- Email: [email protected]
On insider privatization
EUROPEAN b%E*c ELSEVIER
European Economic Review 40 (1996) 759-766
Ex-state firms in the transition
On insider privatization 0. Blanchard a**, P. Aghion b,c aMIT, Department of Economics, ES2-252, Cambridge MA 02139, USA b Uniuersity of Oxford, Oxford, UK ’ EBRD, London, UK
Abstract Privatization is proceeding slowly in many Eastern European countries. This is largely because the insiders, who currently have control but not property rights to the firms, oppose outsider privatization. Privatization would proceed faster if governments decided to go the insider privatization route. There would seem to be two strong efficiency arguments for doing so. First, insider privatization aligns control and property rights. This gives the right incentives to insiders. Second, if for some reason, insiders cannot do the job themselves, they will have the right incentives to sell the firms to those outsiders who can. Our paper focuses on this second argument. We conclude that it is not as obvious as it seems. There is a wedge between the value of the firm to insiders and the value of the firm to outsiders. Depending on the details of insider privatization, and on the details of the resale process, this wedge may prevent resale, and thus prevent desirable restructuring. JEL classification:
D72; L33; P21
Keywords: Privatization; Transition; Restructuring; Ownership; Eastern Europe
1. Introduction
tent
Privatization is proceeding slowly in many Eastern European countries. Compeand willing outsiders are in limited supply. And more importantly, the
* Corresponding author. Tel.: 1 617 2538891; fax: 1 617 2531330; e-mail: [email protected]. 0014-2921/96/$15.00
0 1996 Elsevier Science B.V. All rights reserved
SSDI 0014.2921(95)00086-O
760
0. Blanchurd, P. Aghion / Europem
Economic Rakv
40 (19961 759-766
insiders, who currently have control but not property rights to the firms, oppose, often successfully, efforts by the state to impose outsider privatization. Privatization would clearly proceed faster if governments decided to go the insider privatization route. The example of Russia, in which privatization has been designed so as to make privatization attractive to insiders, is a case in point. ’ And, leaving aside income distribution considerations, there would seem to be two strong efficiency arguments for going the insider privatization route. First, insider privatization aligns control and property rights. This gives the right incentives to insiders, and should lead them to take the right decisions. Second, if for some reason, be it lack of capital or lack of expertise, insiders cannot achieve the restructuring that most ex-state firms require, they will have the right incentives to sell the firms to those outsiders who can. Our paper focuses on this second argument, of whether insider privatization naturally leads to resale if and when circumstances dictate. The reason for focusing on that argument is that the answer to the first is largely in: as a rule, insider privatized firms have proven unable to restructure. This conclusion comes out not only from anecdotal evidence, but, more convincingly, from recent surveys of firms. * The reasons are not hard to find. The ownership structure which comes with insider privatization makes it difficult to protect outside minority interests and thus to raise minority equity capital. Access to debt finance is an imperfect substitute, and is also limited. It is all the more so when insider privatization, as in the case for example in Poland, takes the form of a discounted sale of the firm to insiders financed by long term debt to the state, resulting in highly leveraged newly privatized firms. Finally, expertise, which is needed for restructuring, is too expensive to buy, and for the same reasons as above, experts cannot be rewarded with minority equity positions. Thus, insider privatization appears to be largely a holding pattern, and the question arises of whether and at what pace it will lead to eventual resale and outsider control. The conclusions we reach in our paper is that the second argument that resale will take place when needed is not as obvious as it seems. There is a wedge between the value of the firm to insiders and the value of the firm to outsiders. Depending on the details of insider privatization, and on the details of the resale process, this wedge may prevent resale, and thus prevent desirable restructuring. The paper is organized as follows: Section 2 outlines the basic framework. Section 3 analyses the resale process in the case of workers-owned firms. Section 4 discusses macroeconomic interactions. Section 5 discusses the consequences for resale of allocating a substantial fraction of shares to incumbent managers. Section 6 summarizes.
’ See Boycko et al. (1995). ’ See for example Chapter 8 of the 1995 EBRD Transition
Report.
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759-766
761
2. The basic set-up Based on the empirical evidence, we want to capture two sets of facts: The first is that, in the absence of outside owners, firms may be able to make enough adjustments to survive, but are unable to engage in deeper restructuring, which requires capital and expertise. The second is that deep restructuring comes with substantial reorganization. Some plants must be closed, many workers must be laid-off. Managers, in particular, are unlikely to have the right skills, and their jobs are especially at risk. We formalize these facts as follows: A representative firm in the economy employs a unit mass of workers. In the absence of an outside owner, the product per worker is equal to x, which we think of as low but sufficient to maintain the firm alive. On the other hand, if a firm is sold to an outside owner, restructuring takes place. Restructuring involves: 1. Improving the firm: with external finance and expertise, the product per worker increases from x to x + Z, where z is defined as the increase in the product per worker net of outsider’s costs. 2. Replacing and thus laying-off a notational simplicity, we shall assume no qualitative result depends on this. discuss the effects of different values
proportion A of incumbent workers. For for most of the paper that A is equal to one; We introduce it nevertheless so that we can of lambda below.
The reservation wage for laid-off workers (the utility from being unemployed) is equal to R. New workers hired by outsider-owned firms are paid the market wage, w. Relying implicitly on efficiency wage considerations, we assume that the market wage w exceeds R, the utility of being unemployed by a given amount c > 0: w = R + c. Given the low unemployment benefits, the limited safety net, and the low probability of exiting unemployment in Eastern European countries today, we see R as close to unemployment benefits, and c as being potentially quite large.
3. Resale in the case of workers-owned firms We ignore for the moment the distinction between workers and managers, and take the case of a firm in which, as a result of insider privatization, workers each own one share of the firm. We consider two cases for resale. In the first, workers-shareholders play Nash, taking the actions of other workers-shareholders as given. In the second, they collude.
162
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759-766
3.1. The Nash equilibrium Under the first alternative, workers play Nash (vis-a-vis each other). Let qb denote the maximum price an outsider is willing to pay for one share of the firm (subject to getting a majority of the shares and thus being able to restructure; otherwise he would not be willing to pay anything). Let qs denote the minimum price at which each worker is willing to sell his share. qb is equal to net profit per share, thus to the product per worker after restructuring minus the market wage: qb =x + z - w. And qs satisfies: q”+R=(x+z-w)+R. Under the assumption that the outsider gets a majority of the shares and thus will restructure the firm, the left-hand side gives what an individual worker gets if he sells his share: the sale price, plus the reservation wage (as the sale implies, under the assumption that A = 1, that the worker loses his job and becomes unemployed). The right-hand side gives what the worker gets if he holds on to his share: profit per share plus the reservation wage (as, again, he finds himself unemployed, whether or not he sells his share). Thus: q5 = qh = .Y + L - w. This equation reflects the Grossman-Hart free-rider result: dispersed workersowners extract all the surplus from restructuring. Assuming that the private takeover costs are being fully taken into account in the net value of z, and that an outsider will step in provided he at least breaks even, then resale of workers-owned firms will always take place, at price q = x + z - w. Any additional take-over cost implies however that resale will not take place. The fragility of the resale condition in this case is not specific to our case, and does not worry us here. We know from the discussion of the Grossman-Hart result that it is easy to modify it to yield q’ < qb, and we see this as the more realistic outcome: Outside investors can take advantage of the liquidity problems faced by a positive fraction of shareholders, which will lead them to sell at a lower price than q”; ’ this is likely to be particularly relevant in countries in transition, where most workers-shareholders have no access to credit and may value current cash highly. Outside investors may also be able to dilute part of the incumbent workersshareholders’ claims, so that workers, if they hold their shares receive only a fraction of (x. + ; - w), and thus are willing to accept a lower selling price. This again is likely to be especially relevant in countries in transition, in which the room for - illegal -dilution is higher than in the West.
’ See Bolton and Von Thadden (1995)
0. Blanchard, P. Aghion / European Economic Reoiew 40 (1996) 759-766
763
From the discussion of the Grossman-Hart result, we know that another reason which usually leads to a higher likelihood of successful takeovers is the presence of large shareholders. 4 In our context, however, this effect can work perversely. To see why, we now look at the second alternative. 3.2. Collusion Under the second alternative, workers collude and act as a group. Thus, if they decide to sell, restructuring takes place and they get R + q’. If they do not sell, they prevent outsider privatization and thus get x, the product per worker in the absence of restructuring. Hence: q‘=x_R whereas, as before, qb=X+Z-W.
Using our assumption that w = R + c, we thus get the result that resale will take place under collusion if and only if:
(3.1) Under collusion, workers internalize the fact that they will find themselves unemployed if the firm is sold, and therefore want to be compensated accordingly. Thus, despite the fact that restructuring is socially desirable (it leaves employment constant, and increases output), if the cost of becoming unemployed, c, is larger than the net surplus generated by restructuring, z, then the sale will not take place. This captures what we think is a serious danger of insider privatization as a transition device. When shareholders are also the workers in the firm, the fear of unemployment may become a major obstacle to resale to outsiders. This also points to the importance of three elements in the resale process: _ The probability of becoming unemployed, A, under outsider privatization. We have assumed in our derivation that the probability was equal to one. While this is too extreme, as long as h is positive, the risk of unemployment decreases the likelihood that the firm will be sold. This suggests that outsiders may want to offer employment guarantees. And, to some extent, they often have done so. But these guarantees come themselves at a cost (in terms of efficiency); they decrease the buying price, and may also prevent resale. _ The cost of becoming unemployed, c. The larger the difference between the market wage and reservation wage, the larger the cost of becoming unemployed, the larger the wedge, the less likely the sale.
’ See Holmstrom
and Nalebuff (1992).
764
0. Blanchard, P. Aghion/European
Economic Review 40 (1996) 759-766
- The degree of collusion among workers. The effect of the wedge, c, is present only if and when workers collude. Here the experience of Russia is instructive. The resale process should be set up so that workers can trade shares anonymously. Involving the firm in any way, administrative or otherwise, makes collusion much easier, with the manager often playing the role of enforcer.
4. Macroeconomic
interactions
How does aggregate unemployment affect the resale condition under collusion, Eq. (3.1)? The answer depends on how the cost of becoming unemployed c = w -R depends on aggregate unemployment. In some efficiency wage models, c is independent of labor market conditions: w and R both vary inversely with unemployment, but their difference remains constant. 5 If this is the case, then unemployment will have no effect on whether condition (3.1) is satisfied. The reason is the following: worse labor market conditions make it more unattractive to be unemployed; but they also imply that wages in the new, restructured, company, will be lower, so that profits will be correspondingly higher. Under the assumption that c is constant, the effects of a lower R and of higher profit exactly cancel. The notion that higher disutility from unemployment is exactly offset by the higher utility from becoming a shareholder in a firm which makes higher profits does sound however implausible. And indeed, it is easy to think of realistic modifications of the original model which deliver the implications that higher unemployment will make resale less likely. Consider for example the case where the outcome of restructuring, : is uncertain, say equal to Z with probability l/2 and to z with probability l/2. Assume further that x + z - w < 0, so that the firm cl&es if the outcome of restructuring is unfavorable (assume 2 to be large enough that restructuring is still socially optimal). This assumption captures the large uncertainty associated with even deep restructuring of state firms. Then the expected net profit of an outsider, assuming limited liability, ’ is given by (1/2)(x + Z - w), so that the maximum price that an outsider will pay for the firm is 1 +++Z-w).
5
In the shirking model for example (Shapiro and Stiglitz. 1984), the difference between the value of being employed and the value of being unemployed does not depend on labor market conditions. ’ That is assuming that the actual ex-post profit if equal to zero whenever x + z - w < 0, i.e. whenever z = z.
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759- 766
The condition
for resale under collusion
765
thus becomes
;(
x+2-w)>x-RR,
or equivalently, z-xzc-R In contrast to (3.1), this latter condition depends on R and depends therefore on the unemployment rate. The reason is that the effect of unemployment on R is now stronger than the indirect effect of lower wages on expected profit. We see this as an important conclusion as well. Under plausible assumptions, more depressed labor markets make outsider privatization less likely. It is easy to build on this result to get the potential for vicious circles or even multiple equilibria. Because of space constraints, we shall just sketch such an extension here. Suppose that, absent outsider privatization, there is a probability p every period that the firm must close (so far we have implicity taken p to be zero). Then, if p is small enough, there may be two equilibria, one in which outsider privatization and restructuring take place, and unemployment remains low, and another where outsider privatization does not take place, unemployment slowly increases, reinforcing the opposition to outsider privatization, and leading to increasing unemployment over time. Note however that these effects depend on the presence of collusion. Under the Nash assumption, workers will be worse off if labor market conditions are bad, but it will not affect their decision whether to sell or not.
5. Resale under managerial
ownership
Is the resale process likely to be positively or negatively affected by having managers hold a large proportion of shares? A tentative answer to this question relies on the following extension of our basic framework: let a fraction 13of the firm’s unit mass of shares be owned by a manager who draws private benefits B from controlling the firm, with the complementary fraction (1 - 6) being again uniformly held by the workers. Assume that the manager is laid-off with probability p under outsider privatization. The minimum price at which the manager will accept to sell his shares is
qm=(CLB)/O. Thus, the larger the proportion of shares held by the manager, resale price he will accept in compensation for his loss of private scale effect thus suggests giving the largest feasible proportion managers so as to facilitate the resale process. On the other hand, large, then having the manager hold more than half of the shares
the lower the benefits. This of shares to if pB is too will make it
766
0. Blanchard, P. Aghion/
European Economic Review 40 (1996) 759-766
impossible for an outsider to acquire control of the firm. We thus get the following double-hedged conclusion: If pB is sufficiently more likely.
low, then giving all the shares to the manager makes resale
If pB is large. however, then having the manager hold no share of the firm makes resale more likely. To summarize, whether the resale process will be facilitated by large or low managerial shareholdings depends both on v and B. Available evidence suggests ,U to be high: managers rarely have the right skills to manage restructuring. And evidence from Russia suggests that the private wedge B is also surprisingly large. Both facts suggest that giving a larger proportion of shares to managers may not facilitate outside privatization. This conclusion is reinforced, first by the fact that, in contrast to the workers, collusion between top managers is relatively easy to achieve, and second by the fact that liquidity problems, which may lead some workers to sell shares at a low price, are less likely to apply to managers.
6. Conclusions Our main conclusions are: (1) that insider privatization can lead to an excessive resale price and thereby block outsider privatization; (2) that a high unemployment rate is likely to further slowdown the resale process; (3) that giving a large number of shares to managers has an ambiguous effect on the likelihood of resale.
Acknowledgements We thank Daron Acemoglu, Simon Commander, Mark Schankerman, Shleifer and Elu Von Thadden for discussions and comments.
Andrei
References Bolton, P. and H.L. Von Thadden, 1995, The ownership of firms: The liquidity control trade-off, Mimeo. (ECARE, Bruxelles). Boycko, M., A. Shleifer and R. Vishny, 1995. Privatizing Russia (MIT Press, Cambridge, MA). Holmstrom, B. and B., Nalebuff, 1992, To the raider goes the surplus? A reexamination of the free rider problem, Journal of Economics and Management Strategy 1, no. 1, 37-62. Shapiro, C. and J. Stiglitz, 1984, Equilibrium unemployment as a discipline device, American Economic Review 74.433-444.
European Economic Review 40 (1996) 759-766
Ex-state firms in the transition
On insider privatization 0. Blanchard a**, P. Aghion b,c aMIT, Department of Economics, ES2-252, Cambridge MA 02139, USA b Uniuersity of Oxford, Oxford, UK ’ EBRD, London, UK
Abstract Privatization is proceeding slowly in many Eastern European countries. This is largely because the insiders, who currently have control but not property rights to the firms, oppose outsider privatization. Privatization would proceed faster if governments decided to go the insider privatization route. There would seem to be two strong efficiency arguments for doing so. First, insider privatization aligns control and property rights. This gives the right incentives to insiders. Second, if for some reason, insiders cannot do the job themselves, they will have the right incentives to sell the firms to those outsiders who can. Our paper focuses on this second argument. We conclude that it is not as obvious as it seems. There is a wedge between the value of the firm to insiders and the value of the firm to outsiders. Depending on the details of insider privatization, and on the details of the resale process, this wedge may prevent resale, and thus prevent desirable restructuring. JEL classification:
D72; L33; P21
Keywords: Privatization; Transition; Restructuring; Ownership; Eastern Europe
1. Introduction
tent
Privatization is proceeding slowly in many Eastern European countries. Compeand willing outsiders are in limited supply. And more importantly, the
* Corresponding author. Tel.: 1 617 2538891; fax: 1 617 2531330; e-mail: [email protected]. 0014-2921/96/$15.00
0 1996 Elsevier Science B.V. All rights reserved
SSDI 0014.2921(95)00086-O
760
0. Blanchurd, P. Aghion / Europem
Economic Rakv
40 (19961 759-766
insiders, who currently have control but not property rights to the firms, oppose, often successfully, efforts by the state to impose outsider privatization. Privatization would clearly proceed faster if governments decided to go the insider privatization route. The example of Russia, in which privatization has been designed so as to make privatization attractive to insiders, is a case in point. ’ And, leaving aside income distribution considerations, there would seem to be two strong efficiency arguments for going the insider privatization route. First, insider privatization aligns control and property rights. This gives the right incentives to insiders, and should lead them to take the right decisions. Second, if for some reason, be it lack of capital or lack of expertise, insiders cannot achieve the restructuring that most ex-state firms require, they will have the right incentives to sell the firms to those outsiders who can. Our paper focuses on this second argument, of whether insider privatization naturally leads to resale if and when circumstances dictate. The reason for focusing on that argument is that the answer to the first is largely in: as a rule, insider privatized firms have proven unable to restructure. This conclusion comes out not only from anecdotal evidence, but, more convincingly, from recent surveys of firms. * The reasons are not hard to find. The ownership structure which comes with insider privatization makes it difficult to protect outside minority interests and thus to raise minority equity capital. Access to debt finance is an imperfect substitute, and is also limited. It is all the more so when insider privatization, as in the case for example in Poland, takes the form of a discounted sale of the firm to insiders financed by long term debt to the state, resulting in highly leveraged newly privatized firms. Finally, expertise, which is needed for restructuring, is too expensive to buy, and for the same reasons as above, experts cannot be rewarded with minority equity positions. Thus, insider privatization appears to be largely a holding pattern, and the question arises of whether and at what pace it will lead to eventual resale and outsider control. The conclusions we reach in our paper is that the second argument that resale will take place when needed is not as obvious as it seems. There is a wedge between the value of the firm to insiders and the value of the firm to outsiders. Depending on the details of insider privatization, and on the details of the resale process, this wedge may prevent resale, and thus prevent desirable restructuring. The paper is organized as follows: Section 2 outlines the basic framework. Section 3 analyses the resale process in the case of workers-owned firms. Section 4 discusses macroeconomic interactions. Section 5 discusses the consequences for resale of allocating a substantial fraction of shares to incumbent managers. Section 6 summarizes.
’ See Boycko et al. (1995). ’ See for example Chapter 8 of the 1995 EBRD Transition
Report.
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759-766
761
2. The basic set-up Based on the empirical evidence, we want to capture two sets of facts: The first is that, in the absence of outside owners, firms may be able to make enough adjustments to survive, but are unable to engage in deeper restructuring, which requires capital and expertise. The second is that deep restructuring comes with substantial reorganization. Some plants must be closed, many workers must be laid-off. Managers, in particular, are unlikely to have the right skills, and their jobs are especially at risk. We formalize these facts as follows: A representative firm in the economy employs a unit mass of workers. In the absence of an outside owner, the product per worker is equal to x, which we think of as low but sufficient to maintain the firm alive. On the other hand, if a firm is sold to an outside owner, restructuring takes place. Restructuring involves: 1. Improving the firm: with external finance and expertise, the product per worker increases from x to x + Z, where z is defined as the increase in the product per worker net of outsider’s costs. 2. Replacing and thus laying-off a notational simplicity, we shall assume no qualitative result depends on this. discuss the effects of different values
proportion A of incumbent workers. For for most of the paper that A is equal to one; We introduce it nevertheless so that we can of lambda below.
The reservation wage for laid-off workers (the utility from being unemployed) is equal to R. New workers hired by outsider-owned firms are paid the market wage, w. Relying implicitly on efficiency wage considerations, we assume that the market wage w exceeds R, the utility of being unemployed by a given amount c > 0: w = R + c. Given the low unemployment benefits, the limited safety net, and the low probability of exiting unemployment in Eastern European countries today, we see R as close to unemployment benefits, and c as being potentially quite large.
3. Resale in the case of workers-owned firms We ignore for the moment the distinction between workers and managers, and take the case of a firm in which, as a result of insider privatization, workers each own one share of the firm. We consider two cases for resale. In the first, workers-shareholders play Nash, taking the actions of other workers-shareholders as given. In the second, they collude.
162
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759-766
3.1. The Nash equilibrium Under the first alternative, workers play Nash (vis-a-vis each other). Let qb denote the maximum price an outsider is willing to pay for one share of the firm (subject to getting a majority of the shares and thus being able to restructure; otherwise he would not be willing to pay anything). Let qs denote the minimum price at which each worker is willing to sell his share. qb is equal to net profit per share, thus to the product per worker after restructuring minus the market wage: qb =x + z - w. And qs satisfies: q”+R=(x+z-w)+R. Under the assumption that the outsider gets a majority of the shares and thus will restructure the firm, the left-hand side gives what an individual worker gets if he sells his share: the sale price, plus the reservation wage (as the sale implies, under the assumption that A = 1, that the worker loses his job and becomes unemployed). The right-hand side gives what the worker gets if he holds on to his share: profit per share plus the reservation wage (as, again, he finds himself unemployed, whether or not he sells his share). Thus: q5 = qh = .Y + L - w. This equation reflects the Grossman-Hart free-rider result: dispersed workersowners extract all the surplus from restructuring. Assuming that the private takeover costs are being fully taken into account in the net value of z, and that an outsider will step in provided he at least breaks even, then resale of workers-owned firms will always take place, at price q = x + z - w. Any additional take-over cost implies however that resale will not take place. The fragility of the resale condition in this case is not specific to our case, and does not worry us here. We know from the discussion of the Grossman-Hart result that it is easy to modify it to yield q’ < qb, and we see this as the more realistic outcome: Outside investors can take advantage of the liquidity problems faced by a positive fraction of shareholders, which will lead them to sell at a lower price than q”; ’ this is likely to be particularly relevant in countries in transition, where most workers-shareholders have no access to credit and may value current cash highly. Outside investors may also be able to dilute part of the incumbent workersshareholders’ claims, so that workers, if they hold their shares receive only a fraction of (x. + ; - w), and thus are willing to accept a lower selling price. This again is likely to be especially relevant in countries in transition, in which the room for - illegal -dilution is higher than in the West.
’ See Bolton and Von Thadden (1995)
0. Blanchard, P. Aghion / European Economic Reoiew 40 (1996) 759-766
763
From the discussion of the Grossman-Hart result, we know that another reason which usually leads to a higher likelihood of successful takeovers is the presence of large shareholders. 4 In our context, however, this effect can work perversely. To see why, we now look at the second alternative. 3.2. Collusion Under the second alternative, workers collude and act as a group. Thus, if they decide to sell, restructuring takes place and they get R + q’. If they do not sell, they prevent outsider privatization and thus get x, the product per worker in the absence of restructuring. Hence: q‘=x_R whereas, as before, qb=X+Z-W.
Using our assumption that w = R + c, we thus get the result that resale will take place under collusion if and only if:
(3.1) Under collusion, workers internalize the fact that they will find themselves unemployed if the firm is sold, and therefore want to be compensated accordingly. Thus, despite the fact that restructuring is socially desirable (it leaves employment constant, and increases output), if the cost of becoming unemployed, c, is larger than the net surplus generated by restructuring, z, then the sale will not take place. This captures what we think is a serious danger of insider privatization as a transition device. When shareholders are also the workers in the firm, the fear of unemployment may become a major obstacle to resale to outsiders. This also points to the importance of three elements in the resale process: _ The probability of becoming unemployed, A, under outsider privatization. We have assumed in our derivation that the probability was equal to one. While this is too extreme, as long as h is positive, the risk of unemployment decreases the likelihood that the firm will be sold. This suggests that outsiders may want to offer employment guarantees. And, to some extent, they often have done so. But these guarantees come themselves at a cost (in terms of efficiency); they decrease the buying price, and may also prevent resale. _ The cost of becoming unemployed, c. The larger the difference between the market wage and reservation wage, the larger the cost of becoming unemployed, the larger the wedge, the less likely the sale.
’ See Holmstrom
and Nalebuff (1992).
764
0. Blanchard, P. Aghion/European
Economic Review 40 (1996) 759-766
- The degree of collusion among workers. The effect of the wedge, c, is present only if and when workers collude. Here the experience of Russia is instructive. The resale process should be set up so that workers can trade shares anonymously. Involving the firm in any way, administrative or otherwise, makes collusion much easier, with the manager often playing the role of enforcer.
4. Macroeconomic
interactions
How does aggregate unemployment affect the resale condition under collusion, Eq. (3.1)? The answer depends on how the cost of becoming unemployed c = w -R depends on aggregate unemployment. In some efficiency wage models, c is independent of labor market conditions: w and R both vary inversely with unemployment, but their difference remains constant. 5 If this is the case, then unemployment will have no effect on whether condition (3.1) is satisfied. The reason is the following: worse labor market conditions make it more unattractive to be unemployed; but they also imply that wages in the new, restructured, company, will be lower, so that profits will be correspondingly higher. Under the assumption that c is constant, the effects of a lower R and of higher profit exactly cancel. The notion that higher disutility from unemployment is exactly offset by the higher utility from becoming a shareholder in a firm which makes higher profits does sound however implausible. And indeed, it is easy to think of realistic modifications of the original model which deliver the implications that higher unemployment will make resale less likely. Consider for example the case where the outcome of restructuring, : is uncertain, say equal to Z with probability l/2 and to z with probability l/2. Assume further that x + z - w < 0, so that the firm cl&es if the outcome of restructuring is unfavorable (assume 2 to be large enough that restructuring is still socially optimal). This assumption captures the large uncertainty associated with even deep restructuring of state firms. Then the expected net profit of an outsider, assuming limited liability, ’ is given by (1/2)(x + Z - w), so that the maximum price that an outsider will pay for the firm is 1 +++Z-w).
5
In the shirking model for example (Shapiro and Stiglitz. 1984), the difference between the value of being employed and the value of being unemployed does not depend on labor market conditions. ’ That is assuming that the actual ex-post profit if equal to zero whenever x + z - w < 0, i.e. whenever z = z.
0. Blanchard, P. Aghion / European Economic Review 40 (1996) 759- 766
The condition
for resale under collusion
765
thus becomes
;(
x+2-w)>x-RR,
or equivalently, z-xzc-R In contrast to (3.1), this latter condition depends on R and depends therefore on the unemployment rate. The reason is that the effect of unemployment on R is now stronger than the indirect effect of lower wages on expected profit. We see this as an important conclusion as well. Under plausible assumptions, more depressed labor markets make outsider privatization less likely. It is easy to build on this result to get the potential for vicious circles or even multiple equilibria. Because of space constraints, we shall just sketch such an extension here. Suppose that, absent outsider privatization, there is a probability p every period that the firm must close (so far we have implicity taken p to be zero). Then, if p is small enough, there may be two equilibria, one in which outsider privatization and restructuring take place, and unemployment remains low, and another where outsider privatization does not take place, unemployment slowly increases, reinforcing the opposition to outsider privatization, and leading to increasing unemployment over time. Note however that these effects depend on the presence of collusion. Under the Nash assumption, workers will be worse off if labor market conditions are bad, but it will not affect their decision whether to sell or not.
5. Resale under managerial
ownership
Is the resale process likely to be positively or negatively affected by having managers hold a large proportion of shares? A tentative answer to this question relies on the following extension of our basic framework: let a fraction 13of the firm’s unit mass of shares be owned by a manager who draws private benefits B from controlling the firm, with the complementary fraction (1 - 6) being again uniformly held by the workers. Assume that the manager is laid-off with probability p under outsider privatization. The minimum price at which the manager will accept to sell his shares is
qm=(CLB)/O. Thus, the larger the proportion of shares held by the manager, resale price he will accept in compensation for his loss of private scale effect thus suggests giving the largest feasible proportion managers so as to facilitate the resale process. On the other hand, large, then having the manager hold more than half of the shares
the lower the benefits. This of shares to if pB is too will make it
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impossible for an outsider to acquire control of the firm. We thus get the following double-hedged conclusion: If pB is sufficiently more likely.
low, then giving all the shares to the manager makes resale
If pB is large. however, then having the manager hold no share of the firm makes resale more likely. To summarize, whether the resale process will be facilitated by large or low managerial shareholdings depends both on v and B. Available evidence suggests ,U to be high: managers rarely have the right skills to manage restructuring. And evidence from Russia suggests that the private wedge B is also surprisingly large. Both facts suggest that giving a larger proportion of shares to managers may not facilitate outside privatization. This conclusion is reinforced, first by the fact that, in contrast to the workers, collusion between top managers is relatively easy to achieve, and second by the fact that liquidity problems, which may lead some workers to sell shares at a low price, are less likely to apply to managers.
6. Conclusions Our main conclusions are: (1) that insider privatization can lead to an excessive resale price and thereby block outsider privatization; (2) that a high unemployment rate is likely to further slowdown the resale process; (3) that giving a large number of shares to managers has an ambiguous effect on the likelihood of resale.
Acknowledgements We thank Daron Acemoglu, Simon Commander, Mark Schankerman, Shleifer and Elu Von Thadden for discussions and comments.
Andrei
References Bolton, P. and H.L. Von Thadden, 1995, The ownership of firms: The liquidity control trade-off, Mimeo. (ECARE, Bruxelles). Boycko, M., A. Shleifer and R. Vishny, 1995. Privatizing Russia (MIT Press, Cambridge, MA). Holmstrom, B. and B., Nalebuff, 1992, To the raider goes the surplus? A reexamination of the free rider problem, Journal of Economics and Management Strategy 1, no. 1, 37-62. Shapiro, C. and J. Stiglitz, 1984, Equilibrium unemployment as a discipline device, American Economic Review 74.433-444.