New funding models

From social infrastructure in Peru through to sustainable energy in Africa, the use of public private partnerships (PPPs) to fund and deliver capital projects is spreading around the world. Their ubiquity is reflected in the International Federation of Consulting Engineers’ (FIDIC) plan to release a standard form contract for PPP projects in 2023.

However, in the United Kingdom (where the private finance initiative (PFI) PPP model was first adopted in the early 1990s), the use of private finance for public infrastructure under a PFI / PF2 model has dramatically decreased. 

Given the immense capital and technological requirements of climate-smart infrastructure, PPPs can offer a helpful framework within which public and private sectors can pool and coordinate their resources. Governments have unique powers to influence the sustainability of infrastructure when crafting PPP contracts. More recently, PPPs have been modified to account for social and environmental impacts as opposed to a specific class of PPPs.

In low-income countries, where access to infrastructure remains a key concern, a minimum performance criterion can be included to incentivise investments in poorer communities. PPPs can also help to encourage private sector investments in otherwise underfunded regions when led by national and international development banks.

Balancing national budgets

The UK’s National Infrastructure Strategy and its focus on infrastructure development has reinforced its shift away from PPP-based infrastructure funding. Instead, with low gilts borrowing rates and the need for urgent and substantial pandemic economic stimulus, the UK government appears willing to borrow-and-build, with plans to invest GBP 100bn in infrastructure in 2021-22. But is this approach a fiscally sustainable position into the long-term – for the UK or anywhere else?

Increased public expenditure combined with economic contraction has forced debt-to-GDP ratios to historic highs in many countries around the world. OECD governments alone borrowed a record-breaking USD 18trn in 2020, up USD 6.8trn on the previous year and are expected to borrow a further USD 19trn this year. Government debt in Sub-Saharan Africa rose an average of 8 percentage points to 70% of GDP last year, and is expected to rise further in 2021, leading to major concerns about debt sustainability in the region. With government balance sheets strained, there is an increasingly important role for the private sector to help fund major infrastructure projects.

Infrastructure stimulus packages are particularly beneficial during recessions. According to BCG, these programmes offer opportunities for highly geared impact on macroeconomic activity, with a multiplier effect of between 0.4 and 2.2 times annual GDP. Every USD 1bn invested has the potential to support 10,000 total jobs within the economy. We have already seen many of the COVID stimulus programmes introduced to date include infrastructure as a key element, such as President Biden’s USD 2trn plan in the United States.

Seeking new funding models

Governments are seeking a range of new funding models to enable them to achieve their infrastructure ambitions and help stimulate their economies post-pandemic.

First of all, there are varieties of the PPP model that remain in favour - many of which are built on the principles of PFI (for example PPPs across the rest of Europe and the Middle East and the Mutual Investment Model In Wales).

However, where a government looks for a structure that is closer to economic infrastructure (where the project is paid for either directly or indirectly by customers), there are different approaches that could assist in developing new funding models.

Regulated Asset Base (RAB) models

First, measures can be taken to gain more revenues from charging (future) users. Where there are existing paying customers of a regulated infrastructure provider, RAB models can improve project finances by making users pay more sooner. Previously used in Germany and Australia, this can work well for long-duration mega projects. Utility companies are permitted to start charging end-users as the investment costs are incurred rather than waiting for the project to be completed.

Windfall gains

Second, there may be the option to capture ‘windfall gains’ that accrue to non-users of infrastructure. This would involve gathering revenues from the additional value created by these infrastructure projects themselves. For example, new infrastructure - such as improved transport networks - can raise land values, thus accruing additional tax revenue. This extra revenue can be used to fund the transport network itself.

In the United States, tax increment financing (TIF), which allows authorities to finance current projects via bonds that are repaid using the future gains in tax revenue resulting from the project, has long been popular and is becoming more common. The UK’s first TIF helped fund Edinburgh City Council’s GBP 84m waterfront redevelopment project in 2011.