By Henry Teitelbaum, editor of P3Planet.com
As the dust settles from the US mid-term elections, it is clear that the Democrats’ jobs and growth agenda will struggle against a newly empowered Republican House majority.
But even if further stimulus spending is off the table for the time being as the focus turns to deficit reduction, Democrats and Republicans may yet find common ground in supporting infrastructure public-private partnerships (PPP), particularly where a minimum of public capital can be used to leverage huge amounts of long-term private investment.
Indeed, if there is any basis for building a spirit of bipartisanship in Congress and in state legislatures, it should be around precisely these efforts to catalyze private investment in public assets. The reasons are compelling. Firstly, there are powerful grassroots constituencies in both parties and in business that support private investment in public infrastructure. Secondly, investors are cash-rich and need to invest in long-term assets, meaning they can either invest to redevelop America’s infrastructure, creating jobs and economic growth domestically, or they can go elsewhere. Finally, if it needed mentioning, there is financing for projects that can be secured at rates that have never been this low at a time when the need has never been so great.
There is an estimated $2.2 trillion infrastructure deficit in the U.S., and that’s just to restore the nation’s highways, bridges and railroads to an acceptable standard. Roads and bridges are visibly in need of repair in virtually every city and town and on most of the transportation infrastructure that stretches between them. This is the low-hanging fruit for the many newly elected local leaders to go for because it is relatively simple to execute quickly, creating jobs and tax revenue along the way so that it quickly pays for itself.
There are also large scale new-build projects, such as high-speed rail, energy efficiency and clean energy that the country will need to compete in a globalized economy.
President Obama has laid out a program for catalyzing the private investment that is needed to address America’s infrastructure gap through a national infrastructure bank. The bank would be capitalized initially at $60 billion, but would be able to leverage a further $500 billion from the private sector for infrastructure projects over 10 years.
The idea has been endorsed by financial and industrial leaders alike. Some states are even assembling similar structures to attract private investment for a range of social and economic projects, with California having already established its own infrastructure bank and New York set to follow. The Rebuild NY Bank is a key program for newly elected governor Andrew Cuomo, who aims for it to help coordinate projects and incentivize private investment in public works. It will do this by levering equity investment from the state or Federal government to create a pool of funds to encourage private capital and risk-sharing in the construction of certain large projects.
Infrastructure banks rely on the expectation that a lot of private capital is out there, and they’re right. U.S. corporations are flush with cash after a strong year of earnings and stock performances. Large engineering firms like to invest in PPP for a number of good reasons, with one of the main ones being the long-term stable cash flows from the operation and maintenance contracts that run for years after a project is built. These cash flows help to smooth the notorious boom and bust cycle of their other businesses.
But there are even more significant pools of capital available from institutional investors. Much of this money, some $190 billion of which is said to be immediately available, needs to be invested in very long-term projects, and until recently has found it hard to do so directly.
Pension funds, life insurers, university endowments, charity trusts and other institutions with long-term liabilities are anxious to support infrastructure because of the structural shortage of investments that reliably generate the annuity-like payouts that they require. The demand for assets such as those produced through PPP projects is particularly acute now because the Federal Reserve is holding interest rates at or near zero, flooding the banking system with cash, and engaging in “quantitative easing”. Yields on 10-year government bonds are now barely over 2.5% and 30-year Treasurys are yielding less than 4%, making it very difficult for pension funds and life insurers to support payouts on guaranteed premiums without adding risk to their portfolios.
PPP-related debt is part of the solution because it allows investors to match long-term liabilities – namely the guaranteed payments that pensioners live on – to steady yielding investments that are attractive, safe and very long term. Besides the cash generated from use of the assets once they are built, the large sizes of the undertakings are well suited to the scale that these investors typically need to make.
To some extent, this explains why pension funds that offer defined benefit plans are taking matters into their own hands and not waiting for the banks. Consider the example of the California Public Employees’ Retirement System, (CalPERS), which has adopted a policy that allows for direct investment in the equity and debt of privately funded infrastructure assets. By helping to finance projects from the inception, CalPERS, with its $204.9 billion of investments, and other public and private pension funds can bypass bank management fees and the associated cost of carried interest that would otherwise be payable to fund managers.
Direct pension fund and institutional investment in infrastructure and PPP projects is in fact a global phenomenon, with superannuation funds in Australia long-standing investors in domestic infrastructure projects through funds that they collectively own. In Canada, the Ontario Municipal Employees Retirement System, which manages some C$44 billion of member funds, aims to increase its infrastructure holdings from 31% to 35% of its total and is targeting North American rail systems for investment. And in the U.S., the Dallas Police and Fire Pension System recently partnered with Cintra on the 13-mile North Tarrant Express toll road.
Government leaders in America will need to think long and hard about how to ensure that deficit cutting measures do not also undercut public and private investment planning. There’s competition for this investment not only with other countries, but between states and cities, and capital tends to flow where it is most welcome. Voters will judge their newly elected politicians in terms of the tangible improvements they deliver, whether it’s the jobs they create, the fiscal revenue they generate or the productivity and environmental improvements that businesses and constituents enjoy. That’s food for thought for anyone looking ahead to 2012.