Why Private Contractors Are Lousy at Public Services

Executives representing government contracting firms are sworn in during a hearing on implementation of the Affordable Care Act before the House Energy and Commerce Committee, on Oct. 24 Photograph by Alex Wong/Getty Images

The latest U.S. employment data, released last week, showed that the federal government employs 2.7 million people. That’s the smallest number since 1966. One reason for that decline is the rise in outsourcing—a trend also in the news because of the rolling train wreck that is healthcare.gov, built by contractors overseen by the Department of Health and Human Services. A look at outsourcing’s track record around the world backs what the website’s snafus suggest: Turning over the delivery of government services to private contractors can cause as many problems as when governments provide those services themselves.

Excluding military personnel, the percentage of all employed people who are U.S. government employees has fallen from 4.3 percent in 1966 to 2 percent today (add in the military, and that would drop from more than 8 percent to about 3 percent). That’s not because the government is a smaller part of the economy—federal outlays were 18 percent of gross domestic product in 1966 and 23 percent last year. A big reason why the government spends more but employs fewer bureaucrats is the growth of contracting. According to a 2008 estimate by public administration expert Nicholas Henry, more than 5 million private sector workers were employed under government contracts, accounting for about half a trillion dollars of expenditure. For every federal employee, there are two people working on government contracts.

Outsourcing service provision through privatization, concessions, or contracting can be a good way to get better value for taxpayer money. Private, competitive provision can be considerably more effective than monopoly public provision. If you doubt that, look at telephone service. In many developing countries, there’s private competition in mobile phone service, but landline provision is still in the hands of a government-owned monopoly. From 2005 to 2011, the number of fixed-phone subscribers dropped from 12.5 percent of the developing world’s population to 11 percent. The number of mobile subscriptions more than tripled, climbing from 22 percent of the developing world to 77 percent.

Or take education: A recent analysis (PDF) of a program that provided vouchers to pay for private schooling in the Indian state of Andhra Pradesh found that the voucher schools provided education at one-third the cost of public schools while achieving better test results.

It’s worth noting that while the voucher students scored a bit better than their contemporaries in public schools, they were far below what would be considered acceptable in U.S. or European schools. Only a little more than half of all children in fifth grade in Andhra Pradesh can read a second-grade text. When it comes to education, good contracting and regulation in the private sector is as difficult as good public sector management.

That’s why the results of outsourcing or privatization are often disappointing. Look at utilities such as electricity and water. In theory, competitive contracting should introduce private sector efficiencies to bloated, public-owned enterprises. Cross-country experience suggests that, on average, performance under private management is a little better than under public management; private provision is associated with bigger networks that lose less power and collect more bills.

The difference, however, is small compared with the efficiency gap between poor and rich countries. The exceptions to the general rule are legion: To take one example, Enron managed to sell a $3 billion private power project to India’s Maharashtra state that produced electricity at four times the cost (PDF) of local suppliers. Infrastructure concessions and regulations worldwide are constantly being renegotiated because of incompetence, expropriation, corruption, and obscene profit-making by private contractors.

The choice can be ugly: Bureaucrats with limited incentive to deliver and sclerotic ability to reform on the one side; weak regulation of private companies that know more about winning a contract than delivering services on the other. Since private and public provision both have weaknesses, surely the worst model is to attempt some mutant hybrid of the two: Private sector providers operating under layers of labyrinthine government regulatory and procurement processes. That, in a nutshell, describes the U.S. health-care system.

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