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Why do some state and local agencies decide to privatize services while others do not, and how do they decide which services to privatize? This chapter reviews the literature on the factors that contribute to decisions to privatize functions traditionally performed by governments and the factors that help determine which functions are selected for privatization. The first section explores rationales for privatization broadly, and the second section examines models for thinking about what functions to privatize and how to do it.
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Several basic arguments are often cited to support a shift from government to private provision of public services including: (1) reducing the cost of government services; (2) improving the quality of government services; (3) the need for skilled staff not available in the public sector; and (4) increasing the flexibility of the public sector. (GAO 1997c; Savas 1987; Donahue 1989; Reason Foundation; Nightingale and Pindus 1987; Blank 1999). In addition, privatization also occurs for political reasons.
A basic tenet of economic theory is that competitive markets will result in cheaper and higher quality goods and services as consumers shop around for the best deal and suppliers work to provide the best products at the lowest cost. This theory suggests that contracting out saves money as the positive pressures of competition force organizations to find ways to work more efficiently. This is thought to hold true for competition broadly, not only for competition by for-profit corporations. In fact, for some observers, what matters most is the extent of competition rather than simply whether the public or private sector is the provider (Kettl 1993; Donahue 1989; Osborne and Gaebler 1992; Nightingale and Pindus 1997).
The empirical evidence about cost savings through contracting out social services tends to be mixed, although overall it suggests the potential for somewhat lower costs.
Some observe that cost estimates, however, often do not include the transaction costs entailed in the contracting process (Sclar 2000). Agency officials might not always include the expense of effective contract design and monitoring in survey estimates. In addition, the cost comparisons between the private and public sector should control for variables, such as the proportion of clients who are "difficult to serve" or other relevant differences (Walters 2000; Yates 1997c).
Dissatisfaction with the quality of public services and the perception that privatization will result in higher quality services have provided another impetus for privatization (Eggers and Ng 1993; GAO 1997c). The belief that the marketplace and competition will discipline organizations that provide low-quality goods or services by driving them out of business is prevalent and contributes to support for privatization and contracting out.
The perception that government agencies have failed consistently to provide high-quality services, particularly in areas such as education, child protection, child support enforcement, and welfare, has motivated some jurisdictions to pursue privatization of social services. Kansas privatized its entire child welfare system, in part in response to a widespread sense that under the publicly managed system, children were remaining in foster care too long after removal from their families (Gurwitt 2000). In 2001, the state of Pennsylvania announced it would take over and privatize the Philadelphia school system, where 57 percent of students failed required state math and reading tests and the drop-out rate was about 50 percent (Fletcher 2001).
Government systems and government workers are often seen as too slow, too inflexible, too focused on process, and too indifferent to results (Gurwitt 2000; Walters 2000). The common belief that the AFDC system was hampered by an inflexible focus on the benefit process, rather than encouraging recipients to leave welfare for jobs, was part of the impetus for privatization and other changes in the welfare systems that states such as Wisconsin, Texas, Ohio, and Colorado undertook during the 1990s (Walters 1997).
The private sector is often seen as simply better at providing services than the public sector. Private nonprofit organizations are often believed to be motivated by a strong sense of mission, which may lead them to offer higher quality services, especially social services for vulnerable people (Sanger 2001; Blank 1999). For-profit companies are generally held to be well-managed, the assumption being that if they are not, they will be driven out of business. They are often able to offer higher salaries and better benefits and working conditions than government; this contributes to the belief that they attract more productive employees. Private for-profit firms, especially large ones, might also have easier access to capital, which can allow them to move into new service areas, expand capacity quickly, or enhance the quality of services (Sanger 2001; Nightingale and Pindus 1997).
Research on the quality of privatized social services is very limited, but, like that on cost savings, it appears to be mixed. A number of experts argue that the different sectors will have different relative strengths, depending on the primary goals of the services (Nightingale and Pindus 1997; Osborne and Gaebler 1992). The empirical evidence, limited though it is, suggests that the quality of privatized services might generally be the same or somewhat higher than when these services are provided by the public sector. However, experts note that these analyses may be somewhat biased in favor of the private sector because privatization often occurs only when public services are particularly ineffective, providing a point of comparison that might not be typical of public-sector provision (Nightingale and Pindus 1997; GAO 1996). The results of several research efforts reflect this complicated picture of service quality:
Some observers take issue with the common assertion that private-sector services are likely to be of higher quality, arguing that the management of private organizations and the quality of their services are not always good. The nonprofit sector has come under some criticism for poor management practices (Cohen and Eimicke 2000). At times for-profit companies have been cited for mismanagement or for providing lower quality services in order to reduce costs and increase profits (Service Employees International Union 1997; Rodrique 1997; Hartung and Washburn 1998). Some suggest that quality may suffer with privatization because the public sector loses some of its accountability (Milward and Provan 1993). Others suggest that it is too soon to know if any single sector will consistently provide the highest quality social services, and they stress the importance of careful program implementation, regardless of whether public or private agencies are the providers (Nightingale and Pindus 1997; GAO 1997a).
Another related reason that government agencies have been drawn to contracting with the private sector, especially with for-profit companies, has been their need for personnel with specialized skills. This has been particularly acute in the area of information technology. With the recent radical changes in welfare policy, including the institution of work requirements, federal and state time limits on aid, and other provisions that require tracking client data in new ways, state and local welfare agencies have been attempting to create new management information systems and to modify old ones. PRWORA also required states to track new child support data and to ensure that their child support collection data systems interface with other federal and state systems. Many states had to make major enhancements to their systems to meet these requirements.
Workers with the necessary skills are often in short supply in public agencies but can be "bought" from the private sector. Contracting out can also make available a range of other areas of expertise that might be hard to find in government (GAO 1997b; Eggers and Ng 1993; Nightingale and Pindus 1997).
Another common motivation for contracting out public services is the potential for greater flexibility in private-sector organizations, both nonprofit and for-profit. Civil service regulations and collective bargaining agreements that often apply to government organizations, as well as other rules, are seen as inhibiting the ability of these organizations to provide services efficiently or to address necessary system changes with flexibility (Osborne and Gaebler 1992; Nightingale and Pindus 1997; Cohen 1999). Many opponents of privatization view this flexibility negatively, arguing that it circumvents necessary protections for citizens, public employees, and service recipients.
Government agencies can have difficulty hiring new employees, changing managers or staff, or cutting the workforce when the need for particular services changes suddenly. It also may be harder to reassign employees to new functions or to discipline or fire ineffective workers. The 1996 GAO report on child support enforcement found that state and contractor officials believed that contracting agencies benefited from more freedom in managing staff and gaining resources and from having better access to technology (GAO 1996). According to this perspective, government agencies, in effect, can "farm out" their work to private organizations through contracts and reap the advantages of the greater flexibility.
Finally, an ideological preference for employing market-based approaches to address public problems has been on the increase across political party lines, along with skepticism about the value and role of government and a demand for more and better public services (Cohen and Eimicke 2000; Ryan 1999). Privatization allows policymakers to maintain their distance from the political liabilities associated with government programs, while satisfying their constituents' demands for a variety of public services. As has been discussed in the political science literature, Americans support specific public programs or causes they favor while at the same time endorsing the concept of minimal government (Almond and Verba 1989). With the popular and political focus on "shrinking government" in recent years, the public is often unaware that much of government's work is nonetheless being done by private-sector workers.(1) Also, because it is generally easier to end a contract than to lay off public employees, resources might be made available for a contract budget that would not be for a permanent increase in agency staff.
The privatization of specific programs, at least on the state and local level, has benefited from the advocacy of key political leaders (GAO 1997c). Support can come from the office of the governor or mayor, from a top agency official, and/or from members of the legislature, or from other influential political actors. This promotion has been central to the ability of privatization proponents to gather broad political and operational support, to meet the demands of implementation, and to work to reduce or overcome opposition.
The political support for privatization may also lead policymakers to provide more resources for functions such as child welfare, if these services are seen as being provided by competent private-sector organizations rather than public organizations that have come under criticism (Gurwitt 2000). Private organizations or companies might also have lobbying capacity that traditional providers lack, helping to increase support and resources
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A range of models exists for thinking more rigorously about what specific services should be privatized and under what circumstances. Here we discuss three views: (1) the economist perspective, (2) the public administration and management perspective, and (3) the political science/legal perspective. Each highlights valuable but distinctly different issues that might arise with contracting out. And elements from each have made their way into the policy and scholarly debate about privatization.
Economists approach the question of whether to privatize services by starting from the premise that well-functioning, competitive markets without "market failures" will provide services at least as efficiently as the government. Hence, their approach is to identify those circumstances under which the markets do not do well, suggesting that in these cases privatization is not appropriate (Blank 1999). Four market failures may exist in the provision of social services, limiting their suitability for privatization or at least suggesting that certain safeguards might be necessary.(2)
A second type of literature has approached the question of whether services should be contracted out from the perspective of public administration and management, sometimes taking a "how-to" approach (Cohen 1999; Cohen and Eimicke 2000, 2001; Yates 1997b; O'Looney 1998). This literature tends to address pragmatic considerations such as the extent of political support for privatization, the potential cost savings, the administrative structures necessary for effective contract implementation and oversight, management goals such as service integration, and strategies for making the transition from a public to a private workforce. In particular, this literature emphasizes the need to make the bidding and selection process competitive and open, to design effective contracts, and to provide adequate monitoring and oversight (GAO 1997c; Yates 1997b, 1997c; Cohen 1999; Cohen and Eimicke 2000, 2001; O'Looney 1998).
One approach argues for "functional matching," in which decisions about what to privatize and how to do it are determined pragmatically and based on an analysis of the specific details of the services and the larger environment in which they are provided (Cohen 1999). It emphasizes a number of issues, including:
This approach suggests that a careful analysis, incorporating questions such as these, can help jurisdictions decide appropriately whether to embark on privatization for specific functions, and if they do, to do so more effectively.
A body of literature explores the broad political and legal ramifications of privatizing certain services (Diller 2000; Moe 1987; Milward and Provan 1993). It generally argues that contracting and greater use of competition and market forces risk altering the systems that provide certain public services in ways that decrease fairness and due process and limit public accountability. The shift from public structures that emphasize adherence to rules and procedures (means-based systems) to structures based more exclusively on specific performance results (ends-based systems) contributes to greater provider discretion, which might be misused, and to less emphasis on protecting client or employee rights.
A number of these scholars argue that contracting out moves public accountability for service provision back a step. The provider no longer must answer directly to an elected government official, and government officials exercise less direct control over services that are paid for with public funds. They contend that privatization further decreases citizen involvement in the governance of public services because contractors typically need not be as responsive to citizen demands as public agencies must be (Milward and Provan 1993).
Finally, some of this literature also argues that contracting out might inappropriately place "inherently governmental" functions with private organizations. These functions can include those that involve coercion--usually considered a prerogative only of the state--such as incarceration or decisions to sanction welfare families and remove them from the welfare rolls.
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1. Despite this ideological preference for smaller government, the number of state and local employees has increased more than the number of workers in the federal government has declined, leading to an overall increase in government employees at all levels of about 7 million over 30 years (Cohen and Eimicke 2000).
2. Equity of distribution--providing equal access to everyone--is also an issue when considering whether to privatize some social services, such as health care or child care. This is less relevant for the provision of welfare services, where the aim is to provide additional services to a particular group.
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