Nationalisation

Governments can deal with market failure in several ways, including imposing taxes to reduce harmful behaviour, such as taxing demerit goods, and subsidies to encourage beneficial behaviour, such as subsidising merit goods.

An even more fundamental way in which governments can intervene is to completely take-over the control of supply through public ownership, called nationalisation.

What does nationalisation involve?

Nationalisation involves placing private firms into public ownership, with the assets of the firm (or industry) under the ownership and control of a public body.

Examples of nationalisation

Nationalisation was widespread in Europe after the end of the second world war. For example, in the UK the Bank of England was nationalised in 1946, the coal industry was nationalised in 1947, and the railways in 1948.

Much later, and following the financial crisis, several UK banks were nationalised or part-nationalised, including Northern Rock in 2008, and the Lloyds Banking Group and the Royal Bank of Scotland (RBS) in 2009.

Advantages and disadvantages of nationalisation

Advantages

  1. Nationalised industries can be better coordinated with a central plan or strategy – especially beneficial at times of national crisis.

  2. Governments can guarantee the production of strategically important goods, such as energy, water supply, transport and food.

  3. Public goods can be provided, with funding through central government.

  4. Trading surpluses can be handed back to the Treasury, or equivalent, which can be used to subsidise other public and merit goods, or income transfers to reduce inequality or poverty.

  5. The state has increased ability to regulate the macro-economy. For example, with many industries nationalised the government can directly inject spending into the economy when required, such as when unemployment is rising or the economy is going into recession.

  6. Firms may be natural monopolies, which means that competition might be wasteful – if publicly owned, prices can be capped so that the monopolist does not exploit their monopoly power.

  7. Nationalised firms or industries can benefit from internal economies of scale, such as purchasing and technical economies of scale, and external economies of scale, such as benefitting from the growth of a nationalised industry in a specific location.

Disadvantages

  1. The profit incentive is absent when the state takes control of an industry, which means that there may be a loss of efficiency, and a rise in inefficiency (including x-inefficiency). This means that management might be inefficient in comparison with similar firms in the private sector. This also means that costs are higher than they would be if subject to market forces.

  2. The nationalised industry might be under-funded as a result of the government preferring to invest in other aspects of the economy.

  3. Nationalised firms (typically) cannot raise capital through the private equity markets.

  4. Given that state controlled industries tend to be large they can suffer from diseconomies of scale, such as poor communication and de-motivated employees.

  5. Nationalised industries may run at a loss/deficit, which my force governments to divert funds from key areas of the economy to provide support.

  6. Increased public ownership may deter inward investment, which itself may prevent technology transfer (where innovations are imported, along with the inward investment).

  7. Those industries supported might experience moral hazard, which encourages their management to continue to operate inefficient or risky policies. A key criticism of state support for failing banks during the financial crisis was that it led to a general feeling that banks were 'too big to fail'.



Moral hazard

How can firms suffer from moral hazard?

Moral hazard
Government failure

Why do governments fail?

Government failure
Fiscal policy

How do government use fiscal policy?

Fiscal policy