The trillion-dollar gap. How to get more of the world’s savings to pay for new roads, airports and electricity
31 March 2014
The Economist
If you have been to New York’s La Guardia airport recently, taken a train during London’s rush hour, tried to drive in Lagos or endured one of India’s ubiquitous power cuts, you will have first-hand knowledge of the world’s infrastructure deficit. According to the World Economic Forum, global spending on basic infrastructure - transport, power, water and communications - currently amounts to $2.7 trillion a year when it ought to be $3.7 trillion. The gap is almost as big as South Korea’s GDP. And it is likely to grow fast.
Much of the money to plug the gap needs to come from the public purse: even in an age of austerity many governments should be spending more. With the economy weak and borrowing cheap, it is daft that America’s public infrastructure spending is at a 20-year low, even as the country’s roads, bridges and dams are rated D+ by the American Society of Civil Engineers. The most cash-strapped emerging economies have room to cut inefficient subsidies (such as for fuel) and switch the money into building better roads and sewers.
But public money can be only part of the solution. The greater opportunity lies in tapping private capital. Unfortunately, the big global banks which used to lend money to finance infrastructure projects are pulling back, as new “Basel 3” capital rules make such lending less attractive. The potential pot of gold is elsewhere, in the $50 trillion of capital managed by pension funds, sovereign-wealth funds, insurance companies and other institutional investors. Only 0.8% of this is currently allocated to infrastructure. A tenfold increase would be a good target.
From pension funds to power stations
In principle, investing in a power station or toll road ought to be an attractive prospect for institutional investors. The long life of these assets is a perfect match for the long-term liabilities of a pension fund. Infrastructure projects offer reliable cashflow, a hedge against inflation, low volatility and returns that are generally not correlated with other assets. In practice, though, many money managers have shied away, scared by the scale, complexity and political risk involved. Individual pension funds lack the expertise to assess complicated projects, too many of which are dreamt up by politicians who care more about winning votes than commercial viability. Corruption is rife and political pitfalls, from angry environmentalists to voters furious about rising power prices, are legion. In emerging economies these dangers are magnified by the possibility of currency crises.
But in two areas a few innovations could transform the market. The first is the professionalisation of project management. Every country needs a competent group of bureaucrats who have the authority and skills to design a pipeline of viable infrastructure deals and the political clout to standardise procurement procedures and other practicalities of getting a road built or a tunnel dug. Some countries already do this well. Chile has a National Public Investment System that has dramatically improved the efficiency of its capital spending. Canada and Australia stand out too. But in too many countries technocrats tend to be under the thumb of politicians and not up to the job. In poorer countries aid money could usefully be used to pay for top-notch infrastructure teams.
The second priority is to streamline the system for slicing risk unrelated to a project’s commercial viability. Governments and international financial institutions like the World Bank already, for a fee, protect private investors against political risks, such as the expropriation of their assets. Rich-world development agencies also offer guarantees for projects their countries’ firms invest in. But the system is small, fragmented and geared to banks. To encourage the growth of a market in infrastructure bonds, the big development organisations, led by the World Bank, ought to provide a bigger and more standardised menu of credit enhancements and guarantees.
These changes could have dramatic results. Infrastructure bonds could become as ubiquitous as mortgage-backed securities. That won’t mean every African country gets the road network it needs. But it would help ensure that more of today’s savings finance the building blocks of tomorrow’s growth.