Experts say the world needs an extra US$57 trillion of infrastructure investment. So where should that money go?
Updated 24 August 2016
A decade ago, the central Chinese city of Chongqing was seen perhaps as an industrial backwater, largely unknown to the outside world.
Today it’s a global manufacturing powerhouse, churning out a quarter of all the laptops made worldwide for companies such as Hewlett-Packard, Acer and Sony. The Chongqing municipality is now home to 28 million people.
A great deal of this change can be put down to the broader forces that have transformed China over the past 35 years, as well as to special tax arrangements and a skilled workforce. But it’s hard to escape the idea that Chongqing’s infrastructure – including massive river ports and a direct rail line to Germany – must have helped its growth.
However it’s also apparent that cities like Chongqing face challenges as they seek to expand the supply of transport, power, water, schooling and health services for their growing numbers of residents.
Worldwide, more attention is being focused on the challenge of providing infrastructure, both to help fast-growing cities like Chongqing and to create more cities like it.
At a meeting in Brisbane in November 2014, G20 leaders – the people governing the world’s 20 biggest economies – committed to a plan to boost global spending on infrastructure by at least US$2 trillion by 2030. They claimed that could add US$600 billion to world output and create 10 million jobs a year.
Their plan included setting up a Global Infrastructure Hub – based in Sydney – to help improve the degree and quality of infrastructure investment.
Enter the Hub
The Hub was given a four-year mandate to lower barriers to investment, help identify investment-ready projects, assist in matching investors with opportunities and improve the capacity of countries to attract and support investment.
Its board comprises representatives of advanced and emerging G20 countries, as well as two independent directors. Australia chairs the GI Hub board, represented by the Secretary to the Australian Treasury. A strategic advisory council is being appointed to provide additional expertise from multimedia and private sector G20 country representatives.
Following an international search the GI Hub board appointed infrastructure expert Chris Heathcote from the UK as CEO and a business plan was approved by the board and endorsed by G20 finance ministers and central bank governors in 2015.
The G20 wants the Hub to investigate and share the knowledge and expertise of governments, private corporations, banks, financiers and development organisations about how to plan, evaluate and build infrastructure, with the aim of ensuring countries, particularly in the developing world, have functioning infrastructure markets. The B20, a meeting of private sector leaders that runs alongside the G20, supported the idea.
For one of the architects of the concept, B20 taskforce member and EY (Ernst & Young) global infrastructure leader Bill Banks, it’s an opportunity to popularise Australia’s emerging model of infrastructure development.
While spending on infrastructure is often portrayed as an unalloyed good, the facts speak differently. Not all infrastructure projects are alike, and some can cost much more than any benefits they are likely to provide.
The Australian model has an independent statutory body that identifies, assesses and advises on nationally significant infrastructure projects. Infrastructure management experts, including the University of Sydney’s Matthew Beck, see value in a body that defines global best practices and outcomes.
But while the Hub should be a repository of knowledge and shared experience, EY’s Banks thinks that for some countries its real value, at least initially, will be in operating as Infrastructure Australia’s global equivalent.
Indonesia, for example, has a massive pipeline of projects but they have neither been conceived within an overarching national plan nor subject to rigorous cost-benefit analysis, he says.
John Daley, chief executive officer of Melbourne-based think tank the Grattan Institute, agrees on the need for more rigorous infrastructure governance. He believes governments deliver second-best outcomes when they select infrastructure projects. They tend to pick projects that sound large and impressive, like Australia’s Alice Springs-to-Darwin railway line, even though smaller undertakings might deliver greater benefits.
To improve the quality of infrastructure decision-making, the G20 has recommended that countries commit to establishing independent national infrastructure agencies, along the lines of Infrastructure Australia and Infrastructure NSW, to rigorously assess and prioritise projects.
But even having independent infrastructure umpires in place won’t necessarily solve the problem. Their recommendations are non-binding, so governments can choose to ignore them.
And the quality of government decisions on infrastructure can be stubbornly bad, even in Australia with its existing independent infrastructure authority. Quite recently Victoria’s former assistant auditor-general, Natalia Southern, warned that: “Time and time again, we’ve found that business cases are poorly developed and unsupported by rigorous data, assumptions and analysis of benefits, costs and risks.”
But even if the Australian model can eventually produce more rational decisions on what projects are built (or not), the question remains: can this emerging framework be successfully exported to countries with often under-developed public institutions – particularly in just four years?
Arnold Chan, who works as structured finance director at construction firm Dragages Hong Kong, is not sure it can. While he thinks the Hub is a good idea, he argues it will take a long time to fulfil its remit of raising governments’ infrastructure selection and management capacity.
“It would take at least two years to understand the different legal and political systems among the developing countries, and how the right legal framework would fit in with each country,” Chan says.
“Then you need time to convince the governments, officials and the public of the need to adopt such a legal framework, and to build up the necessary administrative capacity to support the framework. This will take longer than four years.”
The privatisation path
One favoured path for infrastructure funding has been to offload state-owned assets onto the private sector and “recycle” the proceeds to pay for new projects.
Since the early 1980s, OECD member countries have privatised an estimated US$1 trillion or more of assets, the majority of them infrastructure. But the sales have rarely been popular.
The Australian Government is aiming to make privatisation less politically poisonous and the New South Wales Government alone has been looking at selling off ports and electricity network businesses to help fund almost A$19 billion of infrastructure works identified as a priority by Infrastructure NSW, a state body formed to provide independent assessments and advice on projects.
As Chan points out, the question of project governance is intertwined with the challenge of private funding. And despite instances of over-investment, there is also ample evidence that existing infrastructure is groaning under the pressure of increasing demand.
As the Chinese economy grows, some of its cities are becoming more clogged, electricity and water shortages loom larger, and schools and hospitals are becoming more crowded.
It has been variously estimated that the world needs an extra US$57 to $67 trillion of infrastructure investment by 2030 to cope with the demands of an expanding and more economically advanced global population. On current trends, only around US$45 trillion of that will be provided for infrastructure spending from private and public sources by 2030, leaving a potential shortfall of up to US$22 trillion.
The question confronting governments that want to fill this hole is not only which projects will provide the biggest return on their investment, but how to pay for it.
With public finances seemingly not up to the task, attention is increasingly turning to attracting additional private money. Many governments are looking to finance projects, such as major roads, through partnerships with the private pension funds, insurers and sovereign wealth funds that between them have more than US$32 trillion under management.
There is no shortage of investors looking for opportunities, according to Chan. But many investors lack confidence in the ability or willingness of governments, particularly of developing economies, to deliver on their commitments.
The lack of a credible legal framework means investors in public-private partnership (PPP) arrangements often have little recourse to enforce government undertakings, increasing the risk to their investment capital and, consequently, the cost of finance.
“It means that returns on projects in developing countries have to be 3 to 5 per cent higher than they are in countries with robust legal frameworks,” Chan says.
While more robust legal systems will help, he thinks investors might be more attracted to PPPs in developing countries, and finance costs might fall, if the G20 created a reserve fund that could be drawn on in the event that a government defaulted on its undertakings.
A matter of choice
Governments need investors, and investors want reassurance that the terms of their investment will be honoured, and that it will pay off.
The G20’s ambition to entice an upsurge in infrastructure investment by improving the quality of government decision-making is a laudable one. In theory, more rigorous project selection should help both governments and the private investors who stump up the cash.
Whether the Global Infrastructure Hub will make much difference is less clear. The Hub can help governments. But those individual sovereign governments remain the final arbiter of what gets built, and what doesn’t. The G20’s Hub faces an interesting struggle: to win the support of the same governments whose behaviour it aims to reform.