The time is ripe for privatisation in higher education, argue Paul Clark and Mike Baxter, while Jonathan Rutherford says universities need state aid.

Corporate language has become the fashion in higher education. Ministers constantly refer to the knowledge economy and to the need to encourage "entrepreneurial universities". In 2000, David Blunkett went for the double whammy, warning that "in the knowledge economy, entrepreneurial universities will be as important as entrepreneurial businesses, the one fostering the other. The 'do-nothing' universities will not survive - and it will not be the job of government to bail them out."

More recently, education minister Margaret Hodge announced a national mentoring scheme to help vice-chancellors adapt to the new market conditions, praising their "excellent work in leading and managing their businesses". Digby Jones, director general of the CBI, welcomed the scheme and its hoped-for impact on "innovative research and development". But adopting the language of corporate enterprise and supposed innovation is one thing; encouraging genuine innovation and creativity is quite another.

The engine behind this entrepreneurial trend in universities is the increasing corporate need for learning and knowledge. Private education-related companies relish the prospects. Last year, John Makinson, group finance director of Pearson plc, told the Merril Lynch TMT conference: "Rarely has there been quite so much positive activity on the education scene."

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Capital Strategies, the independent corporate finance house specialising in the UK education market, predicted "exciting developments in the education outsourcing market".

Part of the interest is due to the Private Finance Initiative, which is transferring university infrastructure to privately owned corporations, integrating it into the for-profits services economy. Support Services groups such as Amey, W. S. Atkins and Sodexho are exploiting the increasing access to public-sector markets and gaining 30-year, ring-fenced capital flows for future corporate growth, borrowing and acquisitions without the risk attached to equities markets.

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One rationale behind the deregulation and marketisation of British universities has been the link between higher education and increased economic productivity. Yet economists do not fully understand this link. While a graduate increases his or her choices in the labour market, there is little evidence that higher education increases a worker's productive capacity. We do not know how knowledge behaves as an economic resource.

A significant factor in economic growth is the flow of ideas, but how is this translated into productive output? There remains a large gap in understanding the returns on human capital and creativity. As American economist Paul Romer says: "What's interesting about the knowledge economy is that we haven't figured out what the optimal institutions are."

Like much of the public sector, university employees have been subjected to the "economy, efficiency and effectiveness" of performance management. Promoted by the public services productivity panel inside the Treasury, its governing principal is "value for money". But knowledge consultant Karl Eric Sveiby argues that knowledge has little to do with money. Measuring intangible outputs such as creativity as "value for money", where value often resides in the quality of interpersonal relationships or the creating of symbolic meaning, is meaningless, he says. Instead proxies - observable implications - are measured through, for example, the research assessment exercise. But even then Sveiby insists that measuring can only be an "invitation to dialogue". Moreover, the effect of such a model is to centralise the regulation of academic labour, to reduce productivity by increasing the administrative workload and to shift the management focus from knowledge creation and learning to optimising the proxies and their returns.

In the long term, this instrumental approach is problematic. American economist Kenneth Arrow's research on the "allocation of resources for invention" concluded that a free enterprise economy under-utilises inventive information and is averse to the risk of investing in research. He says the effective creation of knowledge requires the non-pecuniary incentives that have traditionally supported university research and its optimal allocation is best served by agencies not governed by profit-and-loss criteria. Arrow argues that historically, economic development has not been characterised by the widespread circulation of knowledge. Knowledge has proved to be difficult to disseminate. Effective dissemination requires high levels of investment and robust, responsive institutions.

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However, to be successful, universities have to nurture creativity and innovation while commanding an effective market presence. The two are frequently incompatible. Universities have ducked the contradiction by adopting a utilitarian language of enterprise that reduces the creative process to the pursuit of commercial gain. The promotion of business interests, for example, is central to the ³ÉÈËVRÊÓƵ Funding Council for England's reach-out to business and the community fund whose aim is to "contribute to wealth creation and national competitiveness".

Universities will always be primarily wealth-consuming institutions. Productivity in universities is constrained by the face-to-face and personal nature of the service. The idea that the widespread application of information technology and distance learning across the sector will circumvent this fact invites a systematic decline in quality and standards. The corporate rhetoric of creativity and innovation all too often masks cost-driven reforms in institutions that are being shattered by government policy. Genuine organisation, product-transforming and enhancing innovation across a sector requires substantial initial government funding of infrastructure and a strong venture capital market aligned to it. Success needs confident institutional cultures of risk taking.

Such conditions do not exist in any significant form in higher education. Universities driven by commercial imperatives and performance indicators are neglecting the notion of "good company" and conviviality in which innovation happens and ideas and communication flow. These intellectual cultures are a university's principal source of creativity and productivity. They require challenge, autonomy, emotional support and adaptability. They do not function well when subjected to control, measurement or programming.

Markets depend on non-market institutions for the creation and sharing of social and intellectual capital. There will come a point when the underinvestment and marketisation of universities will generate market failures. Then, the state will be forced to initiate a long-term policy of publicly funded investment that will enable universities to achieve a transformation into the kind of knowledge-creating bodies society and the economy require. In the meantime, the rhetoric of creativity and innovation will provide a politically acceptable veil covering the failing governance of HEplc.

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Jonathan Rutherford is a reader in cultural studies at Middlesex University.

Next week: privatisation in practice