This paper develops a general equilibrium model to examine the short‐run and long‐run optimal privatization policies. By assuming that all firms are public firms initially, the paper focuses on how the degree of product differentiation γ and the average efficiency of the industry influence the determination of the optimal privatization policy. The paper shows that privatization decreases the more efficient firms' outputs while increases the less efficient firms' outputs in the short run, and reduces all firms' outputs in the long run. The paper also shows that the larger is γ and the smaller is the number of firms, the more privatized will be the public firm in the short run. Moreover, as γ or the entry barrier fE is sufficiently small, full privatization is the best policy in the long run. On the contrary, as γ and fE are large enough, partial privatization is optimal.