India’s Privatization Gambit
Privatization — A Fresh Push
In stark contrast to India’s conventional socialist economic narrative, Prime Minister Shri Narendra Modi declared that “Government has no business to be in business”, in his speech on privatization and asset monetization in February 2021.¹ The successful sale (return) of Air India to the Tata Group was a major landmark in India’s privatization gambit,² instilling hope about its feasibility and benefits.
A major policy push from the government for privatization came with the introduction of the new disinvestment and strategic sales policy. Under the new ‘Public Sector Enterprise Policy for Atmanirbhar Bharat’,³ the government has decided to completely privatize or close all central public sector enterprises (CPSEs) except for those in strategic sectors. The government would maintain a minimum presence in strategic sectors namely, (i) Atomic Energy, Space and Defense, (ii) Transport and Telecommunications, (iii) Power, Petroleum, Coal and other minerals, and (iv) Banking, Insurance and Financial Services. To give a perspective about the size of the public sector, the government owns over 250 CPSEs with total paid-up capital of over 3.1 Lakh Crores as of March 2020.⁴
The government’s privatization policy has garnered mixed reactions. For example, in a survey conducted by India Today in January 2021, around 39% of respondents opposed the privatization of state-owned banks, while 47% supported it.⁵ The sizable opposition to privatization could be due to fears of excessive profiteering, decreased welfare for employees, and the ossification of inequality by deprivation of access to key resources to the poor (who may not be able to pay the market price for essential commodities/services).⁶ In fact, it was these very fears that sparked the promotion of a ‘mixed economy’, with substantial government participation. It is important to understand India’s economic history, to better appreciate the source for these concerns about privatization.
The Mixed Economy — India’s Post Independence Economic Thought⁷
The industrial policy of India was among the prime topics discussed in the legislative constituent assembly, immediately after independence. In April 1948, Dr. Syama Prasad Mookerjee (the then Minister of Industry and Supply) presented the government’s policy for a ‘mixed economy’.
Under this policy, the industries were split into four groups, (i) The first group comprised sectors where government would have a complete monopoly. Some sectors that fell under this category were atomic energy, railways, posts and telegraphs, and industries relating to defense, (ii) The second group comprised sectors where future development would be under government control and ownership. This included sectors such as coal mining, iron and steel manufacturing, aircraft manufacturing, shipbuilding, and extraction of mineral oils. It is important to note, that while the government had the right to takeover existing industrial units in these sectors, the government promised not to nationalize existing units for at least 10 years, as long as the industrialists cooperated with the government in achieving the central planning targets, (iii) The third group comprised of sectors that were to be regulated according to a central plan (i.e., centrally regulated industries). Some of the sectors included in this group were, salt production, automobiles and tractor manufacturing, heavy industrials, chemical manufacturing (including fertilizers), cement production, and paper production.⁸ The government had a strong regulatory role in these sectors and had the right to mandate the directions the private sector must take, and (iv) The last group consisted of the rest of the sectors (i.e., sectors that are not a part of the first three groups). The fourth group was fully open to private enterprises as long as they abided by the general industrial policy.
This policy came under severe criticism from eminent socialists in the constituent assembly such as Prof. K.T. Shah, who advocated for complete nationalization. He stated that the sectors identified for complete nationalization were “grievously curtailed”. Prof. Shah argued that with the lack of complete nationalization, the government would only be left with the unprofitable sectors, as the private sector would have already taken up the profitable ones. He stated that this would unequally concentrate profits in the hands of the industrialists, who would now also benefit from the services provided by the government in unprofitable segments of the industry.
In response to the criticism from socialists, the then Prime Minister Pandit Jawaharlal Nehru stated that complete nationalization would only result in curtailing the existing growth, as the government did not have the resources for such a massive nationalization drive. He instead wanted to prioritize government investments in emerging technologies, while permitting the private sector to continue at its prevailing growth. Gradually, he envisioned that the government would take over from the private sector as it would have already invested in advanced technologies of production, enabling it to be more competitive, thereby driving out the private sector. Further, he also noted that with the changing technologies for production, complete nationalization would only result in wasting government money on factories with outdated and obsolete technologies, which would eventually become a burden to the government.
In essence, a vast majority of members who participated in the debate were in favor of complete government control of industry (except for perhaps Sir Jwala Prasad Srivastava, who spoke for the industrialists). The only difference in opinion was about the means to that end. For example, Shri M. Ananthasayanam Ayyangar, despite defending the government’s policy, still made scathing remarks against Shri G.D. Birla’s⁹ statement that profit was the only motive for industrial production. Shri Ayyangar exclaimed, “It is a disgrace to human intelligence to say that all things are done for profit.” The 1948 debates in the legislative assembly capture the very essence of Indian economic thought, which arguably prevails to date.
The next major economic change happened between 1969 and 1976¹⁰, when the then Prime Minister Smt. Indira Gandhi undertook vast nationalization drives, taking over banks, general insurance companies, coal mines, and oil companies. This led to an almost complete government monopoly in sectors such as banking and finance.¹¹
The socialist mindset dominated Indian economic thought for the decades to follow. It was only in 1991 that the economy began liberalizing, under the leadership of then Prime Minister Shri P. V. Narasimha Rao, and the then Finance Minister, Dr. Manmohan Singh. Despite liberalization, the strong socialist underpinnings of Indian economic thought have always resulted in the public being wary of privatization drives by modern governments.
Assessing the Need for Privatization — A Framework
In order to justify or challenge privatization, it is important to understand the performance of public sector firms vis-à-vis private sector enterprises. In particular, it is important to understand the trends in performance, to see how well the two groups of enterprises have adapted to the evolving market demands and preferences. Privatization is justified if the performance of private enterprises in ‘similar’ industries is superior to that of public enterprises. This implies, that the private sector does a better job of doing business than the government.
Of course, it may be argued that government enterprises cater to an inherently different group of consumers within the same industry (perhaps by providing goods/services at reduced prices), when compared to the private sector. If this were the case, while the public enterprises may not register high profits, they would still be highly valued by investors, as long as they have a stable market share and steady profits (a simple case of the risk-return tradeoff). In extreme cases where the government enterprises are providing services at a loss for the greater good, we would observe a consistent gap in the performance of public and private sector firms, as the government enterprises are always unprofitable.
What does the empirical evidence state? Well, before we embark on looking at the empirical evidence, it is important to define “performance”. Performance is a complex multi-dimensional term, which could depend on net profitability, return on assets, return on equity, strength of balance sheet (e.g., leverage ratio), and many more aspects.
Assuming an efficient market (see Fama for more details), one can argue that trends in a listed stock’s valuation captures the current performance of underlying company and its expected future trajectory. Hence, comparing stock price trends of government and non-government enterprises over the past decade would most likely provide a glimpse of the trends in performance differential between the two groups (if any).
It must be noted that there is an inherent bias in restricting the study to just listed companies, as these companies often tend to be better managed than average firms (owing to increased transparency of financial data and scale). Irrespective, comparing public and private listed enterprises is an apples-to-apples comparison, as they represent the best of companies in their groups respectively.¹²
Analyzing the Empirical Evidence
I amalgamate data of companies from the Ministry of Corporate Affairs’ master company data¹³ (as of March, 2021), which contains data about the ownership of the firms and their sectoral classification,¹⁴ with the stock price and financials data from the National Stock Exchange (NSE) (accessed via Yahoo Finance). This forms the base for the analysis. The trends are studied from the first trading day of the calendar year 2009, to 24th December 2021.¹⁶
To start off, I compare the overall average of the close price¹⁵ of government sector stocks (i.e., companies identified as government owned by the MCA — state or central) vis-à-vis private sector stocks. The results show an interesting trend.
While the government and non-government companies have very comparable averages until 2012, post 2012, a sharp deviation emerges between the two groups. The biggest takeaway from this chart is that the private sector has done a far superior job of adapting their businesses to the new internet era, when compared to the government. Further, it appears that the consumer groups that both government and non-government companies cater to are comparable, as we do not see any significant difference in stock value during the early years. If it were the case that the government enterprises were serving an inherently unprofitable segment of the market, the deviation must have been pronounced across time.¹⁷
The same trend is observed, albeit a little less pronounced, when looking at the weighted (market capitalization based) daily median stock prices, across the years.¹⁸ The weightage is determined by the share of market capitalization¹⁹ that each firm has in their respective groups (government or non-government). The weightage captures the influence of the distribution in the size of firms in the two groups.
One could argue that this is not a fair comparison, as the sectors of the two groups of firms could be inherently different. To address this, I look at four sectors, namely Monetary Intermediation (NIC Code 651), Production, Collection and Distribution of Electricity (NIC Code 401), Manufacture of Refined Petroleum Products (NIC Code 232), and Extraction of Crude Petroleum and Natural Gas (NIC Code 111) — see list of companies compared here. The government owned companies in these four sectors contribute to over 80% of the market capitalization of government owned companies in the NSE.
In all sectors the average close price of government sector firms is lower than that of the non-government sector. Irrespective, except for the case of the monetary intermediation sector, we cannot state that the evidence is conclusive for the other sectors, owing to the high volatility in prices.
In the case of the utilities sector (production, collection and distribution of electricity) and the mineral oils/natural gas sector (extraction of crude petroleum and natural gas), there does seem to be a consistent differential between the average prices of government and non-government firms.²⁰ This could be a sign of government-owned firms catering to a different market segment in the industry, as opposed to the private firms.
In the case of the monetary intermediation sector and the refined petroleum products sector, it is evident that the two groups of firms were quite comparable till a point in time (2012 for the monetary intermediation sector and 2020 of the refined petroleum products sector), after which they deviated. This indicates that the two groups of firms were serving similar customer segments, just that the private owned enterprises adapted better to changing circumstances. Hence, privatization of listed government owned firms in the refined petroleum products and monetary intermediation sectors, should only result in an improvement in performance and economic outcomes.
Is this all because of systemic undervaluation?
Are the average prices lower due to a systematic undervaluation of government sector stocks by the market? The analysis of Price to Earnings (PE) ratio²¹ and Price to Book Value (PB) ratio indicates the lack of any pronounced undervaluation.²²
In conclusion, it is evidently clear, that privatization of at least the listed firms in the refined petroleum and monetary intermediation sectors should only result in better outcomes for the economy. The controversy around the privatization of some of these banks/oil companies appears to be unfounded.
 Office Memorandum dated 4th February 2021, Department of Investment and Public Asset Management, Ministry of Finance, Government of India. №3/3/2020-DIPAM-II-B-(E).
 2019–2020 Annual Public Enterprises Survey — https://pib.gov.in/PressReleasePage.aspx?PRID=1744787
 India Today, Mood of the Nation Survey, dated January 22 2021. https://www.indiatoday.in/magazine/nation/story/20210201-firm-hand-at-the-wheel-1761588-2021-01-22
 See article in Hindu Tamil Thisai titled “தனியார்மயம் ஏன் பயமுறுத்துகிறது?” by J Saravanan, dated 8th March 2021. https://www.hindutamil.in/news/supplements/vaniga-veethi/642822-privatization.html
 The Constituent Assembly of India (Legislative) Debates. Official Report. Volume V, 1948. Debate dated 7th April, 1948.
 The Constituent Assembly of India (Legislative) Debates. Official Report. Volume V, 1948. Statement dated 6th April, 1948.
 The speech only mentions ‘Birla’, it most likely refers to Shri G.D. Birla.
 See article in Business Standard by T N Ninan, dated October 30, 2014. https://www.business-standard.com/article/companies/bs-40-1974-the-invisible-turning-point-114102701291_1.html
 See Letter from Dr. Sanjay Singh (Secretary, Ministry of Law and Justice, Government of India) dated 22nd November 2014. D.O. №1(66)/14-L.I (Pt.File.II). https://legislative.gov.in/sites/default/files/Letter%20dt%2022%2011%2014%20issued%20to%20Ministries%20of%20Central%20Govt%20_1.pdf
 The same argument holds for survivorship bias.
 The MCA uses 2004 National Industrial Classification (NIC) codes, however I have revised the codes if the MCA record does not accurately reflect the firm’s current core business. See: https://www.mca.gov.in/MCA21/dca/efiling/NIC-2004_detail_19jan2009.pdf
 Adjusted for dividends and stock splits, according to Center for Research in Security Prices (CRSP) standards.
 Companies whose stock prices are not consistently available across 2009–2021 are removed from the analysis, to ensure comparability across time.
 It is also hard to argue the other way around, that post 2012, the public sector enterprises started serving a different consumer segment, as there is no tangible evidence supporting the same.
 Middle range in the figure refers to the range between the 25th to 75th percentiles.
 Fixed market capitalization is used for weighting data across the years. Market capitalization as of March 2021 is used.
 The data is quite noisy, and hence the deviation would need to be taken with a grain of salt.
 For PE ratio, I compute the ratio of daily adjusted close price with the trailing net income per share. For example, for stock prices in the 2020–2021 financial, the net income for the first quarter is assumed to be the income reported at the end of 2019–2020 financial year. For the second quarter it is assumed to be the sum of 25% of 2020–2021 net income and 75% of 2019–2020 net income. For the third quarter, the weights are 50% each. For the fourth quarter, the weights are 25% for 2019–2020 and 75% for 2020–2021. The rolling average of the ratios over a 30-trading day period is reported. The same approach is adopted for the PB ratio.