New Zealand needs new infrastructure – that much is a given. A longstanding infrastructure deficit and the need to drive economic growth and deliver social and community benefits in the wake of COVID-19 has seen an increased political focus on both 'shovel ready' and long-term projects. Plans to upgrade water infrastructure, build new energy infrastructure and housing, and improve transport networks are already in the works.
This increased focus is very welcome, particularly when accompanied by a commitment to contribute significant government funds. But what is the best way to fund and deliver new infrastructure for New Zealand to ensure the best overall outcome, and what role might private sector investors play?
Benefits of private investment
In the lead up to the election, both major political parties have announced their plans to invest significantly in central and local government infrastructure projects. Yet, the ability to issue Treasury bonds is not infinite, and it is important to remember the significant contribution that private sector investors can make (and have made) to major infrastructure in New Zealand. In the first instance, they bring new sources of funding. This has been demonstrated in recent years by the amount of private sector investment in large-scale infrastructure delivery, including through public private partnerships, which might become even more valuable as part of COVID-19 recovery plans.
Private sector investors bring more than just funding, however. With the right structures in place, they can also remove risk from the public sector and contribute expertise, innovation, rigour and high-quality management of infrastructure assets. When the project generates revenue rather than relying solely on availability payments from the government (such as property development in connection with the project or user charges for infrastructure such as toll roads) private sector investment brings even more benefits.
Another advantage is that when done well it involves a realistic, transparent and whole-of-life view of the proposed infrastructure. The expertise that private sector investors have and the risks that they take can drive a strong focus on selecting infrastructure projects that have the best business cases, will offer the most benefit to the community, and will be delivered in a way that achieves both high-quality outcomes and cost effectiveness.
A common form of private investment is through a public private partnership (PPP). This typically involves a long-term contract between the public sector and the private sector for the design, financing, construction, and operation of an infrastructure asset. One of the important features is the transfer of risk from the public sector to the private sector. In general, the public sector does not pay for the infrastructure upfront. Instead, they pay for it periodically, dependent on if the private sector completes and operates the infrastructure and meets the required performance and service standards. Private sector investment can involve additional funding cost but that can be offset by the risk that is transferred to the private sector and the innovation and cost-efficiency that private sector finance can drive.
A key issue is ensuring the contractual frameworks for any project effectively and transparently allocate and manage risks. This needs to involve an honest assessment of which party is best placed to bear them. Some risks and responsibilities sit more naturally in the public sector because the private sector is unable to price and manage those risks (the recent COVID-19 shutdowns might be an example of such risks). Whilst there have been challenges in some public private partnerships (in New Zealand and elsewhere), these often arise from the complex nature of the projects involved. Many of the challenges which have arisen on some of the PPPs would likely have been issues even if the relevant project had been directly procured.
So how might our future government make use of private sector investment? As mentioned earlier, political parties have reaffirmed their commitment to infrastructure and made some important policy announcements in the lead up to the election. Aspects of each could benefit materially from private sector involvement.
The Labour Party, for instance, announced its plan to accelerate New Zealand's transition to renewable energy. This will involve increasing renewable electricity generation from around 80% of electricity generation to 100% by 2030 and accelerating the electrification of transport and industry. New Zealand has not needed to invest as heavily in new renewable generation and transmission as some other countries in recent years. The move to 100% renewable generation and the electrification of transport and industry is a step change that will require significant new investment. There is a great deal of experience and expertise in the private sector in structuring and funding new renewable energy projects (including wind and solar in Australia). If they are serious about achieving their goal of 100% renewable generation by 2030, the Labour Party should look to utilise that experience and expertise.
As part of their approach to delivering infrastructure, the National Party intends to establish a new infrastructure bank. New Zealand already has some agencies that fund specific types of infrastructure (such as Crown Infrastructure Partners and Crown Irrigation Investments). The establishment of an infrastructure bank might therefore be seen as a 'scaling up', creating a public sector investor with a wider mandate. Alongside the new Infrastructure Commission, an infrastructure bank might help to encourage long-term planning of infrastructure. They have been successful elsewhere, particularly in green finance. For example, the United Kingdom's Green Investment Bank and Australia's Clean Energy Finance Corporation have been able to encourage new green energy technologies and unlock private investment through co-investment structures. Models such as these might also help with the plan to accelerate the transition to renewable energy. In addition, a government-sponsored lender can help to encourage private sector co-investment more generally. When implemented well, co-investment involving both an infrastructure bank and private investors can combine many of the benefits of private sector investment while reducing the overall funding costs.
Asset recycling is another interesting way of funding new infrastructure. This method has been used widely in Australia and could reduce the pressure on the Government's balance sheet by leveraging private sector investment. It involves the public sector granting a lease or concession to the private sector to operate existing infrastructure assets. The private sector pays for the lease or concession and is able to raise private finance in order to do so. The proceeds are then earmarked for investment in new infrastructure and the private finance repaid from the revenues generated by the recycled assets. As such, asset recycling unlocks funding for new infrastructure from investors who are looking to invest in stable and mature assets that have a lower risk profile than new build projects. The method is most successful when the community benefits from both the private sector's expertise in managing existing assets and the public sector's ability to accelerate the development of new infrastructure using the proceeds from recycling assets.
There is no one size fits all way of funding and delivering new infrastructure, as every infrastructure project is different. The range of contractual and funding structures that are available offer choice and flexibility and can be adapted to fit the needs of each project and the stakeholders involved. In some cases, the public sector might be better off delivering a particular infrastructure project itself without private finance. This option might seem particularly attractive in the current low interest rate environment, when the government can obtain very cheap funding on its own balance sheet. But there will still be many cases where bringing the public and private sectors together can unlock a new source of funding and bring innovation, expertise and collaboration that delivers a better overall outcome. Regardless of the outcome of the election, it would be great to see the next government making the most of the expertise and funding that the private sector has to offer.
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