Is it a good idea to bail out privately financed infrastructure projects?
When I first heard about public private partnerships (PPPs), most of the emphasis was on PPPs being privately financed with private money at stake. But now, I hear the news about needing to bail out PPP projects with taxpayer money and I wonder: Is this a good idea?
To answer this, we first have to look at whether the reasons for the failure of the PPP are due to (1) mismanagement of the project by the private partner, or (2) macroeconomic impact, which could not have reasonably been foreseen by the public or private partner. If it’s the latter, then I’d argue there’s a very good rationale for a public sector bailout. How then to find the best solution for the project to survive and deliver the hoped-for results?
The UK, which has the largest PPP market so far, has decided to establish a Treasury Infrastructure Finance Unit (TIFU) to lend to PFI/PPP projects to "ensure that infrastructure projects go forward as planned despite financial markets conditions and thereby support jobs and economy." This is generally a good idea, but at first it seemed that it would not be necessary. For a while, banks managed to form a club, or the European Investment Bank supported the project. However, margins continued to climb and banks could only deliver short-term financing in the form of mini-perms.
For the time being, the bond market and credit risk insurance are dead, so finally TIFU found its first project to bail out in April 2009: "TIFU completed its first loan facility on 8 April 2009, providing a £120 million loan for the Greater Manchester Waste Disposal Authority’s PFI project alongside the European Investment Bank and a syndicate of commercial banks." This project was bailed out in the sense that the project could not secure financing without TIFU support, but it is a new development project so it's difficult to judge whether it meets the criteria I set out above.
The second project to be bailed out was considered in May for the Wakefield waste treatment project. Finally, two years after the selection of a proffered bidder, the financing of £700 million was secured on a preliminary basis in June without TIFU assistance and is expected to close within several weeks. Bailing out PPPs might be controversial for taxpayers, but it remains the only practical option for the public sector. Hopefully, the financial crisis will subside soon and financial markets will come back to their traditionally aggressive and long term lending to PPPs.
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I have two questions:
1) How do you know if it's really only the financial crisis that is affecting the PPP? Can it be a combination of mismanagement and the crisis?
2) For developing countries, the financial crisis has raised finance costs for infrastructure projects (risk spreads, e.g.), would it be a good policy to bail out infrastructure projects when you already have enormous budget constraints? Also, developing countries are more prone to crisis, wouldn't that cause a bad habit of government bail-outs - i.e. you would have moral hazard?
Posted by: Gisela | Jul 8, 2009 4:47:48 PM
These are excellent questions, and it is actually quite difficult to set up rules that would work for all situations and countries. It certainly has to be examined case by case. As a policy matter, it is good to have an option to step in, even if the project is mismanaged – for example you don’t let the key concession highway to close down – you just bail it out.
The question is, if this failure of a PPP is a result of external influence, and then you bail out with the profit for PPP project private partners, or if it is a mismanaged project, in which case you do want investors to suffer.
How far can you go in developing countries and not reach moral hazard level? This is also different from country to country. I would say that it is appropriate to have the facility to do so in times like financial crises and to have this option contractually in any contract. It is good practice to have “step in rights” by banks and the public sector partner in a PPP contract just for in case something goes wrong. This provision however should never be misused to "save" the private sector in the case of mismanagement, and it also should not be misused by the public partner to take over sound projects. This would indeed be a moral hazard.
Posted by: Filip | Jul 9, 2009 5:12:49 PM