Ian Marsh. Will privatised schools and hospital drive public sector efficiency?

Nov 13, 2015

One of the first substantive announcements of Treasurer Scott Morrison concerned the privatisation of schools, hospitals and community services that are provided by State governments. He enthusiastically endorsed this 2012 Commission of Audit recommendation: ‘Given the size of the human services sector (which is set to increase further as Australia’s population ages), even small improvements will have profound impacts on people’s standard of living and quality of life.’ Morrison pointed to the greater efficiency and effectiveness that a competitive regime can deliver. There is no doubt that market mediated competition can drive performance. The private sector provides daily evidence of this.

But the notion that these approaches can be readily transferred to public services like schools and hospitals and social services cries out for deconstruction. For a start schools, hospitals and social agencies serve many purposes that cannot be easily captured in a unified price measure. How are these more subtle and variegated outcomes, which can vary hugely between individuals and between places, to be incorporated in a contract design? No easy challenge in itself. For reasons the Harper review acknowledges, it is fanciful to imagine that consumer choice can be generally instituted. In it absence, who are the omniscient, all-knowing central agents who will define the precise outcomes that contracted services should deliver? Even assuming this is possible, in practice accountability systems that recognise these wider concerns increase the likelihood of micro-management. And then the alleged benefits of privatised or contract-based settings rapidly evaporate. Innovation or continuous improvement is stillborn. Transaction costs escalate.

Is there an alternative to these dysfunctions? One approach might be to build on private sector practices that directly lead on to service or process innovation. Think of the Toyota just-in-time production system. Toyota deliberately jettisoned end-of-line capacities to repair or correct faults. It deliberately limited back up component reserves in case of supply chain hiccups. Production was stopped by every fault or flaw. But each of these stoppages became a key source of data in Toyota’s never ending quest for improved efficiency. This covered both the immediate production process as well as the wider system in which it nested. Unlike the aggregated information or ‘strong’ signal that is embodied in price data, this approach focused on the ‘weak’ signals that were critical to continuous improvement.

Prices embody the outcomes of a multitude of these weak signals. Note Toyota’s rise to become the major global car company. This was an immediate consequence of the visible hand of management practice – only distantly that of the invisible hand of market forces.

Or note the consistent stellar performance of the Finnish education system. Not one single school is privatised. Instead there is a deliberate focus on identifying obstacles to student performance at an individual level and from an early age. The system deploys more special education teachers than any comparable country. These work with mainline teachers and parents to identify under-performing or troubled children. They focus on these early ‘weak’ signals and initiate immediate remedial action. Approximately one third of the pupils in Finnish schools receive extra support in special education classes.

So markets and contracting by all means. But if they are to work the invisible hand of the market need to be supplemented by the visible hand of ‘weak’ signals. These are the building blocks of continuous improvement. Of course the challenge to identify pertinent weak signals varies widely. The relevant indicators are not the same in routine or highly specialised surgery or in Accident and Emergency or routine hospital care.

Translated to a contracting system, how can this be achieved? In principle the answer is simple. Contractors need to report not just on the outcomes that they believe they can achieve but also the means that they propose to use to achieve them. Then they need to be held to account for both outcomes and means. A central authority then needs to manage accountability and learning about these means. Its role is to learn and then to share this information amongst providers.

The core ethos of such a system is learning about means as well as outcomes. Its unit of exchange is the means used by different providers who are working towards broadly similar ends. But these exchanges will typically not involve anything that could be described as ‘best practice’. Most service settings are too contextualised to allow codified or standardised service designs to be developed. Service decisions need to take into account the circumstances and needs of an individual person or a specific place. In a technical sense decisions are ‘transaction intensive’ – prioritising the needs of individuals or places and mostly blending the technical skills and the empathic judgements of practitioners. Thus a teacher must respond to the circumstances of her students, a doctor to the needs of her patients. In both instances, the hardest cases can provide the richest source of systemic learning.

Indeed where services can be codified and standardised price mediated exchange will be a sufficient driver of performance. Where the latter is not possible, price mediated exchange will not by itself drive performance. Unless contracts or other systemic arrangements also disseminate learning about means, rhetorical promises of efficiency and continuous improvement will be misleading, indeed chimerical.

In a justly celebrated book, The Visible Hand, the distinguished Harvard economic historian, Alfred Chandler, showed the extent to which business efficiency in the United States was the product of superior management not in the first instance price mediated exchange. In seeking efficiency and continuous improvement in the much more complex world of hospitals, schools and community services this visible hand is even more critical.

Over the past thirty years, the discipline of economics has been a fertile source of models and frameworks for the redesign of government and of public services. But as more complex, transaction intensive services (‘wicked’ problems) have come increasingly to be the focus of attention, the limitations of price mediated exchanges need to be acknowledged. This is not the royal road to innovation and continuous improvement. Pace the Harper Review, the design of a functional innovation system is a more complex and more demanding challenge.

Ian Marsh is a visiting professor at the University of Technology Sydney’s management school.

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