Our paper focusses on two efficiency arguments commonly used in transition economics.
The first one, productive efficiency, claims that production is more efficient in a private firm because better incentives can be given to managers and employees.
The second argument, allocative efficiency, claims that public firms are socially more efficient because the government cares about social welfare and internalizes externalities.
The demand for government intervention, to mitigate the consequences of the financial crisis, is often motivated by the second argument, while the first one is not discussed.
We argue that there are two possible forms of government intervention.
The first is general intervention, e.g. tax reductions, and the other one consists of bailouts and nationalizations.
One difference between the two is that nationalizations are, logically, impossible in the case of public firms.
A difference for the owners of a private firm is that general intervention is normally preferred over a nationalization, the latter potentially in the form of expropriation of the private owners.
Managers and workers have similar incentives, since nationalization may imply that they have to repay their bonuses or that they may loose the shares they own in their company.
The government, however, prefers nationalization over general intervention in cases where the latter becomes politically to costly.
We contend that this is the case when firms have grown too large.
Nationalization can be less costly as it can be done with expropriation, politically it can be more feasible since the ownership of the firm changes.
Public ownership of firms enhances allocative efficiency by subsidizing loss-making public firms when liquidation of these firms would entail externalities.
This subsequently decreases productive efficiency, as managers and workers run a smaller risk of loosing their job.
The government can, however, also intervene in favor of private firms, and we show that this possibility implies that productive efficiency is not necessarily bigger in private firms.
The subsidization of loss-making public firms in addition imply that risky investment in public firms take more often place, so there might be overinvestment from a social welfare point of view.
Allocative efficiency can therefore be higher in private firms, since risky investments could induce painful nationalizations, thus reducing the risk of overinvestment.
Our results on allocative and productive efficiency thus contrasts with those of the existing literature, and thus add to transition economics.
Additionally, our results imply that the government interventions in the financial crisis can have detrimental effects on allocative and productive efficiency.