Time to rethink State-Owned Enterprise (SOE) performance trade-offs

The management of State-Owned Enterprise (SOEs) performance may be one of the most important factors for some economies coming out of the COVID-19 crisis.  A larger well-run public balance sheet, on which SOEs sit, can provide a broader base from which to respond to the economic downturn and provide a buffer for countries from the economic ravages associated with the great lockdown. Conversely, poorly run balance sheets going into the pandemic have acted as deadweights on economies rather than as a buffer and have intensified the economic and fiscal costs of COVID-19. 

SOEs have contributed significantly to stimulus worldwide.  Many governments have instructed their infrastructure SOEs to deliver public goods and services more widely and equitably among the population--not only to minimize the pandemic’s impact but also to address the economic downturn.  In many cases, the SOEs in electricity distribution, and water and sanitation, and digital technology have expanded services without raising prices or tariffs, and even providing them free of charge.  Similarly, state-owned commercial and development banks received fresh equity to bolster their balance sheets in the wake of write-downs from non-performing loans. Governments even created new SOEs by becoming investors in failing private companies, thereby extending the balance sheet with potential long-term obligations.

Concerns about SOEs’ performance are not new. Over the past forty years, governments and international organizations have tried various ways to improve financial, operational and fiscal performance of SOEs.  Performance agreements between the core state and the SOE boards were widely used. Yet, sometimes they fell short of expectations. What was adopted in one place did not appear to be appropriate or as successful in another place as efforts failed to produce desirable change in performance. Expectations were often not met. Privatizations (full or partial) became de rigeur in the 1990s, but the results were mixed and not necessarily popular.  Many SOEs in infrastructure and strategic sectors and the state-owned banks remained under majority or whole state-ownership. 

Internationally, a consensus emerged that introducing codes of corporate governance accompanied by clear ownership policies were to be the magic bullet for SOEs.  This was reflected by the OECD (Guidelines on Corporate Governance of State-Owned Enterprises, 2005) with “concrete advice to countries on how to manage more effectively their responsibilities as owners, thus help them to make SOEs more competitive, efficient and transparent.” Others followed suit – for instance, the World Bank (Corporate Governance of State-Owned Enterprises: A ToolKit, 2014) advocated similarly, with added emphasis on performance monitoring and fiscal discipline. 

It now appears that the devil may well be in the details when it comes to SOE performance monitoring. The high-level descriptions of performance monitoring regimes that are available internationally may not generate the desirable shift in relationships between the core state and the SOE from ‘informal and frequent’ to ‘formal and infrequent’, as inherent to the architecture of performance agreements.  

Several countries attempt to formalize relations between the ownership entity and the SOEs by employing a variety of performance agreements (alone or in parallel to overall corporate governance reforms). Such agreements range from public-sector style performance contracts or memoranda of understanding to private-sector style statements of intent, statements of corporate intent, or mere business plans). 

However, there is an observable spread in practice among actual performance agreements and breath of monitoring and evaluation. This has come to light in an eight-country review (which includes China, Brazil, India, Korea, Malaysia, New Zealand, Sweden and Turkey) we are conducting for a client country. 

Korea, New Zealand and Sweden are most comprehensive in their design and execution of performance agreements extending them to their entire SOE sectors. They have a performance evaluation system (with performance indicators for commercial and non-commercial or public policy objectives, with criterion values, targets in line with industry standards, and relative weights allowing for the calculation of a single composite score), a performance information system linking evaluation to a performance incentive system followed by external reporting of results on shareholder and societal returns widely, transparently and timely for all stakeholders. 

Other countries may have difficulty emulating this but falling short may have consequences. It is not a matter of knowledge or competence but a reflection of preferences and more—perhaps, it reflects the way the elite shares power, or, the prevalence of strong forms of relational agreements in society at large, or civil servants’ expectations for employment as board members or similar after enforced retirement. The great lockdown reminds us again of the lost opportunities, presenting an occasion to reconsider. The period of economic recovery and reconstruction may well send a hard message: compromising the integrity of the institutional architecture that underpins SOE performance improvements is very costly.