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Business Success Versus Government Success

By Raymond Fisman·February 7
Boston University

The Issue:

There is a long history of trying to make government more efficient. At the beginning of his presidency, Bill Clinton charged his vice president, Al Gore, with heading a six-month “National Performance Review to “make the entire federal government less expensive and more efficient.” More recently, Donald Trump claimed his experience in business made him uniquely qualified to streamline government. Accordingly, his cabinet picks can be seen in part as a fulfillment of these promises.
Are there differences, however, in the keys to success in business and the keys to success in running a government agency?

The Facts:

  • Business-minded politicians may rely too heavily on strategies that are effective in the business world, but inappropriate for government agencies. Consider the case of law enforcement, which is generally supplied by government. How would performance systems based on incentives work in this case? Imagine what would happen if enforcement agencies were rewarded for arrests or citations. Strong incentives could lead police to issue specious citations, or entrap and arrest innocent people on trumped up charges to meet their “production” targets. In fact, this has happened. In one grim illustration of incentives run amok, a group of researchers showed that high-powered incentives likely led Colombian military personnel to kill civilians and dress them up as rebels in order to satisfy their higher-ups.
  • One reason that the private sector is perceived as a paragon of efficiency as compared to government agencies is because the goals of a private sector business are narrower than that of a government agency. For this reason, it is relatively easier for a business to monitor performance and enforce output goals than is the case with a government agency where the outcomes are less easy to measure and less clear cut. For example, it is relatively easy to write a contract that rewards a supplier for cost-savings innovations.  It is less easy to write a contract for achieving social goals in a way to ensure that actions are not taken that meet the letter of the contract but do not actually achieve the social goals. A pair of examples drawn from research are instructive:
  • Outsourcing Prisons: In a classic 1998 article, a trio of economists assessed which types of government functions should be outsourced to seemingly more efficient private sector contractors. They argued that the government should not outsource tasks where the quality of services were hard to measure and enforce, otherwise businesses providing these services would shirk on quality to boost the bottom line. In particular, they studied the outsourcing of prisons. They pointed out that the cost-cutting could lead to the inhumane treatment of inmates, and efforts to boost revenues could lead to excessively extending incarceration. Many of these concerns arose in last year’s Justice Department decision to end prison outsourcing.
  • Nursing Homes: In a study that compared for-profit, non-profit, and public nursing homes, researchers found that for-profit facilities tended to use much more medication to sedate their residents. They argued this was an effort to cut costs when dealing with patients.  Private businesses are good at cutting costs, but may do so at the expense of quality – and in this case, quality is the welfare of the nursing home residents.

What this Means:

The private sector does a great job of efficiently producing an array of products and services. But the methods of for-profit enterprise are not suited to every task, including many of those currently undertaken by governments. The Trump administration has many more individuals with business backgrounds poised to take leadership roles than any president in history, and there is a tilt towards the private sector – as an indication of this, the stock prices of private correctional services firms’ rose after the election. Having a successful business background is certainly not an automatic impediment to effective government. People as different as Michael Bloomberg and Dick Cheney have, arguably, successfully navigated both worlds. It is important that the businesspeople taking top positions in the current administration understand the difference between the goals and strategies of the private sector and government enterprises. Applying business practices to government may lead to excessive outsourcing of government functions. It could also lead to using performance criteria that do not completely capture the goals of government agencies. It is too soon to know what policies the business executives in the Trump Administration will actually implement, but there is cause for concern with the statements made by some of the President’s nominees. Betsy DeVos, the new Secretary of Education stated in response to questioning by Senator Pat Murphy that she did not see any reason to expect that for-profit, non-profit, or public schools would behave differently from each other. But the evidence suggests otherwise.

Topics:

Governance / Reforming Government
Written by The EconoFact Network. To contact with any questions or comments, please email contact@econofact.org.