Introduction

Performance contracts (or the memoranda of understanding (MOUs) as they are called
in India) between government and Public Enterprises are being actively promoted in India.1
___
Similarly, the holding company to 'distance' public enterprises (PEs) from government is being
given a second trial in India.2 While the efforts may have emerged out of the Arjun Sen Gupta
Committee's recommendations, they are also being independently pursued. Yet there is much
uncertainty in these efforts. Witness that Bharat Business International3 which had been set up
less than a year ago without any debate or consultation by the government, was to be wound
up by the Chandrashekar government, and is now apparently having a second lease of life.
These mechanisms have also attracted the attention of academics particularly from the
management schools. There is much discussion on the advantages and disadvantages of
these mechanisms, as also their relative merits on purely a priori considerations of their
design4. Government itself has pinned much hope on the MOUs, to reduce dysfunctional
interference, and to reorient the enterprises towards their primary goals and tasks.
At the outset we must state that conceptually the holding company mechanism and the
contracts between government and public enterprise are not competing mechanisms but
complement each other. Performance contracts have been a useful instrument in the
management of PEs in France, and South Korea very recently. In Italy and Sweden the
holding company has been used rather successfully. The holding company as an instrument is
quite important if government has to deal with a manageable number of public enterprises
through formal contracts or otherwise. Certainly one important element in the dysfunctionality
of the interface is that Governments in countries like India have to deal with a large number of
PEs separately8. We would like to interpret the holding company concept functionally rather
than legally. Discussions on holding companies have tended to get bogged down in the legal
form of the holding-company, and in attempts to define the holding-company. Legally the holding-company
concept is hardly ambiguous. But functionally holding companies (private
and public) in their relationship with their subsidiaries and affiliates have shown great variety,
so that we must narrow down the holding-company idea functionally rather than legally. We
would tend to see it as a large firm that controls the strategic decision making of other largish
units, through among other things, appointment of chief executives, boards, or key personnel,
and possibly control over investment and resources. The operational and managerial decision
making is still very much with the units. Share holding provides the basis for this control.
Functionally therefore a 'legal' holding company and its constituent units could be very similar
to a large divisionalised enterprise9.
That both holding companies and the contract instrument are being actively pursued
today is indicative of the emerging pressures to reform the PE system. (The exploration of
privatisation as an option is also an expression of the same pressure.) It also tells us that as
much as in the past when similar experiments had been tried out there is an enchantment with
the formal structure of organisations and their interrelations. The source of ills is being seen in
the formal structure of things. No one can deny that the structure of organisations is important
for performance. But we would suggest that the true content of these mechanisms whatever
the stated objectives are, and however good the design may be, are already showing signs of
being distorted and ritualised to serve the purpose of keeping the public enterprise system in a
state of dis(mis)orientation. This would suggest that the leverage point to bring about change
is hardly in things formal - in the interface as formally defined or introduced. They lie in matters
that are political, economic and social10.

The contract approach

The contract approach is potentially an important mechanism by which Governments
can exercise control in a functional way15 assuming of course that there is the desire and need
to do so. We will list out briefly the more important potential advantages in the contract form.
(1) When the contract is truly debated and agreed upon by managers and bureaucrats it
becomes reverent and therefore important on that score.16
(2) The agreed upon targets can be made difficult enough to realise significant gains in
performance, and yet not too difficult to be de-motivating.17 Indeed the clarity can contribute to
motivation independently of the (known) rewards and punishments which quite obviously prod
the top management towards task orientation. Feedback is well recognised as a vital element
in motivation by organisation theorists.18
(3) Management of change across large organisations becomes possible in the flexibility of a
periodically negotiated contract: During the tenure of the contract it shields the organisation
from the buffeting of the environment, yet the signals from the environment can also be
incorporated as the content of the contract changes periodically. In other words a well
institutionalised process of contracting by goal oriented governments, with their PEs, has the
potential to translate and carry its goals (which may have been derived from a Plan or a certain
ideology) effectively down to the productive units.19 And in bringing about this purposiveness
can greatly enhance the performance of the system as a whole.

Problems with the contract approach

Yet there are many fundamental problems. The contract approach presumes that
there are adequate skills, knowledge and information available with both parties, so that one
cannot befuddle the other; and the costs of ensuring this can be quite large. This problem is
well recognised and yet may not be the most important one.
The more important problem emerges from the very nature of government in most
societies. There is rarely the extreme consensus to agree upon a distinct role for public
enterprise, or to interpret and accept the signals from a changing environment in a particular
way. These are necessary for a truly dynamically functional contract. Government can differ
within itself or may chose to avoid clarifying statements, thereby diluting its committment to the
contract. This aspect would mean that it would be a mistake to see the contract as nothing
more than a well designed management control system (MCS) that is fundamental to large
and effective organisations in the private sector: The need to survive and produce adequate
returns places unambiguous pressure on the top managers of large private organisations to be
goal oriented or else to die out. This constitutes the drive to ensure task orientation throughout
the organization. An MCS is the formal expression of this need and practise, while informal
things such as an inculcated sense of belonging and identification, of conformity, of a
company ideology, intrinsic motivation etc., supplement the MCS. Governments on the other
hand are generally subject to pulls and pressures from the various classes, interest groups,
and from the tenets that derive from its ideology and politics. These can rarely be translated
into clear and mutually consistent goals. Even when they are, as for instance during a time
when there is much political consensus, the problem of change and slow deterioration in the
meaning of the clearly enunciated statements of governments arise. Rhetoric and stated
policies can differ vastly from the true postures of the government.20 This is why where there is
great national consensus, as in South Korea (where it is maintained by force) and Japan
(where it emerged since the Meiji Restoration and has become intertwined with the culture),
governments routinely take up goals for the development of particular aspects of the economy
and are able to successfully pass on these goals to productive enterprises both public and
private. In South Korea even before the institution of a formal contract system the interface
was hardly dysfunctional the way it is in the African countries or in India; and it is therefore
hardly surprising that when the relationship was formalised and improved technically it worked
even better. Similarly , a national plan in France when it was on the phase of catching up with
the USA and Britain in the post World War II period, and in India up to about 1964 when the
Second and Third Five-year Plans were being seriously implemented , despite the lack of
formal and technically well crafted contracts between the Government and PEs, the goal
orientation of both the Governments - in France in a limited number of sectors and in India in
very many sectors of the economy-was effectively translated to goal and task orientation of the
PEs21. In France the oil shocks, the political changes that took place a little later, as well as the
very development during the post World War II period meant that a new consensus and
orientation became necessary. In India both the success (because it created new pressure
groups) and the limitations (because it could not be pushed further) of the Mahalanobis Plan,
meant that the early and limited consensus of the post independence period was no longer
there; and the crisis of the public sector with the sharp fall in public investments emerged in the
mid-sixties. Today, there is much reexamination of the role of the public sector as also of the
Government, and the ongoing liberalisation of the economy as also privatisation have not gone
far enough, nor have the contradictions in society been "resolved" in a way that can ensure a
(fresh) consensus view by the Government on the role and task of the public sector22. Under
such circumstances government is hardly in a position to give goal direction to the PEs and
attempts at formalisation of the interface through a universal contracting system nevertheless
may only serve to ritualise the same, or what is worse can be subverted to restrict and impede
the spread of whatever little goal orientation there is in the system, in certain large well
performing enterprises; and more importantly can thwart the pressures for change that have
emerged from the environment, not the least of which is the fiscal and 'policy' crisis the state
faces today23.
Contracts are not MCS
There is another aspect in the contrast between MCS in large private organisations and
the contract between government and PEs that needs to be stressed. When in the private
sector top management sets up performance criteria for the lower levels "the golden rule of
fairness" i.e., that the manager be held responsible for only those things for which he has
control is well recognised (in the design of MCS). This is because top management takes upon
itself the strategic function (of boundary maintenance) and owns up to the effect of uncertain
and unknown factors (such as those environmental) 'beyond its control' over the time frame of
the MCS cycle. Similarly, it is claimed that the contract ought to be fair to the PE manager.24 It
is not being argued that contracts, in very many practical situations, should not be fair to the
manager, but that the full implications of such a position ought to be realised. PEs as
organisations have to deal with the environment, and if they have to be living organisations in
a state of homeostasis, and be growing, it is necessary that they are able to respond to the
changes in the environment. By forcibly dissociating the PE manager from the environmental
uncertainties, the essential aspect of organisations, viz. adaptability and responsiveness are
certainly being given the back seat. One may counter argue that the strategic functions need
not be carried out by the PE but in a body external to it such as a specialised bureau within the
government. Indeed one aspect of central planning and planning of the inter-sectoral
consistency type practised in India is precisely that of the Government taking upon itself the
bulk of the strategic functions. While it is possible for governments (or specialised bureaus
within the Government) in the early stages of a society industrially transforming itself to carry
out the task of balancing supplies and demands, as the number of commodities become
large, and as incomes go up resulting in varied tastes finding expression, or as the constraints
on consumption are relaxed such attempts at balancing have proven prohibitively difficult.
More importantly in areas where technology changes rapidly, the transfer of the strategic
function to government implies that the quality of the relationship between government and
enterprise is high and many dimensional, with little scope for dysfunctionality. Barring MITI's
guidance of high-tech industries in Japan, which have been eminently successful, or the
French Government's initiation and direction of new developments in aerospace, railways, and
such others, governments have typically found it difficult to appropriate the strategic functions
in high and rapidly changing technologies. Even when strategy originates within the
government there is no denying the need for the enterprises to be associated in its formulation.
Highly structured and entirely measurable contracts, by being 'fair' to the manager have the
dysfunctional potential to negate the stimuli coming from the environment in the form of the
unexpected.
Furthermore, what is and what is not under the control of the top management can
always be debated. A better informed and far sighted manager may sometimes be able to
anticipate major changes in the environment while most others are caught unawares. A
contract by strictly adhering to 'fairness' in the MCS sense would hardly ever demand of the
manager the brilliance that can overcome major threats. It is often suggested by contract
system designers25 that use of constant prices can be fair to the manager. But we would agree
with certain perceptive scholars26 that in solving one problem it creates another- that of the
side stepping the need to reallocate resources as prices change. In societies where prices
constitute the important mechanism linking all producers, and them to all consumers, and into
an organic whole, if the response to prices is thwarted, then an essential force for economic
change is being smothered. Remember that constant prices are pure fiction when it comes to
measuring the sources and uses of funds. It may not be inappropriate to recall the Pakistani
attempt with the contract approach. The contract system in Pakistan designed by Leroy P.
Jones failed inter alia because of the mismatch between performance as measured by
constant and 'fair' prices (which favoured the enterprises) and by the usual current and all
inclusive prices that showed large deficits. Deficits which cannot but accumulate could hardly
be fully covered by the government of a mixed (capitalist) economy that is Pakistan, and the
attendant crisis pushed the Pakistani economy faster towards privatisation. The Pakistani
experience does provide substantial support to Janos Kornai's percept about the tendency of
budgets to 'soften' in the mixed economies, and of the limits to 'softening' too. Formal contracts
that work with constant or other adjustable prices on a regular basis open the door wide to
'softening' budgets. That is we must recognise that growth and change is hardly a smooth
evolution and the attempt to make it smooth for the PEs only displaces the uncertainties
elsewhere, upon the people and government. Relative price change is only one aspect of the
signals from the environment. There are many others such as changes in tastes, fashions,
technologies from which organisations ought not to be continuously shielded.

Economies of scope and scale

One of the strong arguments for grouping together PEs is that the large size obtained
thereby would be conducive to better professionalisation of management, personal
development, R&D on a meaningful scale, and developing strengths vis-a-vis transnational
corporations. The counter argument is that large "monolithic organisations in the public sector
are bound to become flabby and turn into sick giants"29. Certainly the advantages of size are
far too important to go unrealised in any serious effort towards industrialisation. Late
industrialising countries have taken recourse to large and tightly knit organisations particularly
for technological absorption and sometimes even leap frogging, for exports and market
development, often simultaneously developing close links with government.30 The case of the
'Chaebol' of South Korea is only the latest in this line31. The fact that these are private sector
firms is not particularly important because so close has been the working of government and
private enterprise that it may not be very meaningful to use terms such as private or public with
the same connotations that they carry in western societies, or for that matter in India.
Coordination and holding companies
Coordination between PE's has been an major plank on which the need for very large
holding companies and the sector corporation has been floated. If we stop to consider this
thesis, in the Indian context there is a certain (untenable) assumption being made here - that
coordination necessarily involves formal structures and that coordination can only take place
though control at the very top. We must realise that:
(1) Coordination can and does take place through markets in very many goods & services;
and regulation can enhance the performance of markets.
(2) Even when there is 'market failure', there the all kinds of arrangements, that can be
taken advantage of to bring about co-ordination between firms in capitalist economies.
Besides cartels, joint-production, sharing of development costs such as R&D, joint-ventures,
technology transfer and co-operation agreements, consortia, sub-contracting, etc., are all
available and well used methods for co-ordination between firms. Countries like Japan and
now Korea have used such arrangements to achieve probably higher levels of efficiency than
what was possible through markets alone even well developed ones33.
To nevertheless insist that coordination requirements necessarily justify a
holding company would in effect mean that we are unwilling to look beyond the narrow
hierarchical coordination (movement of information and orders) typical of bureaucracies. This
kind of hierarchical on centralised coordination, while it certainly has had a logic of its own in
command economies during their phase of extensive development and capital accumulation,
would very well be out of place in the so called mixed economies of today which in essence
are only capitalist (market economies). This notion of coordination as a centralised activity
also perhaps underlies the presumption that when an entire industry is in the public sector then
there can or ought to be a sector corporation34. Equally serious is the (untenable) premise
implicit in the proposition about the sector corporation: Implementation of policy and its
regulation can be done by the same set of people i.e. the regulators and regulated can be one!
Certainly invalid in societies such as India.

PEs swimming free

In Latin America, Mexico, Indonesia and elsewhere, certain large PEs have effectively
become free of the administrative control of government, and have instead become de facto
parallel centres of power, resources and influence. They are sometimes even able to
illegitimately influence the political process. In India this kind of danger is certainly a possibility
if PEs were to wrest a great deal of autonomy and the government machinery proves
inadequate or incompetent to control them functionally i.e., at the level of strategic decision
making and in terms of the primary task. Yet, the danger has been exaggerated: Not only
because the economy is quite large even in relation to the largest PEs, but also because of
the role of planning. Economy wide inter-sectoral consistency plan of the kind practised in
India (no doubt with increasing ad hocism) necessarily centralises much of the resource
allocation process. Moreover, given the tight exchange regime, control and regulation of
international trade, investments and technology import, the scope for government to control
PEs though economic and other policies, and by financial allocation is very large. Thus
banking in India despite much operational and managerial autonomy remains well in the
functional control of government through regulatory monetary and other policies.
Functional autonomy would actually increase the control of government over PEs, in a
task oriented sense. Indeed, we may say that it is the inability of the governments in Latin
America and elsewhere to exercise functional control which has made these enterprises by
virtue of their size, important role in the economy, quick growth, and large retention of
earnings, to escape the control of government.