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Enterprises
A state owned enterprise, as the name suggests is one that is owned and managed
by the state whereas a private enterprise is one that owned and managed by
private individuals.
4. Public enterprises are owned and controlled solely by the state, but private
enterprises are owned and controlled by private individuals.
7. Public enterprises have reduced efficiency because there is red tapism and
bureaucratic control due to which decision making is not fast whereas in
private enterprises its efficiency is high because decision making is fast.
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8. When public enterprises incur losses, these losses are borne by the
government, but the losses incurred by private enterprises are borne by the
private individuals.
9. When state enterprises make profit, the profit is paid into consolidated fund;
on the other hand when private enterprises make profit, the profit is shared
by the owners of the company.
10.The employees of the public enterprises have the security of the job along
with that they are given the benefits of allowances, perquisites, and
retirement like gratuity, pension, superannuation fund, etc. which are absent
in the case of the private enterprises.
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Advantages and Disadvantages
Of State Owned Enterprises
What is a state owned enterprise? A state owned enterprise is an organization
that is owned and controlled by the government. A state owned enterprise is
the exact opposite of a private enterprise which is owned by private individuals.
Since state owned enterprises do not have a sole aim of making profit,
the services that they provide end up being cheaper than services
provided by private enterprises.
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What are the disadvantages of state owned enterprises?
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Importance
Planned development: Its main aim is to promote economic and social development in the weaker
section. It helps to run all the works of development in an efficient manner. It follows government plans
and policies. It generally focuses on private sector. It also earns profit. It provides planned development
by setting up industries too.
Balanced development: Development works are done in planned and balanced way. It also provides
decentralization of industries. It tries to develop all regions in harmonious ways. Balanced development
is the main aim of public enterprise.
Accelerating the rate of economic growth: In developing countries, increasing the rate of economic
growth always gets the first priority. It tries to remove deficiency of economy. It provides infrastructural
facilities for economic development. It provides employment opportunities. Government invests the
money. Amount of capital, technical empowerment and other facilities can be easily arranged by the
government.
Public utilities: Public enterprises provide the utility of transportation, water supply, irrigation,
electricity, communication, education, health facilities and so on to the general public.
Supply essential goods and services: public enterprise provides goods and services to the public at
reasonable price. The government helps in manufacture and distribution of goods. These types of
services are not done for earning profit.
Provide job opportunities: They help to create the employment opportunities in the society and work as
the model employer. They help in uplifting the living standard of the people.
Reducing economic inequality: It removes economic inequality. It helps to develop different regions of
the country. Therefore, it maintains living standard of the public.
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Establishment of social welfare: They help in planned development and balanced development of the
country. They also try in accelerating the rate of economic growth. They are also established for supply
essential goods and services. They help in providing job opportunities to many people. They further help
in reducing economic inequality. Thus, they establish social welfare.
You should first check to see if any analysis has already been done on your
project or idea. Perhaps there has already been some detailed costing work done. If
not, you will need to collect the cost numbers.
List out costs of your solution or course of action:
o Initial or capital costs
o Ongoing costs – what are the costs in the coming months or years?
o Labor costs – how much time will your idea take from people?
o Contractor costs – Are there external labor costs?
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o Supply or input costs
o Non-monetary costs – what is the impact on safety, morale, reputation and
other less tangible things. You may not be able to assess a number to these
things, but you should at least list them for consideration.
Calculate Benefits
The next step in the Cost Benefit Analysis is to estimate the benefits on all the same
dimensions as you did for costs:
Compare Alternatives
You now need to compare the costs and benefits from each of your alternatives. If you
only have one alternative, you are still comparing your option with the status quo.
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Initial Costs
Ongoing
Costs
Time Savings
Supply
Savings
Energy
Savings
Safety
Environmental
Reputational
Morale
Report and Plan Action for your Cost Benefit Analysis
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Where:
To calculate IRR using the formula, one would set NPV equal to zero and solve for the
discount rate r, which is here the IRR. Because of the nature of the formula, however,
IRR cannot be calculated analytically, and must instead be calculated either through
trial-and-error or using software programmed to calculate IRR.
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Public Utility Services 2. Marginal Cost Pricing Rule 3. No-
Profit No-Loss Policy 4. Profit-Price Policy.
Pricing Policy # 1. Pricing of Public Utility Services:
There are a number of principles which govern the pricing of public
utility services. There are public utilities like education, sewage, roads,
etc. which may be supplied free to the public and their costs should be
covered through general taxation. Dalton calls it the general taxation
principle. Such services are pure public goods whose benefits cannot
be priced because they are indivisible.
The best course is to finance the flyover out of general taxation. J.F.
Due has mentioned the following four rules where public services
should be provided free and their costs covered from general taxation.
Firstly, in the case of such services where little waste will occur if they
are provided free. Second, where charging a price will restrict the use
of the service.
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provided to the people. This is essential because municipal services
such as sewage, sweeping street, streets lighting, etc. are underpriced.
Every family of a locality may be asked to pay for them. But since they
are public utilities, they may be charged nominally and the gap
between revenues and costs remains. This is met from general
taxation. This is sort of government subsidy to the users of such
services.
But the service being a public utility, it may set a price lower than its
cost of production so that the welfare of the community is not
adversely affected.
Charging that price would lead to a loss to the PSE. In such a situation,
the public price has to be revised to cover the cost of providing the
service. This is usually done by increasing-block tariff or multipart
tariff and time-of-use rate structures.
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For instance, power charges for domestic light for the first 100 units
may be Re. 1 per unit, Rs 2 for the next block of 200 units and Rs.4 for
the block of next 400 units and above.
The STD charges in India were 1/4 from 11 p.m. to 6 a.m. 1/3 from
8.30 p.m. to 11 p.m. and 6 a.m. to 7 a.m. and 1/2 from 7 a.m. to 8 a.m.
and 7 p.m. to 8.30 p.m., and full charges from 8 a.m. to 7 p.m. till
recently. Time-of-use rates vary by season in the case of water supply
to agriculture, in the case of LDCs and natural gas for heating
purposes in developed countries.
If price equals MC under decreasing returns, the PSE will earn profits
and if it is operating under increasing returns, the PSE will incur
losses. Thus the application of the marginal cost pricing rule to PSEs
has implications for the financial position of the enterprise.
In case the price is higher or lower than the average cost (AC), the
output will not be of the optimum size because the enterprise will be
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earning either supernormal profits or incurring losses. Again, the
output will not be of the optimum size even if the price of the product
equals the average cost.
This output is less than that under marginal cost pricing rule, OM<OS.
Thus resources are not optimally allocated under monopoly. On the
other hand, if the average cost pricing rule q is followed, AC = AR at
point R. The price is further reduced QR which leads to excess demand
for the product as well as in the resources of the enterprise.
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though the enterprise incurs a loss of LK per unit of output. To meet
this loss, the government should compensate the enterprise from taxes
levied on consumers of the product.
It earns AP profit per unit of output. But the marginal cost pricing rule
sets SK price and OS output combination at point K where MC=AR
(Price). But it incurs a loss of KL per unit of OS output. However, OS is
the optimum output of the enterprise under marginal cost pricing.
But this does not follow that the enterprise should not follow the
marginal cost pricing rule which gives the optimum resource
allocation at OS output.
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Various solutions have been offered to this problem. Hoteling suggests
that the government should give subsidies to such decreasing cost
PSEs to cover the loss by levying lump-sum taxes. Lump-sum taxes do
not violate the marginal conditions for consumers of firms.
The first part is the price which is set equal to marginal cost. The
second part is a lump-sum tax per period paid by all users. For
example, an amusement park may charge an entrance fee and then
separate charges for individual attractions such as merry-go-rounds,
children’s train, swings, etc., as is done in the Appu Ghar in New
Delhi.
Limitations:
Whichever method is adopted to cover the loss of a PSE attributable to
marginal cost pricing, there are associated difficulties.
But so far as its use is concerned, the marginal cost of using the flyover
by an additional vehicle is very negligible. This makes the calculation
of marginal cost a difficult work.
2. Administrative Difficulty:
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Henderson rejects the marginal cost pricing principle for its
administrative non-viability.
He writes:
“The marginal cost principle is disqualified from being the sole or even
the main principle of pricing on the score of administrative difficulty.
It fails to supply a principle which is clear and unambiguous.”
3. Managerial Difficulty:
When a PSE incurs a loss, it may not be due to MC pricing but the
result of general X-inefficiency. It is difficult to separate the two
different causes by the loss in practice.
4. Inequitable:
The MC pricing is inequitable. When the loss of an enterprise is
covered by general taxation, it is a subsidy which the users of a service
or good get from the government. But this subsidy is at the expense of
the non-users of the service who are taxed by the government. Thus
MC pricing is inequitable.
5. Diversion of Resources:
When the government covers the losses of PSEs by giving subsidies
through taxation, it diverts the country’s resources from other more
productive uses. This may hamper economic development.
What then is the second best position, that is, the next best position
actually achievable? There is no theoretical answer to this question
because it is not possible to identify the precise nature of the second
best solution.
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7. Adverse Effects of Taxation:
The levying of additional taxes by the government for subsidization of
PSEs leads to adverse effects on the people and the economy. People
have to pay more in the form of additional taxes and their ability to
save and work is adversely affected.
9. Restrictive Conditions:
According to Prof. Graaf, the MC pricing rule cannot lead to an
optimum position unless certain restrictive conditions are fulfilled.
They are technological neutrality, no externalities, perfect divisibility
of factors, and all PSEs to follow the A/C-price equality rule. But the
fulfilment of such a large number of conditions is not possible.
Conclusion:
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To overcome some of the difficulties of MC pricing, the principle of
peak-load pricing is suggested. According to this, the price of a
product or service overtime is adjusted according to the product’s (or
service’s) intensity of use, such as in the case of telephone services.
According to Lewis, the price policy of PSEs should be such that they
should make neither a loss nor a profit after meeting all capital
charges. He further states that what the economists principle supports
is not the MC pricing but a system of charging what the traffic will
bear’ so that consumers contribute to fixed costs according to their
capacity to pay.
The no-profit no-loss policy means that the prices of PSE products or
services should cover total costs. Total costs include all types of
expenses incurred by a PSE in producing a product. They are short-
period and long-period fixed and variable costs of production, current
and replacement costs, depreciation charges, interest on capital
employed, and advertisement, selling and distribution expenses.
These costs may be covered by making the price equal to the average
total costs of production or by following two-part or multipart policy.
Limitations:
No doubt the AC pricing principle leads to no-profit no-loss in PSEs,
yet it has certain limitations.
2. If the demand (AR) curve lies below the AC curve throughout its
length, the AC pricing will not give any output. The total costs will not
be covered at all.
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Two-Part or Multipart Tariff:
In order to overcome the above limitations of the AC pricing principle,
Lewis, Coase, and Henderson advocate two-part or multipart tariff
policy. They divide costs into overhead costs and direct costs. Large
infrastructural enterprises like telecommunications, power and water
systems have large overhead costs and small direct costs.
In their case, average costs fall as production is increased and the price
is below the average costs leading to financial loss.
Its Defects:
The system of charging two-part or multipart tariff has
certain defects.
1. It is difficult to distribute overhead costs between different products
and consumers. In other words, how much is to be covered in the price
of the product and service to the consumers.
Conclusion:
Despite these limitations, both two-part or multipart tariff pricing and
AC pricing policies aim at covering total costs. But in both cases
resources are not optimally allocated. It is only under MC pricing
principle that a PSE is able to allocate resources optimally.
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Pricing Policy # 4. Profit-Price Policy:
In developing countries like India where PSEs are required to play a
dominant role in economic development, PSEs follow the profit-price
policy. The profit-price policy was first put forward in India by Dr.
V.K.R.V. Rao in June, 1959. In a Note to the AICC Seminar on
Planning held at Ooty, he categorically rejected the theory of no-profit
no-loss for PSEs and argued for the adoption of profit-price policy.
Such a policy would make the state utilise its own resources rather
than taxing its citizens. According to him, PSEs must be carried on a
profit making basis not only in the sense that the public enterprises
must yield an economic price but also get for the community sufficient
resources for financing a part of investment and maintenance
expenditure of the government. This involves a profit-price policy in
regard to PSEs.
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shipping, airways, etc., they should earn profits like private
enterprises.
4. Even in the case of those PSEs where the state has a monopoly, it is
not desirable to have a no-profit no-loss policy or charge a low price to
consumers of the product or service. For there is no guarantee that the
users of the product or service will save more on this count. Therefore,
the best course is to charge a price which gives a minimum of profit to
the PSE which will ultimately go to the state for capital formation.
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authority which takes into account not merely costs and receipts of
other enterprises. As far as the manager is concerned, his objective
should be the same as the objective of the private manager which is
the maximisation of industrial profit.”
First, those PSEs which have not broken-even cannot earn profits
because their overhead costs will be high.
Third, in the case of public utilities, public welfare and not profitability
is the principal objective. They try to equate MC with price. They lay
stress on output rather on the rate of return on investment.
Criticism:
1. Certain economists do not favour profit-price policy in the case of all
PSEs. Some advocate a no-profit no-loss policy for public utilities or
the marginal cost pricing rule. Others accept the profit-price policy
with certain reservations.
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4. In those PSEs where the government has a monopoly or semi-
monopoly, there is a great temptation on their part to deliberately
create huge surpluses by charging the users of their products very high
prices. Such a profit-price policy is, therefore, harmful to the society
because high prices can lead to a high-cost economy.
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(v) Fixed exchange rates are more conducive to expansion of world
trade because it prevents risk and uncertainty in transactions,
Demerits:
(i) Fear of devaluation. In a situation of excess demand, central bank
uses its reserves to maintain foreign exchange rate. But when reserves
are exhausted and excess demand still persists, government is
compelled to devalue domestic currency. If speculators believe that
exchange rate cannot be held for long, they buy foreign exchange in
massive amount causing deficit in balance of payment. This may lead
to larger devaluation. This is the main flaw or demerit of fixed
exchange rate system,
Merits:
(i) Deficit or surplus in BOP is automatically corrected,
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(ii) There is no need for government to hold any foreign exchange
reserve,
Demerits:
(i) It encourages speculation leading to fluctuations in foreign
exchange rate,
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