A fresh approach and new tools for state-owned enterprise reform

Reforms to State-Owned Enterprises (SOEs) are ‘usual suspects’ in strategies to boost growth and productivity, to mobilize private investment, and to address fiscal imbalances. Multiple instruments can be deployed to improve market performance and outcomes in sectors with SOE presence, and privatization is only one of them. Other policy options to reform SOEs include restructuring, improving corporate governance, opening markets to competition, adopting enabling regulations, or partnering with the private sector through PPPs and joint ventures.

Despite the potential benefits, a history of mixed outcomes from SOE reforms and privatizations has led to a cautious attitude among public officials to proceed with vigorous implementation. To support governments in navigating the complexities of SOE reform, the World Bank has introduced two innovative tools:

1. A new taxonomy to distinguish the type of sectors and rationale for state ownership.

Did you know that in over 30 countries the state holds stakes in travel agencies? There are even nine countries in which potato processors are state-owned. Countries differ in their views on which economic activities merit state ownership. Some worry about market failures such as monopoly power and prioritize provision of goods and services by the state. But state ownership is not the only solution to address market failures. Other countries prioritize provision by the private sector and revert to alternative policy instruments such as market rules and enforcement of complementary price, quality, or antitrust regulation to ensure provision and discipline markets.

One critical starting point for reform is to understand where market failures arise more often, and state ownership can be a response. In other words, policy makers can look at the type of economic activities where competition among several private providers typically yields good market outcomes and differentiating them from those where there is an economic rationale for state ownership.

The World Bank has done just that: It has classified the type of markets in which the state operates. This innovative sector taxonomy (Dall’Olio et al, 2022) classifies more than 560 economic activities into 3 types of sectors: competitive, partially contestable, and natural monopolies.

Through the economic lens of market failures and intrinsic sector, this taxonomy enables governments to now sectors with stronger economic rationale for state ownership (e.g., electricity transmission) from sectors in which economic rationale is less clear (e.g., food manufacturing). It’s the latter type of activities that the private sector is particularly well-suited to carry out on its own. In a third set of sectors, other sectors are necessary to achieve efficient market outcomes such as sectoral regulation on prices or access to essential facilities.