Tuesday, December 17, 2013

Public Sector vs Private Sector

I remember years ago watching a program by Stossel talking about how basically the government sucks at everything.  It's always better to have things done in the private sector.  Why?  Because they care about efficiency, because it affects their profits.  A public sector employee doesn't care if he wastes money.  That's just more money that the taxpayer covers.  It's no skin off his nose.  So you lose all that efficiency when you go with public sector workers.  I guess I bought that argument.  So we need to privatize our schools, are garbage disposal, postal service, whatever else we can, and reap the rewards.

But here's something Stossel didn't mention.  For profit companies have to pay owners, usually stock holders.  In the case of stock holders, these are not people contributing to the production process.  It's kind of like an added weight around your neck.  Also unlike the government you usually have a lot of effort towards marketing.  Then CEO and upper management salaries tend to be pretty high in the private sector.  These are offsetting factors.  Maybe these losses exceed the efficiency gains.  If so then privatization is a bad idea.

You'd have to look at actual data to evaluate the effects, and as I frequently note at this blog this is not something conservatives often do.

I was reminded of this issue as I watched this YouTube video that addressed the costs associated with Obama Care and how those costs are covered.  The poor get subsidized insurance on Obama Care and that's a cost.  In the video it is claimed that some of this cost is paid for by modifications to a program called Medicare Advantage.  What's Medicare Advantage, you ask?

Back in 2003 the Bush administration was selling the Stossel line that things done by the private sector are just more efficient.  So why not have the private sector administer Medicare for those that choose to go that route.  If these private companies can meet the needs of their elderly and can do it for less, Bush's Medicare bill says they get to keep the difference.  Sounds like a good plan, right?

In the video it's stated as if it's an uncontroversial fact that it just didn't work out that way.  It was costing as much as 14 cents on every dollar more to cover seniors under Medicare Advantage than it did under publicly administered Medicare.  Why?  Those reasons mentioned above.  Stockholders want their cut, CEO's are costly, and so is marketing.  Congress through the years has simply passed measures to cover these costs.  It's basically corporate welfare.  They can't compete with Medicare, so we give them an extra 14% and now the stock holders and CEO's get the share that they expect.

Obama Care ends this arrangement.  Medicare Advantage will have to meet the low overhead rates Medicare manages to hit, and if they can't then that's tough.  The result, according to the video, is a savings of $136 billion over 10 years.  Not bad.

I have to admit I'd never heard of Medicare Advantage, so I did some Googling in an attempt to verify this claim.  Dean Baker links to this report from the CBO which generally aligns with what is claimed in the YouTube video.

With this information one might think that these results would generalize.  What about defense contractors?  They also have to pay stock holders and CEO bonuses.  What if we replaced them with civil servants and did the same for other government contractors?  Could we save some money that way?  Yeah, a little.  Only $300 billion per year.  That's the cost associated with the real parasites taking your tax dollars and keeping it for themselves.  Stock holders, CEO's, and marketing staff.  If you want to talk about welfare, why not first talk about the largest share of welfare that exists.  The part that's going to the rich.


Chad said...

Oh no not this again. It is like a drug you can't put down.

Here in America Jon (as you already know) if you don't like what CEO's and Board Members make then you have the ability, the right and the freedom to start your own company - compete with the "parasites' and to do it different. Or you can quit and take your talents to the firm that doesn't pay their CEO $10 mill annually and doesn't have a board or investors.

Unfortunately for us earners out here we have no way to unplug ourselves from the other end of the parasite pool that takes more than $300 billion a year. They have gov't to force us to pay.

Remember most CEO's and Board Members earned their positions through - get this - hard work and or running successful companies. Show me a major CEO or a Board Member at Fortune 500 that doesn't have an impressive portfolio of accomplishment prior to that seat at the board table.

I once again implore you to watch my absolute favorite reality show on TV today - Shark Tank. Its a great show - the sharks are defacto board members to these people and shows the relationship you hate so much. With little effort made by the investors - millionaires are made. They write a check - open a door or two and both get wealthy.

Jon said...

You think I should compete to be a parasite, like a stock holder is? I'm already a parasite. I'm a stock holder. So I own stock in companies, and those companies are paid a lot more than they would be paid if it was being done by public employees. In the case of Medicare Advantage, it was 14% more, though the CBO report indicates it fell back to between a 5 and 10% penalty.

I'm not interested in being a better parasite. I'm talking about welfare and balancing our federal budget. The savings associated with moving to civil servants instead of private contractors is enough to help us get a long way towards balancing the budget. Why are you hostile to that? You're all for balancing the budget on the backs of the poor, but when I talk about balancing the budget by cutting off welfare to the rich you sound opposed. If you want our government to be fiscally responsible why aren't you in agreement with me?

Jonathan said...


Not following why in the world marketing is a net loss for a specific company if that indeed is what you are claiming. The point of marketing is to provide a ROI by increased sales. Or are you claiming a group of companies must compete for the same slice of the pie, thus decreasing overall efficiencies of the entire system which would not occur with a government driven system. If that is your claim, then I believe you are forgetting the marketing costs required even for the government to introduce a change in the population i.e. Obamacare.

Changing the actions of the public often times requires money for "marketing", or effort which also comes with at a financial and opportunity cost. This does not go away simply moving between the public and private sectors.

Jon said...

Medicare doesn't advertise, but companies competing for clients under Medicare Advantage do. That's why overhead for things like Medicare and Social Security are tiny as compared to private health insurance or for profit retirement planning.

Obama Care isn't a product being sold, so there's not a lot of marketing there. There's the effort of politicians to promote it, but you don't see commercials advertising Obama Care. Obama Care is just a system under which other private companies function. Those companies are competing for customers. Single payer health care doesn't have to waste resources on these functions. That's another reason why they are so much more efficient. Also they have no stock holders expecting a hand out and no CEO's making tens of millions.

This is kind of speculation though. If you don't think this is the cause of the inability of private companies like health insurance companies to compete with a public option maybe you'd want to suggest other reasons. I'd think advertising is a factor.

Jonathan said...

Not a lot of marketing for Obamacare? 684 Million sounds like a lot to me.


Persuading people to change their habits often costs money, so again - how is the government not exempt from this?

But I digress - I was asking about your claim that marketing is a net loss for an individual company and accounts for the company "overhead". I'm still not buying it. It sounds like you're asserting that part of the cost of doing business for a given company is a sales and marketing team. Just like lights, water, and other reoccurring expenses. But I think you're offering a false choice here. I can think of instances where at least the sales side could be seen as a fixed cost. Take car salesmen. Sure, it would be nice if people would walk off of the street and buy a car, but without the "assistance" of a car saleman, that business model probably wouldn't work that well. On one hand they are getting paid on commission so each salesperson is making the company money, but on the other hand, you do have to take their paycheck out of the overall profits of the business, so in that sense they are a fixed cost.

But that's not always how things work in the private sector. People can be convinced to use your product simply because it is a superior product. Many companies have little to no sales and marketing. I worked for a construction company which is now worth 100 Million, and they did almost zero sales and marketing. They were an industry leader and experts at what they did, so there was no need to advertise.

This can also be the case for very small businesses as well. Suppose I'm starting off a business and have a few clients that I find by word of mouth. These clients have zero sales and marketing overhead, but my income is small. I spend $300 in marketing, and get $3000 in additional business. Is this a 10% inefficiency, or is this a 1000% ROI? I suppose your issue is in assuming that $300 in marketing would get passed along to all clients. You see this as an inefficiency. I'd see it as an investment.

Jonathan said...

These sure seem like Marketing from Obamacare...


(btw - the article does offer a negative connotation to the marketing effort, maybe there's plenty of great appropriate and effective ads and commercials out there, this is just the first one that popped up on the google)

Jon said...

This is more just start up costs though, not an annual need. They are advertising to make people aware of it and get in at this initial sign up stage, but this is not something that will be there every year. There's some marketing cost, but it's not like a for profit company that always needs to be advertising.

You say advertising is like lights, water, and other recurring expenses. As contrasted with other companies that they are competing against, sure. But I'm asking you to contrast the advertising associated with for-profit companies and with public services. Social Security has lights and water. The buildings. What's their advertising budget? When's the last time you saw a commercial for this program, and contrast that with advertising you see for for-profit insurance companies. Relative to for profit companies SS doesn't have this added inefficiency. It doesn't advertise.

You're saying it's not inefficient because you reap a return on investment. You're comparing one for profit company with another. Compare Medicare Advantage (they must advertise to compete with other companies in the same business) with Medicare, which isn't seeking a return on investment and isn't competing with those that do. Medicare has less overhead because it doesn't advertise. That's one reason.

Jonathan said...


Maybe the difference is viewing it as a fixed pool of clients vs a growing pool of clients. I was not saying it was inefficient because other companies do the same, I'm saying it's not inefficient because if you contrast the 10 clients I would have with zero marketing budget compared to 20 clients with a $1000 sales and marketing budget, there would be a net profit. Thus, the original 10 clients would not have their cost increase as compared to spending zero on sales and marketing, because the pie was growing as the revenues were increasing.

To say it a different way, you'd claim that the cost for the 10 clients in a public program would cost less in overhead than in the private program, but I'm claiming that in my scenario the 10 clients would not see a cost increase because the $1000 spent in sales and marketing went towards gaining 20 additional clients.

Is your argument that in order to maintain a set base of clients, the government does not need to spend money on sales and marketing but the public sector has to? Again, I think this is a false choice. It is expensive to get new clients, but much less expensive if not often times free to keep existing ones. Maintaining a base of clients if that was ones goal can be done by offering an excellent product or service. I think you confuse money spent to gain new clients with money required to maintain existing ones.

HispanicPundit said...

Story sounds great. Even has a certain logic to it. Simple really. How could conservatives be so dense?

Except that it's not so simple. Here is a real attempt at explaining the data. Notice the cause and affect discrepancy between each story line.

Jonathan said...


Some additional thoughts on marketing itself. Why do you think it is that Obamacare requires marketing in the first place? It's a service which should benefit most people, and penalize those who don't take part. at $650 Million, that's about $2 a person to get people on board. But most of this money is going towards old media. It doesn't always take $2 a person to get someone to sign up for something which could be a benefit for them.

Here's one example - I realize it's not exactly apples to apples, but the principle is the same. Let's say you wanted to get 200,000 people to sign up for maybe a podcast. You're starting from ground zero, and it's just you. You're a business of one with almost no marketing budget. One way to do it would be the traditional marketing way. The way some of the corporations you're probably thinking of would do it. TV, radio, magazine spreads etc. Sure, I could see a $2 per person ($400,000) budget for that. But that's not the only way.

Take a look at EntrepreneourOnFire. http://www.entrepreneuronfire.com/income3/ I known John personally, and the guy started a year ago, and had almost no marketing expenses. He created a podcast, and hit social networks himself. He created a very good product and largely word of mouth convinced people to consume his products. This last month his brand grossed around $95,000 and netted $88,000. His marketing budget? $2,000. The month before that it was $1,500, and prior to that I think it was $150.

Here's my point - the guy has a daily 30 minute show. He's been able to convince people to consume his product (podcast or other paid products) with very little money. Let's assume he's spend $20,000 over the past year. That's only $0.10 per new client. And even now, he's spending about $0.01 per existing client if you wanted to chalk up all his marketing efforts to retaining new clients.

I will agree with you if you have an inferior product, or one with little or no intrinsic value you do have to spend money to even keep your clients. Capitalism can be inefficient in these systems. Look at how much money Pepsi and Coke spend to convince us to drink their brand of sugar water. But the choice is not always between ultra efficient government, and huge inefficient corporations. There are other options and other solutions.

One immerging market you might want to keep tabs on is the outsourcing/freelancing world. Two major companies oDesk and eLance just announced a merger. http://allthingsd.com/20131218/odesk-and-elance-merge-to-create-one-big-freelancer-company-but-still-with-two-brands/ They represent a pool of 8,000,000 freelancers / virtual assistants. As I've mentioned before, it's much more difficult to exploit workers with access to an online pool of employers. True, you can still get people for $1 - $2 an hour, and some of this work can be underpaid, but for a lot of people this is a living wage or better, and this market will continue to grow and expand in a positive way for the consumer, employee, and employer in the future in my mind.

Jon said...

Jonathan, I think I may not be grasping you here, or possibly we are talking past each other. Are you thinking that my view is that marketing is wasted money for a for profit business? I don't think that.

I'm saying that generally speaking there's more marketing in the for profit world. OK, let's say Obama Care has a lot of money spent on marketing right now. So in this particular case my explanation for why the for profit side is inefficient doesn't apply. But generally it does. SS has almost no overhead, other insurers do. SS doesn't have stock holders that must be paid, regular insurance does. SS doesn't have the lavish CEO salaries that insurance companies have. And so SS is way more efficient. Their overhead budget is miniscule compared to regular insurance.

Again, if you don't like my explanations for why for profit is so much less efficient, that's fine, you can substitute your own explanations. HP's explanation is the Medicare Advantage is providing more services. OK, that's an explanation, and maybe I'll dig into that a bit more. But the key here is really my last link. The inefficiencies associated with using for profit companies instead of civil servants means the taxpayer spends an additional $300 billion per year. That's an enormous hunk of money. Is it worth it?

HispanicPundit said...

HP's explanation is the Medicare Advantage is providing more services. OK, that's an explanation, and maybe I'll dig into that a bit more.

It's more than this. The argument presented is that the government created the incentives that made Medicare Advantage more expensive. In other words, medicare advantage is more expensive 'by design'. Not because of shareholders, profits, etc.

Jonathan said...


My point is that you're comparing the current inefficiencies of specific large for profit companies vs. the government and advocating a change to the governmental model and ignoring the fact that just because some large companies are inefficient, that's not the only option on the free market side. There are many examples of businesses which are structured in such a way that many of these inefficiencies are eliminated. So if we're discussing ways to change systems for the better, one option would be to advocate for more efficient businesses in which the end user would see subsequent decreased costs.

Taking sales and marketing as an example, it's true that many companies spent a lot on sales and marketing, but in many cases this can be brought down to almost zero. The example I listed was one way in which people can be encouraged to make a change or purchase a product for almost little money. These principles could be applied on a larger scale as well. So if we're going to advocate for a change, a government system isn't the only game in town.

As far as CEO pay is concerned, I guess I haven't looked that close to see how executive pay impacts the bottom line of the consumer, do you have any info related to that?

So my question to you is this - if one could have a similar level of overhead between a government based and private company, which would you pick?

Jonathan said...


That 300 billion dollar figure you quoted from that link, I think it might come from here:


If you notice, in this article, Paul Light mentions potential savings of 1 Trillion dollars, of this 300 Billion you mention.

The other 700 Billion comes from streamlining the government.

That 300 Billion is a back of the napkin number coming from cutting 500,000 contract jobs, AND by demanding increased inefficiencies by the remaining 7 Million government worker.

As I read both the link you mention and the one listed above, it doesn't sound to me like a story even about the inefficient nature of corporations and capitalism at all. It's a story about people taking advantage of a system and milking it for all it's worth.

That's just human nature. You get that with the inefficiencies on the federal worker side, and you get this with poor management and oversite on the corporate / private worker side.

If the story here was "the government is pushing the private companies hard to deliver the best product at the cheapest rate but they just can't compete with the inefficiencies of the government" that would be one thing, but that's not the story here.

Even according to your source, the government has layer upon layer of inefficiencies, and poorly manages companies who take the government for a ride.

Why not push for a system where all parties are held accountable by tying compensation to performance. That's where the real savings and efficiencies are at.

Jon said...

My point is that you're comparing the current inefficiencies of specific large for profit companies vs. the government and advocating a change to the governmental model and ignoring the fact that just because some large companies are inefficient, that's not the only option on the free market side.

I ignore a lot of things in one blog post because I do try to narrow the focus so as to prevent people from shooting off on a rabbit trail. If there's a third way, fine. If it works, fine. What matters here is we're spending billions to have for profit companies due what civil servants could. In other words the job gets done just fine under SS. Pay a private contractor to do it, now you add in the cut to the stock holders, the CEO's, and advertising, and suddenly hundreds of billions more are now required. This is corporate welfare.

You say corporate for profit services providers could be more efficient, and if they were they'd be better than civil servants. Maybe. I couldn't really say. The link I provided doesn't contrast the current system with what you regard as efficient for profit industry. It contrasts the current system with civil servants. So I'm basing my judgment on the evidence that is in front of me.

You say you know a guy that advertised in an efficient way, and I suppose you're saying if other companies did the same maybe things wouldn't be so bad. That's cool, but it's more just food for thought at this point. An anecdote is just not a good basis for evaluating questions like this.

Jon said...

So my question to you is this - if one could have a similar level of overhead between a government based and private company, which would you pick?

I would do whichever worked better. What we're currently doing doesn't work well. Obviously if for profit companies were more efficient, as you think they could be, then the whole conclusion here would be different. My conclusion is based on the fact that right now for profit companies do it very inefficiently as compared to civil servants. If that wasn't true obviously my conclusion wouldn't follow. But it is true. Right now for profit companies apparently aren't adopting these strategies that you say are so much more efficient. So we have to deal with the world as it actually exists.

Your wsj article is subscription only, so I can't see it. So I'll just address your claim that this is not really talking about inefficiency in the for profit world vs the civil servant world. My article is not talking about reducing the work force. It's saying that the cost of a for profit contract worker is 3x what it would be if it's just a person working for the government doing the exact same job. A link within my article shows this with a nice graph.


You say this is not about inefficiency, but abuse. This abuse is inefficient. It means we pay 3x what we would ordinarily pay for the same job. Just saying it's human nature doesn't solve the problem. We have a system in place that apparently doesn't lead to similar abuse (Medicare, SS, other civil servant work that is being contrasted with for profit work). So don't just throw up your hands and say it's human nature. Let's look at what works and what doesn't and do what experience shows works. Handing tasks over to for profit companies is working much worse than handing the task over to civil servants. So we should prefer the latter to the former. Any hypothetical alternative solutions are fine as thought experiments, but basing our conclusions on the real world experience we have I think my conclusion is reasonable.

Examinator said...

Sorry but the premise of your argument is flawed.

First. You are trying to compare apples with tomatoes.
Have a look at the fire fighters and what they actually do (their objective) fight fires not less costly fires.
Some stations have equipment that is rarely used but when it is, 'lives' are at stake.... under the commercial model such equipment could/would be seen as inefficient use of capital (capital risk analysis aka bean counting).... Make no bones about it corporations do assess the cost potential law suits against the cost to profits.(They will not consider lives lost except in $) see loosening of restrictions, cover-ups, costly product changes etc. Bhopal, Hardy building products and asbestos, the oil spill in the gulf of Mexico, Fukashima (they dug the 4 meter cliff away to save on access to sea water … because they calculated the risk as one in 150 years... see radioactive fish caught in California with strontium signature of Fukashima..oops.)
The purpose is different... Chad would argue that provided it isn't his children 'things aren't perfect and maybe it was their stupidity or if they worked harder they could have had a safer environment' et al.

Secondly when it come to health how do you account(ing) or the benefits of say spreading the profit opportunities to GP away from "overly(?) bureaucratic hospitals?
NB the bigger the client base the more non medical capital needed to run the bureaucracy... e.g. bigger hugely more expensive computers, more staff to run them, the more cleaners, trainers monitoring procedures et al.

Be they large corporations of government bureaucracies the law of diminishing return still applies.
The sad reality is that there is a middle or balance point (see 'Peter principle')
Also note the reality of the 'Paul principle' and the implications to achieve and maintain the desired position. This includes anti competitive actions and anti improvement technologies. What about all the better products that didn't have the clout of IBM behind them that Microsoft benefited from. Then there's the anti competitive cross ownership of chip corporations.
What is (I suspect deliberately?) not being factored in is that Obama care will distribute more money to more people that a series of huge corporations can and will save money for the tax payer not to mention spread the wealth/ jobs while by the same logic make corporate capital more efficient. All this is well evidenced from countries that have Universal health or Prescription Benefits systems. (see bulk buy and control against Me too and unconscionable (anti competitive) profiteering profiteering).
The republican coterie simply fall at the first hurdle the difference between selfish ideology versus objectivity. i.e. quantifying and factoring in all the variables. But hell who needs facts or relevant skills ( knowing what to look for) when one has ignorance and opinions.

NB Based on the detailed evidence I've read Obama Care's sic) problem isn't the principle (ideology sic) but one of political opportunist opposition restricting the implementation options by selfish and self-serving players. who define and control public discussion.

Chad said...

"It means we pay 3x what we would ordinarily pay for the same job."

So your against Unions then? When did you switch sides on that topic?

I am confused - the Gov't is wasting the money and you blame it on the Private Sector for being smarter than Gov't yet again? These contracts aren't exactly awarded to the low cost bid and I suspect if you studied the process to be an approved contractor the red tape (created by Gov't), the rules, regulations and other requirements to participate are significant enough to charge that amount.

Your argument actually solidifies that Gov't has no idea how to do anything efficiently even when attempting to be efficient.

Not sure what you were looking for on this one, but it fell really really short.