THE PROMISE AND PROBLEM WITH INFRASTRUCTURE 11th OECD Senior Asian Budget Officials Meeting. 17-18 December, 2015, Bangkok, Thailand Ian Hawkesworth, Head, PPP and Capital Budgeting, Public Expenditures Division, OECD

1. Do we need infrastructure investment and if so how badly?

2. Why is infrastructure so difficult to get right?

3. How have some countries responded to these challenges?

4. Towards some recommendations

Agenda

2

DO WE NEED INFRASTRUCTURE

INVESTMENT AND IF SO HOW BADLY?

3

Big picture - another billion citizens in Asia,

but with national variation (Japan, Korea)

4

Asia remains the world’s growth leader,

but strong downside risks on the horizon

• Moderating growth overall, from previous record high

Downside risks include: • sharper slowdown in

China, • weaker growth in

Japan, • sudden tightening of

global financial conditions,

• USD strengthening • High leverage could

amplify shocks • lower commodity

prices will hurt investment OECD Economic Outlook for SEA, China, India 2015,

5

South Asia – about 5% of GDP new + 2 % of GDP reinv, annually (WB)

Policy response needed … but how

much investment?

I. Chatterton & O. S. Puerto (2011) Estimation of infrastructure investment needs in South Asia region. Working Paper 62608; B. Bhattacharyay Financing Asia’s Infrastructure ADB Working Paper No. 229 July 2010

… calls for macroeconomic policies and a renewed impetus on structural reforms to facilitate investment and improve economic efficiency, bolstering economic resilience, and potential growth … (IMF WEO 2015)

Asia faces very large infrastructure funding demands, estimated at around US$750 billion per year for energy, transport, telecommunications, water, and sanitation during 2010–2020 (ADB)

6

7

Meanwhile, overall OECD investment

recovery lags previous cycles

Business investment in different cycles Cyclical peak in OECD real business fixed investment=100

(date of peak indicated)

Source: June 2015 OECD Economic Outlook database.

Sluggish investment means:

● Slower potential output growth

● Labour scarring

● Stagnant incomes, rising inequality

● Slower technology diffusion from innovation frontier 80

90

100

110

120

130

140

150

80

90

100

110

120

130

140

150

t 2 4 6 8 10 12 14 16 18 20 22 24 26 28

t=1973Q4 t=1981Q4

t=2000Q3 t=2008Q1

Quarters since the peak

• National infrastructure plans, EU-Juncker plan

• Project development funds

• Low cost of capital

• Credit enhancement initiatives for private finance initiatives

8

Action is being taken … but lagging

WHY IS INFRASTRUCTURE SO DIFFICULT TO GET

RIGHT?

9

• Weak capacity for designing a strategic vision for infrastructure.

• Infrastructure impacts communities - without well managed consultation good projects may falter.

• The coordination challenge - a multiplicity of actors across levels of government may derail good projects.

• The skills challenge – lots of things need to go right.

• Uncertainty with regards to revenue flows can result in a lack of confidence in the project.

10

Governance challenges 1

• The political jurisdiction and the asset’s functional (economic) area doesn’t always align.

• Lack of data on performance makes it difficult to use assessment tools well.

• Adverse incentives provided by regulatory frameworks may generate suboptimal investment choices.

• Instability of the regulatory and institutional framework undermines sound decision-making.

• Infrastructure procurement is vulnerable to corruption.

• Political and business cycles can impact infrastructure.

11

Governance challenges 2

• The optimum combination of whole-of-life costs and quality (or fitness for purpose) of the good or service to meet the user’s requirement. (HMT)

• VfM is not the choice of goods and services based on the lowest cost bid.

• ‘What experienced experts agree represents the best chance of meeting the specified needs at the lowest price.’

• What the Public Sector Comparator shows is the best deal.

• The most advantages bid in a competitive bidding process.

A note on Value for Money - the difficult

North Star for infrastructure programs

12

The Productivity Commission Inquiry into Public Infrastructure 2014:

• There are significant barriers to private sector investment;

• A need for more efficient project selection, procurement and prioritisation;

• A need for development of more robust governance and institutional arrangements;

• improved mechanisms to fund and finance infrastructure projects; and

• benchmarking of infrastructure project costs.

Case 1: Action required in Australia

13

• 2012 State Budget projections of public payments to PPP, Portugal (“do nothing” scenario)

Case 2: Managing affordability -

Portugal.

14

Case 3: Russia – more focus on barriers to VfM is

needed

• The infrastructure prioritisation process is comparable to what is found in many countries in defining and pursuing strategic goals (National Development Plan).

• Working towards a stronger focus on how to attain value for money from private participation in infrastructure, both during the pre-operational and operational phases.

• Cost recovery, budget augmentation are the main drivers.

• Based on experience with successful PPPs in the country, Russia is working on developing a public sector comparator, risk management tools, guidelines for the operational phase of PPPs and re-negotiation procedures.

• The institutional framework and the capacity of the public sector should continue to be improved and harmonized, notably at the regional levels.

• Further steps are needed to promote and ensure sufficient competition in the PPP market.

• Need to allow for less input focus and more performance focus in PPP contracts in order to allow innovation.

• Mandate of SOEs needs to be clarified.

15

HOW HAVE SOME COUNTRIES RESPONDED TO THESE CHALLENGES?

16

• Infrastructure Australia's role is to provide independent expert advice to all governments on infrastructure policy and planning.

• Infrastructure Australia Act 2014 set up an independent board, with the right to appoint its own CEO.

• Publicly advocate for reforms on key issues including means of financing, delivering and operating infrastructure and how to better plan and utilise infrastructure networks.

Infrastructure Australia – independent

advice, public advocacy

Major pieces of work • Australian Infrastructure

Audit—that examines the key drivers of Australia’s infrastructure demand and identifies future the challenges.

• 15-year Australian Infrastructure Plan—that will outline proposed policy and governance solutions to the challenges raised in the Audit.

• A new Infrastructure Assessment Framework and Priority List —the Assessment will look at a broad range of strategic context in addition to the ‘Cost Benefit Analysis.

17

Absolute and relative VfM tests, PPP

Units are being put place …

18

Country

Use of relative value for money

assessments

Use of absolute value

for money assessments

Dedicated PPP unit

reporting to Ministry of Finance

Dedicated PPP units

in line ministries

No dedicated PPP unit exists in

central/federal government

For PPPs For PPPs For TIPs

Australia

Austria n.a n.a

Belgium n.a n.a n.a

Canada Chile Czech Republic .. .. Denmark Estonia n.a n.a

Finland

France Germany Greece .. .. .. Hungary n.a Iceland .. .. .. .. .. .. Ireland Israel Italy

Japan Korea Luxembourg

Mexico

Netherlands New Zealand Norway n.a n.a

Poland n.a Portugal Slovak Republic n.a n.a

Slovenia

Spain

Sweden

Switzerland

Turkey United Kingdom United States

Russian Federation

OECD total 14 9 15 :Yes, for all projects 10 17 7 :Yes, for those above certain monetary threshold 4 4 13 :Yes, ad hoc basis 8 5 8 :No 4 1 3 n.a: Not applicable 6 5 2

Source: OECD (2012)

Prioritizing, consulting, supporting debate in

the UK

• The UK National Infrastructure Plan and the Top 40 is a process and document designed to ensure prioritisation, transparency and linkages. Covers public interest infrastructure, also wholly privatised assets.

• Several mechanisms are in place to disclose commitment and potential liabilities from PFI/PF2 contracts, others, such as the Whole of Government Accounts (WGA) and the work of the independent Office of Budget Responsibility (OBR).

• Broad public and private consultation about a new approach to private finance of public infrastructure.

• The National Audit Office (NAO) plays a key role in informing the public debate about private sector participation in infrastructure. 19

Public Information on Infrastructure

in France, Sweden, and UK

20

National Investment Plan

& Major Projects

Annual Budget (Accruals)

Whole of Government

Accounts (Accruals)

UK

Infrastructure Bill (12 years)

Annual Budget (Cash and

Commitments)

Annual Report (Central

Government, STA)

SWEDEN

Report of the Swedish Fiscal Council (2015)

Annual Budget (Cash and

Commitments)

Annual Report (Budgetary

Central Government)

FRANCE

Court of Accounts

Financial and Performance

Audits

NAO Financial and Ad hoc Report

Report on Public

Investment

The business case – an iterative process for

developing good projects, with MoF scrutiny

• The UK Green Book provides comprehensive guidance for the appraisal of all projects receiving central funding.

• The business case is structured around 5 aspects to ensure that projects are:

– supported by a robust argument for change – the Strategic Case;

– optimise cost efficiency – the Economic Case;

– commercially viable (where relevant) – the Commercial Case;

– is financially affordable – the Financial Case; and,

– can be delivered successfully – the Management Case.

• The centrally developed value for money test (Public Sector Comparator) was removed in favor of contracting authorities developing their own quantitative evaluation of projects as an integral part of the business case

– The PSC tool was never intended as a “pass-or-fail” test, but it created a tendency to over-focus attention on the numerical result of the exercise

• Three stages of business case approval by HM Treasury: Strategic Outline Business Case, Outline Business Case, and Full Business Case (see table).

21

• Presidential focus

• PPP Center, New Legislation

• Integrated development and approval process with Dep of Budget& Management and NEDA in key role.

• PDMF

• From standing start in 2010 to – 9 awarded projects with a

total value of USD 2.90 Billion

– 50 projects in the pipeline in various stages of development amounting to over USD 21 Billion

– 40 Projects with Project Development and Monitoring Facility (PDMF) support

Institutional innovation and political support

unlocks the Philippine PPP pipeline

Project Development and Monitoring Facility

(PDMF)

A revolving pool of funds (USD62.5 million)

made available to enhance the investment

environment for PPP and to develop a

robust pipeline of viable and well-prepared

PPP infrastructure projects

Currently consists of 15 consortia of

Internationally-renowned

consulting firms

Fund Source:

USD44.5 million from Philippine

Government

USD18 million from Australia through ADB;

22

SOME RECOMMENDATIONS

23

1. Put in place a long-term national strategic vision for the use of infrastructure ...

2. … frameworks should encourage sustainable and affordable, management and renewal of infrastructure.

3. The process … should be user-centric - rest on broad based consultations, structured engagement and access to information …

4. Coordination across levels of government and jurisdictions should be frank ... Coordination within levels of government should balance whole of government perspectives and sectoral views.

5. The appropriate skills and procedures to ensure rigorous projects assurance, affordability, value for money and transparency should be in place.

24

Infrastructure Governance 1

From G20 paper: Towards a framework for the Governance of Infrastructure.

6. Project assessments should be based on data and a balanced value for money procedure.

7. … focus on the performance of the asset throughout its life.

8. … enhance integrity and anti-corruption mechanisms

9. integrate political, sectoral, and strategic aspects in choosing delivery mode.

25

Infrastructure Governance 2

• Competition requires an attractive framework

• The enabling context: there should be a strong government commitment, a national development infrastructure plan and a clear legal framework. A reliable judiciary and a clear dispute resolution mechanism create confidence in the existing framework.

• Good capital program management is essential, including: a strong pipeline of projects, public sector capacity, transparency about needs and procedures, and engagement with the private sector about needs and processes.

• Deal delivery: Projects should be digestible (e.g. in the USD 200 million range), replicable, and affordable. Appropriate risk allocation is important.

• Process management in terms of openness and dialogue: There should be a realistic project timescale in place, which is often a problem in emerging markets. There should be a plan for delivery as well as for procurement.

For strong private sector participation

you also need …

26

• Finalizing guidance on what a good governance of infrastructure system looks like.

• Survey in 2015

• Annual Meeting of Senior Infrastructure and PPP Officials – 29 February-1 March, Paris

• Studies of how it is actually done – any volunteers?

• More information: Ian.Hawkesworth@OECD.org

Next steps

27