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Public private partnership is a co-ordination between the government and private sectors, where the infrastructures based service is provided to government by private sectors. This kind of conjunction is attractive to both government and private sectors, additional financing by private sectors add to improved infrastructure and good managerial skills. This saves government from debt and borrowing from financial institutes, this also adds to revenue from users, transferring all the significant risks to private sector. This in turn results in innovative and better quality, cost effective service. Hence creating significant impact on economy; we will analyze the components of the economic impact by public and private partnership.
Salient features impacting economy:
Transfer of public functions to private sector has potential benefits for both government and citizens.
Public and private partnership has burgeoning impact on efficiency in service provision, competition between the private sectors and reduced cost delivery.
It allows superlative risk distribution to the organization that can competently manage it. The private sector usually is competent to manage the supply chain, finances, procurement, service and distribution more efficacious way than can public agencies. The public agency can avoid the expenses of design and speciation of private assets.
Government organization can benefit from attractive incentives from private sectors for low cost operation.
The outsourcing can avoid bureaucratic problems and delays, again adding to cost and time.
Private sectors can invest in sophisticated technologies for rapid international trade, which with changing time become obsolete.
The co-operation between the government agency and the private sector can reduce the fiscal pressure on government. This is effective way to mobilize the private and foreign investment, there by increased productivity and economic output. The scarce capital is accelerated in effective way and there is lot of space for developing and growth of private sector.
The issues concerning economy in public and private partnership are as follows:
Ownership and Contracting
The private ownership is suited where there are competitive market prices, for instance the private sector is motivated by the goods price in the market. The marketing strategy should involve the price and quality assured services that are acceptable to the consumers and who are willing to pay and private sectors earning profits at the same time. Various market failure can be attributed to the government failure, like influence of external components, monopoly etc. In this scenario the private sector is preferred due to the fact that, there is no political bias, the government strength and private sector services will serve the market failure. There by reducing the risk of government downfall.
The analytical justification for public private partnership is provided in the following lines, a trade facing the government to provide a particular kind of service between quality and efficiency. Government is strong enough to provide the service and achieve desired quality but it is difficult to do so due to high cost. Therefore it is necessary for the private sector to step in, for its superior managerial skills and low cost operation by sheer competition, innovation and diligence in providing services.
The public private partnership is suitable if the government has a well-designed contract for the private sector, because there can be liabilities for the government in future, for example if there is public private partnership in a construction of a monumental building or government building like military bases or rail services etc, the private sector compromises on the quality of the material or some other mistake which can be seen at the moment. This results in serious flaws in functioning of building which may come forth later, which causes liabilities and renovation cost on the government. This again fails to deliver the advantage of public private partnership, therefore the ownership and contracting is very important aspect for economic advantage for public private partnership.
Public private partnership involves various risks, these are listed below:
Construction risk, involving building cost overruns, design problem, technology, building operation cost and delay in project.
Financial risk, involving high interest rates, variations in exchange rates and other factors affecting the financing costs.
Availability risk, involving continuity and quality of service provision.
Demand risk, involves the demand for services.
Residual value risk, which includes the value of asset in future.
Some of the risks present in the public private partnership need to be transferred to private sector, in order for government to get full benefit from inflow of capital and change in management. The government should transfer the risk on financing cost and risk pricing to address the potential risk involved.
Risk Transfer and financing cost
A project in public private partnership should be independent of whether the project is financed by public agency or public sector. The cost of project depends overall on the potential risk involved, the cost of the project should not be affected by the risk transfer on private sector. Project risk depends upon how well is the risk can be distributed or widely spread; government can spread the risk on taxpayers. Private sector can also spread the risk on financial markets, by doing this they are not at significant loss and moreover private sector risk managers may be more skilled at it than government officials. Thus the project risk is lower in private sector. This is an added advantage of public private partnership in terms of economy.
Another important aspect in borrowing the capital from institutions is that the private borrowing is expensive than the government borrowing. If private sector borrows money for a project then the rate of interest may be high however, government borrowing may be cheaper and the financial investors are ready to lend the money to government due to the fact that it has tax powers. The investors trust government body because it can give returns with interest, even if it is risky project, investors are interested to invest. Now here the government is efficient in borrowing at lower interest rates than private sectors.
While comparing the cost the government should consider the public investment and the services provided by the government in public private partnership. In order to get high efficiency and performance by the private sector risk transfer is the key factor to effectively deal with it. The governments relieve itself from the risk by transferring it to the private sector, which it believes private sector is more efficient in dealing with it. The government can achieve the transfer of risk and achievement of efficiency from private sector is by paying the attractive price which private sector willing agrees to it. There are two kinds of risks project specific risk and market risk. Project specific risks are very diversified risk, for example, risks involved in construction of road or highway are material supply, labor supply, transportation of goods, weather conditions etc. Project risks may change according to situation and type of project.
The market risks are not diversified, they are underlying economic developments and therefore they are to be properly priced. The government and private sectors have different approach for market risk pricing, the government may adopt some risk free rate for future cash flow while appraising project. Unlike government agency the private sectors include risk premium in discount rate. Taking this difference into account the government may reject the public private sectors and favor public investors which may create bias. If there are lower pricing of risks then, private sector may end up employing cheap designs simply because the risk involved is not much and the private sector might not turn up due underpricing the risks. Finally if the government compensate for underpricing by extending the guarantees then it is going to cost a lot to government in long run. The private sectors use Capital Asset Pricing Model which measure the income on assets and risk free rate of return plus risk premium.
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