I seem to have found myself in a number of discussions recently where the role of public and private funding has become a hot topic – not specific to any scheme or country but in general – so I decided to write up my own view of this.

Most parts of the modern world take a position that private enterprise should prosper where it makes sense, and that Government support of some kind should be focussed where its most needed. I haven’t met any fundamentalists recently so no-one questioned this and the focus of debate was primarily on when should the state intervene and what form should the intervention take.

Personally I like graphs – especially ones with axes that have no clearly identifiable scales – so this is my graph of where and how might a state fund industry.

public or private investment

Models for public or private investment

On the vertical axis is the expectation of “commercial return” likely to be measured in terms if Internal Rate of Return (IRR), etc. On the horizontal is the expectation of “economic return” measured in terms of Gross Value Add (GVA) or Economic Rate of Return (ERR).

This graph assumes that generally where there is a sustainable business case, private enterprise should be left to find its own investment, and that public funds are generally focussed on areas where there is the strongest economic return (lets park the role of social return for another time).

In this model, proposals without either economic or commercial return are without merit, but it suggests that different forms of public investment may be needed for different degrees of commercial return in order to minimise the market distortion.

So where there is a marginal case for a commercial investor alone but its considered of high economic value then a light touch approach which bolsters confidence in the investment markets may be the best approach – something like a loan guarantee scheme perhaps.

As the commercial case weakens, then the state may need to consider direct investments in the form of loans or shares. Where the commercial case reaches a point where a sustainable business model can deliver zero return then the public investment in practice becomes a grant.

In the extreme, where there is essentially no private investment case and where no amount of confidence building or underwriting will make a sustainable case the only remaining option may be a state-owned venture – most typically strategic utilities. Some western economies also make a case for state-owned enterprises where the economic imperative is extreme and its viable delivery so strategic that its felt any risk of possible failure is too high.

This is in essence, at a very high-level, my interpretation of how the EU rules on state intervention tend to work, and how other market economies further afield tend to approach the role of public investment. What this approach doesn’t do is consider the social return on investment which is something for another day!

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