The transfer of a major branch of industry or commerce from private to state ownership or control.

Author: Patrick Curtis
Patrick Curtis
Patrick Curtis
Private Equity | Investment Banking

Prior to becoming our CEO & Founder at Wall Street Oasis, Patrick spent three years as a Private Equity Associate for Tailwind Capital in New York and two years as an Investment Banking Analyst at Rothschild.

Patrick has an MBA in Entrepreneurial Management from The Wharton School and a BA in Economics from Williams College.

Reviewed By: Adin Lykken
Adin Lykken
Adin Lykken
Consulting | Private Equity

Currently, Adin is an associate at Berkshire Partners, an $16B middle-market private equity fund. Prior to joining Berkshire Partners, Adin worked for just over three years at The Boston Consulting Group as an associate and consultant and previously interned for the Federal Reserve Board and the U.S. Senate.

Adin graduated from Yale University, Magna Cum Claude, with a Bachelor of Arts Degree in Economics.

Last Updated:November 23, 2023

What is Nationalization?

Nationalization refers to the action of a government seizing control of a business or industry away from private investors or owners without compensating them for the net worth of captured assets and future cash flows.

Economic issues are no stranger to governments, and solving them, or at least mitigating their effects, has become some sort of a routine. Problems like market failure can be dealt with by imposing taxes on demerit goods or subsidizing merit goods. 

Another fundamental method that brings what can only be described as a terror to foreign investors and private business owners is when the local authorities decide to completely assume control over their ventures or the industries associated with them through public ownership, also known as Nationalization.

One might assume that such measures only affect the economic sector, but the political intentions hidden behind would gladly disagree. 

Nations that embark on this process usually aim to solidify their power over their domestic affairs, which makes targeting the property of foreigners all the more reasonable. 

Regardless of political interpretations, state control is widely regarded as an economic tool utilized to prop up failing sectors and freshen up the economy.

Key Takeaways

  • Nationalization is the process of transferring control of privately held companies, sectors, or assets to the local government.
  • It is not limited to developing countries. Some developed nations went through a period of absolute government-controlled key industries before converting back, totally or partly, to their habitual economic models.
  • Companies or assets are frequently taken over with little to no compensation paid to the previous owners.
  • State control differs from privatization in that government-run businesses are transferred to the private sector.

Understanding Nationalization

In underdeveloped nations, state control is more prevalent. This is because governments all over the world play an important role in preserving and advancing their economies to protect their citizens and provide the highest possible standard of living

Working with the private sector and providing assistance in times of need is part of this role.

During times of economic instability, such as a war or financial hardship, the government may assist struggling businesses or industries to avoid major economic consequences.

Although this is the most commonly understood method of state control, a government can use it for a variety of reasons, including but not limited to:

  • Stopping Monopolies or oligopolies in their tracks.
  • To gain profit.
  • Ensure or regain economic and social stability. 
  • A method to pressure other nations to respect their national sovereignty.
  • To secure the rights of local and foreign laborers.

Nationalization of the energy sector 

The act of nationalizing the energy sector is a common occurrence around the world. 

For instance, in the wake of the horrors of the Second World War, Great Britain passed the Coal Industry nationalization act in 1946, which brought the entirety of the coal industry under the control of a state-established board known as the National Coal Board (or NCB).

This act was the first of several Acts passed by the postwar Labor government to nationalize parts of the UK's industrial infrastructure; other Acts include the Electricity act in 1947, the Gas act in 1948, and the iron and steel act in 1949.

Perhaps the most compelling examples here would be Mexico's nationalizing of the belongings of major oil producers such as Royal Dutch and Standard oil and Iran's brief attempt to take control of the Anglo-Iranian company in 1951, with each having a degree of success.

In the case of Mexico, this decision resulted in the creation of PEMEX, which became one of the largest oil producers in the world. As for Iran, their economy has taken a massive hit, and in response, Britain was allowed ownership of 50% a few years later.

Venezuela nationalized Exxon Mobil’s Negro project and other assets in Latin America in 2007. 

Refusing to leave empty-handed, Exxon Mobil demanded $ 16.6 billion as reimbursement at first and then settled for approximately 10% of that amount after an intervention from the World Bank in 2014. 

Nationalization of the Pharmaceutical industry in Sweden

In the early twentieth century, the Swedish government felt the need to take control of all pharmacies that they could lay their hands on. Their reasoning is as follows:

  • Regulations to the health sector would be made freely, paving the path for medical innovations without worrying about monetary gains. 

  • The government thought that enhancing the productivity and efficiency of that sector was vital, and they had the capabilities to get the job done.

  • Nationalizing the pharmaceutical industry would in turn bring a better network of locations for the Swedish public.

Therefore, they brought forward a bill to the Rikdag, who, after thorough consideration, rejected it. It wasn’t until 1970-71 that the same bill got the seal of approval, this time by a more left-wing Riksdag.

Afterward, the Swedish government founded Apoteksbolaget AB (later on rebranded to Apoteket AB), whose main mission was to manage and run the different pharmacies within Sweden. 

After intense and prolonged negotiations, the former owners of said pharmacies joined the working forces as government employees.

Interestingly, state control proved to be a triumph for Sweden. Thanks to this policy, the number of pharmacy locations increased from 600 to nearly 900 in the 70s, and the prices of medical drugs were under control.

Unfortunately, Sweden would terminate this project in 2009 as the government liberalized the pharmaceutical industry, allowing. As a result, competitors pour into the market. 

This time, they argued that competition is necessary to provide benefits ranging from long hours of operations, and additional medication availability, to cheaper medicines, things the Swedish government seemingly cannot grant to its people on its own. 

Nationalization of Banks

The prospect of nationalized banks isn’t really a novel one. For example, the British government decided that owning a number of shares in The Bank of England wasn’t enough to cover its expenses and nationalized the entire institution in 1946.

Yet, during the financial crisis between 2007 and 2009, the nationalization of several previously private-owned banks became the norm rather than a rare occurrence. 

When the crisis hit, numerous large governments rushed to intervene in the banking sector in the hopes of preventing any potential default or insolvency risks.

Much to their dismay, that wasn’t enough to save the global banking industry as it was ripped to shreds, with banks in many countries crashing and burning. 

Other banks that suffered significant losses during the financial crisis and were taken over as a result included:

  • The Parex Bank in Latvia 
  • ABN, AMRO, and ASR in The Netherlands
  • The Finnish Savings Group in Finland
  • Dexia Bank in Belgium
  • Northern Rock, Bradford, and Bingley in The United Kingdom

The American banking system wasn’t safe either, as it struggled with the aftermath of the economic recession and whether it should be nationalized or not. 

Left with no choice, the US government purchased $250 billion worth of preferred stock in order to financially aid the failing banking sector. Some of the funds were distributed to major banks and financial institutions such as:

Nationalization in the United States

It may shock some that the United States, the hub of capitalism and the main exporter of private enterprise culture, would have experienced collectivist policies within its own borders. 

Indeed, Amtrak, a passenger railroad service, was handed over to the government's custody after failures in the railroad industries in 1971. 

The same thing happened to airport security as it was nationalized under the Transportation Security Administration after the attacks of September 11, 2001, for security purposes. 

Furthermore, the federal government has to a certain extent, nationalized several other firms, albeit in the form of bailouts where they’re entitled to an interest rate.

The bailouts that the US government granted to AIG in 2008 and General Motors Company a year later could be classified as attempts of “nationalization.” But, if the fact that the government didn’t have a potent role over these companies is considered, that would put the case of American state control up for debate.  

This action of government has some benefits as well as some drawbacks.

Thus, whenever this topic is brought up, a split of opinions and positions instantly occurs. With that in mind, it is wise to look at both sides before making a solid judgment.

Arguments For Nationalization 

This can be seen when the government seizes control of a sector that private companies previously held.

For instance, the Labor government nationalized important sectors, including railways, steel, and power, after 1945. It was argued that the government would be able to manage the industries in a way that served society as a whole.

A nation's desire to control assets or to show its authority over industries with foreign ownership may be reflected in state control, which frequently occurs in emerging nations. Frequently, the businesses or assets are acquired with little to no payment made to the prior owners.

A nationalized railway service is more likely to maintain staffing for quiet, rural services and stations, whereas private owners are more likely to remove the less profitable ones. 

Due to unprofitability, it may affect employment within those services that private companies are likely to terminate.

Here is a detailed breakdown of the considerations in favor of state control.

1. Public Interest

The East Coast Main Line in England, which runs from London to Edinburgh, illustrates how nationalization can benefit the public interest. 

The line was privatized in 1997, but operator National Express East Coast lost the franchise in 2009 because of financial challenges.

According to The Independent, the line was then returned to state control for the next six years, during which time customer satisfaction increased significantly. The government-owned line also made a healthy profit, returning around £200 million to the Treasury each year.

However, the line was returned to the private sector in 2015, when Virgin Trains signed an eight-year contract, only to be canceled in 2018 due to financial difficulties.

2. Natural monopoly

Some privately run industries become so-called natural monopolies, in which gaining access to the market is so expensive that no one can compete against the first firm to take control.

Privatizing the water sector, for example, contradicts the oft-stated theory that privatization drives innovation and lowers costs because establishing a network of separate water pipes capable of competing with the owner of the lines originally handed over from the public sector would be prohibitively expensive.

3. Cost Efficiency 

Privatization supporters argue that allowing the free market to influence industry drives innovation and better service because private firms typically have more operational and financial flexibility than ostensibly bureaucratic government-controlled entities.

This, regrettably, is not always the case. For example, Railtrack, a group of private firms, was given control of the physical infrastructure of the railways, including tracks, signals, bridges, and tunnels, by the government in 1997.

According to CityLab, by 1999, 38 people had been killed, over 600 had been wounded in two major accidents on the Great Western Main Line, with a third major crash in Hatfield killing four more. 

The accidents were caused by faulty tracks or points due to poor maintenance and cost-cutting.

A government report issued briefly after the infrastructure was renationalized in 2002 stated that Railtrack's decision to delegate different maintenance areas to its "incredibly complex web of contractors" had resulted in frequent miscommunications between the firms that comprised Railtrack.

According to the report, "the pressure to cut costs has been immense," which has resulted in Railtrack "skipping on direct spending" and becoming "more concerned with checking paperwork than the actual work being done."

Arguments Against Nationalization

State control opponents stated that Because nationalized industries are not subject to market pressures, they would be less effective, expand more slowly, and respond less effectively to consumer demands.

In nationalized sectors, managers may sometimes be obliged to change their aims for political reasons; as a result, management decisions are frequently not economically sound, and there is often no solid investment strategy in place.

The industry may not be able to use this money profitably since it does not face competition for investment capital from other businesses.

Here is a more detailed overview of the arguments against nationalization.

1. Government interference 

Governments "are not businesses and do not operate on business principles," so their industrial targets are in conflict with those of the private sector, according to Australia's centrist Liberal Democrats.

"Not only do government-owned businesses distort markets, but the money tied up in government-owned businesses would be far more useful in the hands of the taxpayers to whom it truly belongs," the party declares on its website.

The opponents argue that governments are motivated by political pressures rather than sound economic and business judgment.

A government hiring too many workers for publicly owned firms would be an example of this, increasing employment but increasing taxpayer costs and decreasing efficiency. 

Due to the negative publicity associated with job losses, the government may hesitate to fire the employees.

2. Increased Competition

Despite the impending threat of a natural monopoly, proponents of privatization argue that when combined with deregulation, privatization allows "more firms to enter the industry and increase the market's competitiveness," according to Economics Help.

"It is this increase in competition that can be the greatest spur to efficiency improvements," the website adds. "For example, there is now more competition in telecommunications and gas and electricity distribution."

Researched and Authored by Mehdi Naouar | LinkedIn

Uploaded and Revised by Omair Reza Laskar | LinkedIn

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources: