The debate about whether some industries are better off in public ownership has been resurrected in the UK election campaign, with the extreme-left Labour party of Jeremy Corbyn suggesting nationalisation of industries from rail services to post delivery.
Especially the utilities – suppliers of water, gas and electricity – are under fire, and not just from Labour. The Conservative Prime Minister, Theresa May, has suggested that the utilities are “ripping people off” and promised to crack down, implying that it is a fantastic business to run a water, gas or electricity company, and that profits are abnormal in relation to the risk run by shareholders. But is that the case? Utilities are generally to be viewed as low-risk companies, and numbers from the US suggests the average return on equity (ROE) for the sector is around 10%, somewhat below the overall market average of 14.5%, so nothing seems to be amiss. Ironically, if political risk – which the current debate in the UK highlights – intensifies, it may lead investors to require a higher ROE.
Quite apart from that, the utility companies are already among the most tightly regulated in the UK, so much so that there are two dedicated independent regulators set up to watch over them; one for gas and electricity (Ofgem) and one for water (Ofwat). Among the things regulators force companies to do is offer their most competitive rates to all customers, regardless of circumstance – a mandatory offer which has seen very little up-take, suggesting either that people do not think they overpay or that it is not that important to them if they do.
So, the argument that owners of utility companies harvest abnormal profits by exerting some magical power over customers which make them overpay is highly dubious. But that doesn’t stop proponents of nationalisation. They argue that the improved capital structure of a government owned company would allow prices to be lowered regardless: rather than finance with a combination of equity and corporate debt, the companies could be funded by issuance of government bonds, which have very low cost. Without expensive debt to service or equity holders to pay, there is money around to lower prices paid by consumers. But the flip-side, of course, is that taxpayers are now the owners of a company which makes no money – which, even if it has an attractive capital structure of 100% cheap debt, is hardly a long-term attractive investment. And there is no argument that this is the optimal way to structure a company’s finances anyway or that it secures efficient allocation of capital more generally. Of course, at some point the government will also have to pay the debt back. The argument, in short, is nonsense.
It is often said that the UK’s utilities were sold too cheaply when they were privatised back in the 1980ies (“stolen from the public”) and that this somehow justifies stealing them back again (by mandatory purchases at an attractive level (for the government)). Ignoring the obvious injustice in the whole argument, it fails to recognise that the shares of a publicly listed company are highly unlikely to be held to any great extent by those who originally bought the company 30 years ago. So, you’d be punishing the wrong people. Indeed, who are the shareholders, those evil capitalists who own the companies and make off with supposedly undeserved profits? Well, they are a mixed group, but one of the largest constituents are pension funds; in other words, a huge part of the population are not just customers at the utilities – they are owners as well.
The vendetta against the utility companies is wholly unjustified, and of course it is politically motivated. The left has a natural distrust of the profit-motive, particularly when it comes to production of services which is needed by the general public such as healthcare or utilities. And it plays well in an election campaign to promise to crack down on the cost of such services, even without a shadow of evidence that the prices charged are too high. Abnormal profits, where they exist, are generally a consequence of government intervention in the form of regulation and licencing, which allows incumbents to keep competition at bay. But the solution is never, ever to allow the government to dictate price or profit targets to private companies, or, even worse, bring them in to public ownership.