Thursday, 16 February 2012

TASC issues new report on State Assets

Click here to download TASC's new report, The Strategic Role of State Assets - Reframing the Privatisation Debate. Comments?


Paul Hunt said...

The ability to attempt to suspend disbelief in Ireland is simply awe-inspiring. Never let facts facts get in the way of a good story. I know there's a lot of noise about reform of regulation in this report, but I don't think it addresses the kind of reform of regulation that is actually required - or, for that matter, the kind of semi-state restructuring that is required.

When the CER was granted responsibility for regulating the electricity industry - and, mainly, given its dominance, the ESB - it revalued its network assets, which comprised the lion's share of its asset base. The calcs are here:

After 9 years of obfuscation and concealment, the CER was eventually forced by FG to publish its magic calculations.

The ESB presented its accounts - and continues to present its accounts - on a historic cost (HC) basis (in line with the relevant international accounting standards). But the CER decided to use a version of Indexed Historic Cost (IHC) to revalue the assets for regulatory purposes. So the distribution assets which had been written down on a HC basis to an opening net asset value in 2001 of €1,392 million suddenly increased to a value (on an IHC basis) of €1,965 million. The corresponding values for transmission were €302 million and €516 million. So the net asset values for regulatory purposes were increased by over 46%. And ever since consumers have been paying for the depreciation of, and the full return on, this additional asset valuation that was majicked out of thin air. (I know the CER doesn't calculate the HC net asset value - well it couldn't really as that would give the game away, but it isn't rocket science to calculate it. And anyone who feels the need to shout the odds in public about the privatisaation of state assets should be able to do it.)

The CER was forced to do this because successive governments, in the face of massive demand for network investment, refused to inject any direct financing of investment. Indeed, they extracted dividends that should have been re-invested - and which consumers financed through excessively high prices.

This in reality is an implicit ESB financing tax. (The CER applied the same trick to the BGE networks when it assumed regulatory responsibility in 2003.) And this is a regressive tax because those on low or fixed incomes tend to spend more of their disposable incomes on fuel than those on higher incomes. And it gets worse because governments have been required to make highe transfer paymants to compensate eligible consumers for the effect of this implicit ESB (and BGE) financing tax.

It would be wonderful if those on the so-called 'progressive left' and those in the trades unions were prepared, for once, to come down off their high moral horse and deal with some facts and reality, rather than seeking to live in some utopia that never will be - nor can be.

Successive governments didn't behave as a responsible shareholder then it has the resources to finance the businesses. Now it doesn't. But the demand remains. And the requirement to reduce the national debt is also pressing. The solution is obvious, but there are none so blind as those who will not see.

Anonymous said...

@ Paul Hunt.
How will privatisation remedy the problems you identify?

Paul Hunt said...


And how would you resolve them without enlisting the private sector?

Aoife said...

Dear Paul,
Thank you for your comment. Like anonymous above I would query the assumption that privatization is the answer to the issue you have raised and that private owners behave more 'responsibly'.

Paul Hunt said...


Just to be clear, it is not an 'assumption'. It emerges as a rational and logical solution to clear up the consumer and economy-damaging mess that successive governments, the CER, the ESB and BGE have made and takes account of the severe fiscal constraints under which the current government is operating.

I invite all those who appear to start from a position that the private sector either should not be enlisted in any circumstances or, if enlisted, should be enlisted only to the minimum extent possible (or have private sector resources comandeered in some manner) to present their remedies to these problems.

Paul Hunt said...

And while we're on this topic, the CER yesterday published its proposed decision on BGE's interconnectors from Scotland:

Couldn't probably be more relevant in terms of the strategic role of state assets. And you have to hand it to them. This is another piece of pure magic. The interconnectors are no longer interconnectors. The CER has waved its wand and they've just disappeared.

This is similar to the way the CER magicked an increase of almost €500 million in BGE's 2006 Network RAB from a Historic Cost Net Book Value of a little over €2 billion to an Indexed Historic Cost Net Book Value of €2.5 billion. The data are in cer10079 a & b. (The data on the similar magic trick they performed on the ESB networks are in cer09094 and the historic cost net book values may be confirmed in the ESB' Regulatory Accounts published on its web-site.)

The network assets magically increased in value by almost 25% and final consumers have being paying over the top ever since to keep BGE in the style to which it has become accustomed.

We need to address the 'magic' that's being used to tax consumers to project these optical illusions about the ESB and BGE before thing great thoughts about the strategic role of state assets.

Paul Hunt said...

Just to clarify the last comment. The interconnectors haven't really 'disappeared'. They have been made part of the ordinary network where everyone will pay for them whether they're used or not. And they are likely to be used less and less and will provide even less benefit it terms of security of supply.

It is a total abuse of what the EU is trying to do with Entry-Exit pricing and its Gas Target Model, but, sure, aren't all these directives and regulations there to be bent so that Irish sem-states can continue taxing consumers to keep themselves fat and happy?

Anonymous said...

@ Paul,
The regulatory failures you highlight are serious. But are you suggesting that privatisaion will contribute to addressing these failures?

Paul Hunt said...


It may be convenient for you to treat these as 'regulatory failures', but do you really believe that the CER, completely independently of government, sanctioned the hosing of all consumers and businesses to fatten up the ESB and BGE, to allow them to build their empires and to keep the 'gravy' (h/t to Brendan Ogle) flowing to management and staff just because it thought it was a good idea?

The CER merely implements settled government policy in a manner that conveniently allows government to wash its hands of any direct involvment.

If you don't, or can't allow yourself to, see this, then, I fear, there is little point in further engagement.

The ability of those on the left to suspend disbelief and to assume that if the state is calling the shots and the role of the private sector is minimised then everything is for the best of all possible worlds is simply amazing.

Why not have a good look at what's at the end of your nose and then we might be able to craft some sensible solutions?

But that's probably too hard for the 'free-thinkers' here, who bemoan the fact that "religion, rather than evidence-based analysis, seems to rule". You should try a bit of "evidence-based analysis" once in a while.

Anonymous said...

@Paul Hunt,

Can you provide evidence that demonstrates how privatisation is the remedy for the problems you identify?

Paul Hunt said...

Can you provide evidence that demonstrates that the problems may be remedied without recourse to privatisation?

Do you accept the nature, extent and casue of the problems? For you they seem to be problems I have identified, but you have yet to acknowledge they exist. If you reveal your understanding of the nature, extent and cause of these problems and outline how they may be remedied satisfactorily without recourse to privatisation, I'll show you why I believe privatisation is unavoidable.

If we don't share an understandong of the problems, it is futile to discuss possible solutions.

Over to you, who ever you are. Oh the joys of blogs.

Anonymous said...

@Paul Hunt

Your inability to provide evidence of where privatisation has worked to remedy the problems you describe renders your analysis incomplete. Its up you to resolve that problem as you are the one arguing in favour of privatisation.

Paul Hunt said...

This is getting ridiculous. These are economic policy problems and issues of considerable public importance and interest. Indeed they should be very dear to the hearts of the progressive-left. We have more economists and policy analysts on this board which allegedly is devoted to public policy debate than you could shake a stick at.

Yet I am assailed, without any willingness to engage constructively, by the anonymous and the pseudonymous.

The problem, Dear Anonymous, is that these problems are unique to Ireland. In all other advanced economies, where some mix of privatisation or energy market liberalisation has been pursued over the last 20 years, the agenda has been driven by a political objective (reduce state ownership and control), or a consumer surplus-maximising objective (reduce rents captured by supplyc hain participants), or an efficiency objective - or some mix of all three. The problems that have arisn have resulted from conflicts between these agendas or implementation failures. The policy and regulatory dysfunction that Ireland exhibits is exhibited nowhere else. believe, I'm reasonably confident of this as I've worked in, or am familar with, the nergy sectors in most of these countries. Ireland's problems are genuinely unique.

And so they must be addressed on their own terms. There are fixes and fiddles everywhere, but to my knowledge, no national regulator anywhere, other than Ireland, has been given, and used, the authority to revalue network assets in a manner to ensure that consumers are compelled to contribute up-front to the financing of some investment and then to pay for the recovery of, and return on, all investment (so that the majority owner is not required to make any direct contribution - either via forgoing dividends or injecting new equity).

Quite simply, voters in other countries would not accept the imposition of this regressive financing tax. Successive governments, the CER, the ESB and BGE got away with it in Ireland for the last decade because was money was flowing freely in the bubble era and nobody seemed to be too bothered about the rip-offs that were taking place. In addition, the ESB, as the longest established semi-state, has secured considerable popular affection and respect and people are reluctant to accept that it would be a party to, and the major beneficiary of, this rip-off.

In general, the state didn't forgo dividends (although there was some very limited Section 19 relief in the case of BGE) or invest directly when it has the fiscal resources. The regulatory asset value of electricity and gas networks must be reduced to remove the overvaluation that was applied when they were regulated for the first time by the CER. Consumers and businesses can no longer bear this implicit regressive financing tax. It was wrong during the bubble era - as I consistently argued, but there is absolutely no justification for it now when dispoable incomes are being squeezed across the board - and particulary for those on lower incomes who spend proportionately more than those on higher incomes on essential fuels such as electricity and gas.

But reducing the regulatory value of the network assets (since these comprise the bulk of the ESB's and BGE's assets) will reduce the cash flows of these businesses. BGE, with its empire-building in Northern Ireland and in electricity in Ireland is probably pushing its gearing limit - and thereby its ability to secure additional debt-financing. Although the ESB was able to milk the excessive network cashflows for a long time and able to keep its gearing low, it has recently been forced up its gearing - primarily to finance its takeover of the Northern Ireland network - and it too is probably pushing at its gearing limit.

Both semi-states are planning major investment programmes. So, it's a simple question: where is the investment finance going to come from?

Anonymous said...

@Paul Hunt,

Your insights and contributions are useful but you fail to nail down the final step which is a clear explanation of how privatisation serves as the remedy. The problems with regulation will not necessarily go away if ownership changes.

Paul Hunt said...

I suppose I should feel honoured - damned as I am anonymously with faint praise.

Energy network regulation in Ireland has one unique problem and shares two other problems with Britain and most other EU member-states (since the British regulatory model, in some shape or form, has been replicated in all of them). The implicit regressive financing tax imposed by the CER is unique. There are similar fixes and fiddles in many other countries but they do not impose anything thing like so large a burden and so regressively on consumers and citizens - and they are, unlike Ireland, transparent and explicit, e.g., direct subsidies funded from general taxation or higher rates of return awarded to new investment.

Irrespective of ownership this implicit, regressive financing tax has to be eliminated by removing the overvaluation of network assets applied by the CER when regulation was introduced. Furthermore, while the businesses remain in public ownership, the networks must be completely and financially separated from the other business units. Because there is one corporate treasury pot the excessive cash flows from the networks frequently cross-subsidise other activities. This may be seen as a benefit, but it has two hidden costs. First, it means that risky activities are receiving low cost capital that wouldn't be financed by risk-related financing, so the economic values and benefits are suspect. Secondly, the semi-state are financially integrated businesses with a mix of less risky and more risky activities and are viewed as such by the credit ratings agencies. As a result the gearing limit is lower and the cost of capital higher than it would be if the businesses were restructured in to their component parts.

So the second step is to restructure the businesses into their component parts - mainly networks and supply. More of the existing debt would be allocated to the more risky supply businesses and less to the less risky network businesses. This would provide an opportunity to extract some equity from the network businesses and to increase debt financing up to the gearing appropriate for such low risk businesses.

I estimate that something between €2 and 3 billion of equity could be extracted by the state from the network businesses and replaced by debt. It would also make sense for the ESB and BGE to sell assets outside of Ireland to generate more cash flow.

All this could be achieved with the current ownership.

Are you with me so far?

Now the question is what should the state do with this bundle of euqity it has extracted. Removing the implicit financing tax will have reduced the network businesses' cash flow. The state could decide, for the first time, to behave as a responsible majority shareholder and invest equity directly (or forgo dividends) to part-finance investment. (Of course this would dilute the ESOTs unless they invested proportionately; and this could cause some grief.) The Troika may want to see some of the national debt being paid down and the Government wants to build up its 'airy fairy' strategic investment fund to reward its various clientelist networks. What to do?

It would be perfectly appropriate for the Government to maintain the current ownership and to re-invest some of the equity it has extracted to part-finance network investment as required over time, but this would have a very high opportunity cost given all the other pressing demands on these funds.

It is at this point, and only at this point, when these actions have been taken on the implicit financing tax, business (and financing) restructuring, external asset disposal, etc. that I would contemplate privatising the networks.

Paul Hunt said...

Phew! It seems that has finally staunched the flow of prejudiced questioning. Perhaps we could have a productive exchange now. Or is that asking too much of all the exponents of evidence-based analysis here?

Anonymous said...

@ Paul Hunt

Thanks for the clarification. There are clearly a number of hoops to go through before getting to the point where privatisation comes up for decision. Any objective analysis of the energy utilities should conclude that separation is in the best interests of the consumer. I share your views in that respect. But selling networks is a whole different ball game and isn't justified on economic grounds. The risks are too high and we can't have another Eircom.

Paul Hunt said...

Sometime later today we'll have the announcement of the Government's decision on which semi-states (or parts thereof) will be put up for sale, so I reckon we'll have further discussion (and the usual rants from various quarters).

Various people seem to be living in three parallel universes when it comes to the infrastructure and utility businesses. At one level, we have this 'progressive-left' utopian vision of how publicly owned or semi-state entities should function in this area - Nat O'Connor's report is a perfect example. And this vision proscribes any contemplation of privatisation any time, any where, any place. And, in the Irish context, all one has to do is mention Eircom and that is supposed to close off any further consideration of privatisation. (This is a strange position for so'called 'progressives' because humankind has progressed this far mainly through trial and error and adapting. It suggests that learning from mistakes isn't possible.) This vision has a tenuous relationship with the grey, fuzzy, blurry reality where many of us fumble and grope to make our way.

The Government is operating in its own parallel universe. It absolutely refuse to acknowledge that the stucture, financing and operation of most semi-states are imposing excessive and unnecessary burdens on consumers and the economy and that, before any consideration is given to privatisation, these problems must be addressed. It risks layering more dysfunction on top of a policy and regulatory redime that is totally dysfinctional already. And most citizens, in business and as consumers, will lose out even more. What a mess.

And then there are a few of us who try to dig beneath these utiopian visions and optical illusion to see what is really going on. And that is frightening. But those who could do something to resolve the problems just don't want to know. The current arrangements provide too many who are well positioned with secure opportunities for rent-seeking. And so it goes on.

Paul Hunt said...

Minister Howlin's wonderful news: