.

Railtrack and London Transport

It can be fairly confidently predicted that PPPs will not continue to be the landmark of the third way. Nor are they likely to be at the centre of Labours appeal at the next election.

Apart from anything else they account for only nine to 10 per cent of public investment and do not look like accounting for very much more. As for the purchaser-provider split: ministers cannot have it both ways, although they are trying. They proclaim that private enterprise is being brought in to reinforce the health and education services, while they emphasise to their hard core supporters that the privately provided element will only be a minor element in the whole reform package.

But there is a much more obvious reason why PPPs will lose their landmark status. This is the fiasco of Railtrack and the London Underground. Officially of course Railtrack is part of a botched Conservative privatisation and the Underground project is a Labour PPP that still has to get off the ground. But to the public the similarities stand out more clearly than the differences; and the public is right.

In the case of national railways, one private sector corporation, namely Railtrack, owned the infrastructure and the train operators were an entirely different set of private concerns. In the case of London Transport the private sector is supposed to provide the investment and infrastructure while the public sector will continue to run the Tube trains. I could not believe it when I first heard about it. Surely it is the wrong way round.

In the case of the national railways there would have been a case for a public authority continuing to own the track and receiving competitive bids by operators who wanted to run trains on the various regions. It is one thing for a contract to be given, say to a Welsh railway operator which would involve a stable subsidy, renegotiated only very occasionally on clear conditions. It is quite another for to have an organisation like Railtrack whose whole financial results depend on an ever-changing and politically negotiated subsidy from the government. Inevitably both sides feel aggrieved. Railtrack shareholders feel they have been let down by the sudden decision to put the company into liquidation, while government apologists say that a genuine private enterprise would have had to go into liquidation a long time ago. The situation is not helped by ministers who seem to take a delight in any misfortune they can inflict on a private concern while staying within the tramlines of New Labour policies.

In London matters have been aggravated by a dispute between a mayor who has been squeezed out of the Labour party and the government. But Ken Livingstone still has a key role in planning London transport and he is advised by a highly experienced transport commissioner (Bob Kiley) who understandably does not believe in the whole PPP.

The last word has been said by Martin Taylor in his all too brief chairman’s foreword which is by far the most readable part of the whole IPPR report. Although full privatisation’s of genuine enterprises have frequently been successful, the creation and subsequent privatisation of pseudo enterprises carved out for activities that essentially require subsidy does not work; and transferring run down assets from the public to the private sector is unlikely to produce good results.

Where Do We Go From Here?

I would expect in the future all kinds of arrangements for private contracting and occasionally financing operations in the public sector. [e.g. Treasury contract]. These will be less hidebound than 20 years ago, but will become a matter of course and not an exciting new political venture. The public, however, will only benefit directly when there is true competition at the point of purchase. The problem with what the Conservatives called the Internal Market in the Health Service is that it was internal. Hospitals might have competed for the custom of groups of doctors but they were not meant to compete for the custom of patients. Until we break outside this circle of insider relationships the issues are going to remain esoteric and of little interest to the wider public. [Local mutuals]

As for the Third Way itself: I must distinguish between what I would like to happen and what will happen. For me the missing element in the Third Way has been the absence of any emphasis on freedom. The Conservative party has traditionally stood for authority and Labour for equality. Freedom is the missing element. And if, as he sometimes proclaims, Tony Blair would like to draw on the Gladstonian Liberalism and not just on the Labour trade union tradition, he would focus on libertarian issues.

As things are, liberty only gets in by the back door. All parties are sometimes forced by events to liberalise in various directions. For instance, the very welcome easing of the law on cannabis by David Blunkett has been accompanied by fulsome protestations that this was designed to save police time and not any radical liberalisation of the drug laws.

It would be ridiculous to guess the issues on which the next election will be fought. The Third Way might then be forgotten; and Tony Blair might concentrate on his alternative formulation that he favours what works. And foreign affairs, defence and anti-terrorism may loom much larger than in any election since World War II. Nevertheless the issues raised by the Third Way debate are important and unlikely to go away, whether they feature in the election or not.