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Symposium 2011

Proposal - Mobilising long-term capital for public policy objectives

The Challenge

The world may be on the cusp of an era of enormous capital investments. This boom will be driven by growth in emerging markets as well as the need to replace and repair part of the capital stock in de ...

The world may be on the cusp of an era of enormous capital investments. This boom will be driven by growth in emerging markets as well as the need to replace and repair part of the capital stock in developed economies. Demand for sustainable infrastructure in the broadest sense will be particularly high and it will come at a time when strained public balance sheets call for austerity, leaving little room for public investment programs.

The world may be on the cusp of an era of enormous capital investments. This boom will be driven by growth in emerging markets as well as the need to replace and repair part of the capital stock in developed countries. Demand for sustainable infrastructure in the broadest sense will be particularly high and come at a time where strained public balance sheets call for austerity and will leave little room for public investment programmes. This leads to the question how long-term capital (from private and sovereign sources) can be mobilised in the most effective way to achieve public policy objectives and meet citizens’ needs.

While private and sovereign investors with long investment horizons should, in principle, find some characteristics of infrastructure investments attractive (predictable cash flow, possible inflation protection etc.), a number of serious obstacles stand in the way of making considerably more private capital available. These obstacles include:
  • Political risk, particularly in sensitive areas of public services
  • Lack of clear public policies on Public Private Partnership development
  • Legislative and regulatory bottlenecks in the fields of procurement, concessions, and targeted subsidies.
  • Inadequate institutional capacity
  • Capital market imperfections that have thus prevented the take-off of infrastructure investment as an asset class.

The panel will seek practical solutions to remove these obstacles by addressing the following key questions:

What are the key barriers facing the private sector when planning to enter into public infrastructure investments in the broadest sense? How does this differ as between developed and emerging markets? How can governments best tackle these constraints and encourage new capital? Are there market instruments that can help?
  • Emerging markets still face higher barriers in deploying PPPs. (i) High risk perception raises the cost of private involvement in infrastructure provision; (ii) Public authorities often lack the institutional capacity to design, implement and monitor complex PPP arrangements. Building institutional capacity is important to attract the private sector to infrastructure in a sustainable way – in the absence of institutional capacity PPP projects may fail in delivering good economic value (are too expansive for the amount or risk transferred and/or quality and quantity of service delivered). (iii) Private operators, in turn, face special capacity constraints in some emerging markets that have a real impact on their capacity to deliver. Practical examples include the availability of local contractors as well as finding the right staff willing to relocate for extended periods of time. (iv) Donors, through their choices of support instruments, can have an impact on recipient countries’ decision for or against PPP structures.
  • Instruments – regulatory rules can allow or even encourage matching long term financing required for infrastructure projects to the long maturities required by some asset classes (e.g. pension funds).
Who should lead the financing of revenue earning public infrastructure and how should risks be allocated? Should certain types of project, e.g. high cost, politically sensitive ones, be left solely in the public domain? What is the potential to expand private financing beyond infrastructure investments?
  • Revenue earning infrastructure can be run on a commercial basis which lends itself for both private financing and operation. If suitably structured this eases the pressure on the public budget (in terms of financing) and brings the benefits of the more cost effective operations under private control with adequate incentives.
  • The driving principle for risk allocation is to place each type of risk with the party that is best positioned to bear it. Design, construction and operational risks are commonly suitable for the private party, whereas demand risk is often shared. Flexibility is required to allocate the risks based on the specifics of the sector and project type.
  • Private sector involvement needs to be carefully assessed to (i) deliver a lower cost or higher quality infrastructure assets or services and (ii) involve meaningful transfer of risks to ensure that financial rewards are commensurate with the risks taken by the private party. If these two conditions are not met PPPs bring limited benefits compared to public procurement.

What measures could be most effective in creating a favourable legal and regulatory environment for long-term investment: further development of internationally recommended/accepted standards of best practices, development of model laws, possibly on a regional level, strengthening of enforcement, etc.?
  • There is a need to take stock of the lessons learned from early PPP projects in countries with a track record (EBRD is undertaking work on measuring PPP capabilities across countries in the EBRD region)
  • Good laws and procedures are necessary but not sufficient conditions for successfully deploying PPPs. Institutional capacity is required to complement good rules on the books. Typical examples include PPP centres at the national level that support central/local authorities with structuring PPP deals. But again, it takes two to tango: Private sector capabilities are needed as well, not just removal of public sector deficiencies.
How could IFIs help to enhance stability and predictability of investment thus mitigating private sector risks in long term infrastructure investment? Would the participation of IFIs in pilot projects cement the basis for a further multiplication of modern approaches and novelty experience of such pilot projects?
  • IFIs can facilitate the transfer of knowledge to build a good legal structure and build institutional capacity for implementation.
  • IFIs funding can enhance the risk profile of early PPPs and demonstrate best practice.
  • IFI involvement needs to focus on key demonstration projects, as long term sustainability of the PPP concept in a country/sector requires structures that are feasible in a world of commercial financing without soft loans and subsidised know-how transfer

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