The Business of the State 3 - Crowding Private Firms In-or Out?

Jul 19, 2026

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The document examines how state-owned enterprises (SOEs) are treated differently from private firms and how this can reshape market outcomes. It explains that explicit advantages for the state-owned sector can reduce incentives for productive efficiency and distort allocative efficiency through effects on prices, quantities, and competitive access. The text also links SOE involvement with policy mandates to implicit subsidies and monopoly creation, and describes secondary impacts on performance incentives.

LanguageEnglish

CategoryResearch & Report

FormatPDF

Pages22

Reading Time55 min

Introduction

Policy advantages for businesses of the state

Economic effects on efficiency and competition

Policy mandates, subsidies, and monopolies

Political capture and patronage risks

Ownership rights and safeguards across countries

Who exercises ownership rights in SOEs? (Figure 3.1)

Who appoints SOE chief executive officers? (Figure 3.2)

Public Disc losure Authorized 3. Crowding Private Firms In—or Out? Pub lic Disc losure Authorized Introduction Policies and regulations that typically apply to most firms and markets—and that determine market outcomes—often do not apply in the same way to businesses of the state (BOSs) . BOSs benefit when principles, policies, or regulations give them explicit advantages that unlevel the playing field over private firms. They also have advantages implicitly when policies and regulations that apply to all firms favor them in those markets. The differences in the treatment and market conditions of BOSs and private firms can lead to two adverse economic outcomes. They can reduce the market-based incentives to improve technical efficiency (productive efficiency effects). They can also distort market outcomes—including prices, quantities, and the ability of rivals to compete—and resource allocations between firms and activities (allocative efficiency effects) . State-owned enterprises (SOEs), in particular, are often responsible for implementing a policy mandate.1 In some cases, this approach maybe a strategy of the state. In others, it may be due to a blurring of responsibilities between the SOE and its supervising entity. The way that SOEs operate in markets—from hiring to production decisions and pricing of products and services—can therefore reflect the implementation of these policy mandates. In many cases, this relationship will involve implicit subsidies to the SOE. For example, if an SOE is used to provide the population with essential goods at below-market prices, it may earn a below-commercial rate of return and will need support to fund its activities. Or it may involve the creation of a monopoly to control prices, quantities, or other market parameters directly. As a secondary effect, the policy mandates of the SOE could affect the incentives it faces for achieving technical efficiency as it moves away from a profit-maximizing objective. This situation can also have implications for performance and therefore create the need for further advantages. SOEs have greater potential for political capture and a greater likelihood of being used for political patronage. The close relationship between SOEs, governments, and their supervising entities allows the state to use them to achieve political objectives. The resources of SOEs can be used to fund political parties, support electoral campaigns, or gain the support of politically influential individuals. Politicians can win votes by employing workers in an SOE. Politicians can personally profit from arranging patronage jobs in an SOE for their political backers, relatives, and friends. Politicians or local officials can also benefit from influencing the selection of suppliers and contractors or marketing goods in short supply. As with the policy mandate, political capture has the secondary effect of dampening SOE incentives for commercial performance. The exposure of SOEs to state influence tends to be greatest when ownership rights are exercised by a line ministry and lowest when ownership rights are exercised by a specialized agency that operates at arm’s length from the government (Vitale, Moiso, and Wanner 2020) . But it is rare to find arm’s length specialized agencies responsible for SOE ownership (figure 3.1). In 67 countries with this information, only 4 have this ownership setup. Instead, in more than half of high-and middle-income countries, line ministries most commonly exercise SOE ownership rights. But high-income countries are more likely to have safeguards to ensure that the chief executive officers of SOEs are appointed by board members rather than by public authorities, which reduces the propensity for SOE decision-making to be influenced by government (figure 3.2). Where these safeguards are not in place, the SOE will be more likely to operate with noncommercial objectives (either implicitly or explicitly) and be more prone to political captu

FAQs

How do policies and regulations typically create advantages for businesses of the state (BOSs)?

BOSs benefit when policies explicitly give them unlevel advantages over private firms, and they can also benefit when general rules favor them in particular markets.

What economic outcomes can result from different treatment of BOSs and private firms?

These differences can weaken incentives to improve technical (productive) efficiency and can distort market outcomes such as prices, quantities, rival competition, and resource allocation.

How can political capture occur through state-owned enterprises?

Political objectives can be pursued via close relationships among SOEs, governments, and supervising entities, including funding political activity, creating patronage jobs, and influencing supplier and contractor selection.

Jul 19, 2026

Upload by Logic