The Taste of Public Money. Should advocates of government spending cuts accept or refuse from public money?

The following article was prepared based on a paper which was delivered at the first think-tank school organised by LFMI in Vilnius in November 2004.

For more than a decade employed in a non-government organization, advancing the ideas of free market and limited government, I have constantly confronted a dilemma – what to do with government funding. Official money, of course, has not knocked at our door itself, but the opportunities were always present to take part in various national and international tenders. We have suffered an uneasy fate to go through a maze of doubts, arguments, justifications and condemnations which has given a rise to the framework of “good conduct.” Today I would like to share it with all those who are still being plagued with doubts – to accept or to refuse money from the government.
But let’s start from the beginning…
If we look through various definitions of private enterprise, free market and capitalism, we will find out that the essential feature that distinguishes a private undertaking from a government one is the type of ownership. If the shares in a company are owned by private individuals, it is private; if they belong to a government agent, it is state-owned. If private agents participate in exchange freely, we are witnesses of a genuinely free market, and if government agents do so, then it is some sort of state capitalism. If the means of production belong to private individuals, we have capitalism, and if they are owned by government and public representatives, then it is socialism. And further go the well-known conclusions: private equals efficient, state-run equals wasting, capitalism equals prosperity, and socialism equals failure.
I certainly do not intend to refute these fundamental and proved statements: they have been, are and will remain true. But the modern-day world has revealed one more important criterion that can help to draw the line between the private and the state-owned, and the effective and the profligate. It is the “consumption” of government funds. Currently, it’s a pressing issue to be analysed as from one-third to three-quarters of countries’ total expenditure is derived from state budgets and funds.
If we take into account the criterion of funding, in addition to the type of ownership, real life situations fall into the following four groups:
A) State ownership and state funding. In Lithuania such are public schools, hospitals and other budget institutions.
B) State ownership and selling in the market. For example, state-owned enterprises that are not furnished with state grants.
C) Private ownership and state funding, including public procurement. The number of such cases has increased in line with the emergence of structural funds of the European Union. There are plenty of them in the agricultural sector, road building and the re-processing of subsidized products. Unfortunately, many of such instances are in the non-profit sector as well.
D) Private ownership and selling in the market. These are private companies that sell their products and services to other private companies or individuals. This group predominates, at least in Lithuania.
In real life, apart from a genuine state sector (case A) and a genuine private sector (case D), to which we may unarguably apply the conclusions described in the first paragraph, there also exist quasi-state and quasi-private sectors, as in cases B and C. What do we know about the effectiveness and motivation of these sectors and what implications does the activity of such enterprises impose on an overall economy?
Let’s analyze case B – a state-owned company operating in the market. The undertaking is not being subsidized, it doesn’t receive government contracts, and it doesn’t even take part in public procurement. In this particular case an ineffective redistribution of resources takes place at the point when the state forms the capital of the company. If afterwards the company is no longer being fed with government money and is granted no legislative privileges, we may say that state intervention has ceased. The company competes with other market participants on an equal playing ground. When the company does not accept injections of government fund, its activity undergoes a kind of privatization. If the government succeeds in finding a motivated manager and employees, the company may operate at a profit, if not, it is most likely to fail. Although, in reality, state-owned companies rarely go bankrupt because in most cases they are simply “cured” by injections from the government, only then it will be case A. Finally, state ownership can be quite easily privatized by selling its shares.
To sum up, the existence of state-owned and non-government funded undertaking is harmful to the market, and this harm is tantamount to financial expenses that have been incurred to form the company’s capital and the damage that was imposed on its former competitors at that point of time.
The situation is different in case C when the undertaking is private but the funding is public. It’s small difference whether the funding is extended “for free,” as a grant, or as payment for services delivered or goods sold. The essence is that the state turns into a central partner for this type of companies. If they aim at receiving government funding, they are forced to shift their activities towards a new, non-market direction. By declining the verdict of consumers, such private businesses bring upon themselves the verdict of the government. In a sense, nationalization of the company’s activity takes place – translation from the private to the public domain. If the company is being focused on government funds for a long period of time, its mentality, pricing, marketing and all other elements of activity undergo marked changes: they are tuned to satisfy the state’s rather than the people’s needs. The disorganization of resources occurs when the state resorts to issuing money, that is, all the time. This situation has only one advantage: it’s slightly better than case A where there’s no private element at all and thus no opportunity to perform efficiently.
In line with rising government spending, increasing public procurement and emerging opportunities to use various structural funds, a number of enterprises are faced with a dilemma – to seek or not to seek, to take or not to take money from the state. Each company has an answer to this question which naturally is profit-motivated: if the project is profitable and the bureaucracy and time-wasting involved do not frighten away, a good deal of businesses become entangled with the government. The dilemma over accepting official funds or not is especially acute for those who do not seek profit. I am talking about not-for-profit companies. It is particularly strenuous for NGOs that advocate values, entirely contrary to the government’s mind, and for those who in one way or other call for curtailing government spending.
The first answer that comes up is this: once your mission is to reveal the vices of state funding and champion spending cuts, you should start from your own backyard in the first place: don’t accept government money. Not a single form of it. This recommendation may well be applied to those people who grumble at public health care (go to the private!), mumble at the government (don’t vote!), etc. As they say, let’s be poor, but just. Such attitude is certainly very dignified; however, an isolated act of protest seeking to trim government spending is overly ineffective.
The primary reason why it is so is that one or two protesting cries won’t change the system. Budget revenues will still be spent as they’ve been planned because it’s in the nature of the government – to imbibe projected budget money to a single penny. And let’s forget that the tax burden may be eased just because one or two champions of the free market act in a particularly honourable way. The funds will all the same be “sheltered” by someone else, perhaps some confessant of social democratic values. As a result, free-marketeers will attain next to nothing, or perhaps will be ousted from the game altogether, because they are sure to fail in competing with those who accept government funding. A boycott may encourage essential changes only when it is massive. Unfortunately, in a time when everyone is setting their bag for structural funds, a massive boycott against state funding is but a mere illusion.
In addition, this vice may get even worse, if the state, failing to find a needed service on the market, establishes a public provider of this service. Consequently, we will have case A with all (even more deleterious) flaws.
So should we take public money nonetheless? Being well aware that it’s wrong, but opting for the least vice of all? Understanding that the ideal striving contracts sharply with the real environment, forcing to admit the existing rules of the game? Should we go on devising pros for government funding to justify ourselves: ‘private customers are not saints either’ or ‘the government will take heed to proposals when it pays’? Should we envisage favourable changes in the fact that free-marketeers are beginning to win government tenders more frequently?
This is for everyone to decide individually. However, those who choose to accept public funds may derive some benefit from the following pieces of advice.
First, when free-market groups plan to take government funds, it is very important to make sure that the money they are aiming at will be spent for one purpose or another and that the projects they take part in are not some “extra” programmes which will require an increase in the tax burden.
Second, it is crucial that think-tanks accepting public funds manage to pursue “a non-government mission” or to work over the issue of limiting the government. We know that the dismantling of a state system can be accomplished only at the will of the government itself, so it would be brilliant, if government money served as the investment into its own reduction. This is similar to dismantling of the state social insurance system: it needs to be financed, but the process has a happy ending. Such projects are rare exceptions among those commissioned by the government. However, when they occur, free-market think tanks simply do need to participate in them.
Third, once think tanks accept public funds, they should admit it openly. We shouldn’t delude ourselves that “we are not funded by the national government” (when we are financed by the USAID or the PHARE programme) because it runs something like this: “We are not stealing from the Lithuanian taxpayers, we are stealing only from the US citizens.” Moreover, we should not shift the responsibility onto the shoulders of the government: “We have just created a product, and the government has purchased it.” Of course, sometimes we never know who has acquired our product, but it doesn’t obtain in cases when we compete for official money. Any shape of cheating ourselves postpones real understanding about the virtues and the flaws of government funding.
Fourth, think tanks should not get addicted to government money. It is as drugs – overdosing can be lethal. A clever posture would be to maintain a cautious distance by diversifying income sources. After tasting government money and penetrating its mechanism, it’s highly recommended to pause and have a break. For recovering your health.
And my final point – which is getting unshakeable every day – is that after becoming enmeshed in a maze of government funding you quickly realize how little it pays back! Many think tanks burn their fingers: gigantic bureaucracy, tremendous piles of work to be done, “overworking,” special quadruple accounting and, most importantly, no satisfaction whatsoever with the toil which either will be placed in a drawer as overly “correct” or will evoke a suspicion, if used for some purposes.
If think tanks, being the partisans of the free market, have a different stance and extremely enjoy taking money from the government, they should think very well indeed if they are in the right shoes!