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Banking on government

Around the world, public sector infrastructure spend is in focus. The trillions of dollars promised will need to leverage private capital but the projects themselves could be far in the distance…

Around the world, public sector infrastructure spend is in focus. The trillions of dollars promised will need to leverage private capital but the projects themselves could be far in the distance…

The economic shock of the pandemic coupled with the need to future-proof critical infrastructure from climate change has put infrastructure spending at the top of the agenda for governments around the world. 

This makes sense: infrastructure spending has an economic multiplier effect, with each USD 100bn spent yielding as many as one million full-time jobs, in addition to the benefit of the infrastructure itself, according to research by the Economic Policy Institute. 

Current plans include the UK’s latest National Infrastructure and Construction Pipeline, which promises GBP 650bn of infrastructure projects over the next decade. The US is to spend USD1.2 trillion on what President Biden has called “the decade of infrastructure” and the European Commission has unveiled a major infrastructure investment strategy to mobilise up to EUR300 billion of investment by 2027. 

In Asia, China’s One Belt, One Road plan predates the pandemic and countries including India and Indonesia have cranked up infrastructure and energy spending in their budgets since the crisis. 

In most cases, private investment will be leveraged to meet these grand ambitions but in Europe and the US there is still uncertainty over how exactly. 

The UK government has spoken of a “big bang” in pension fund investments. 

But private equity and infrastructure funds and their investors have historically tended to avoid the construction risk within new-build, or greenfield infrastructure – opting instead for the acquisition of operational (brownfield) assets or taking private the large construction firms that build them. 

“There is potential for improved coordination between policymakers and institutional investors, to find some common ground and for it to be more of a mutually beneficial relationship,” says Amarik Ubhi, partner, Mercer. “For the typical institutional investor, it is helpful in the sense that it helps the conversation get started.” 

The UK’s private finance initiative (PFI) and its successor PF2 – previously used for hospitals, schools and transport – have also faced opposition from critics after dealflow peaked pre-global financial crisis. In the US, public-private partnerships (P3) for courthouses, schools and roads have inched forward but typically face resistance at local or state level. 

“P3s around sectors like transportation have been talked about for some time but greenfield infrastructure takes a long time to do,” notes Luke Taylor, co-head of Americas at Stonepeak Infrastructure Partners. “I think the government’s tried to address some of the issues in terms of getting these projects permitted but a lot of the challenges in the US come from the fact that a lot of these decisions are at the local level and they tend to have a number of political challenges. I think things like private investment in airports would be fantastic but it’s not something we sit here and wait on with bated breath to happen. 

In Germany, Italy and Spain, PPP pipelines for large projects have been shrinking rather than expanding. With governments able to borrow at historically low interest rates, why pay the private sector to do it? 

Other procurement models, such as the regulated asset base (RAB) model and Ofwat’s recently launched direct procurement for customers (DPC), mainly used in the UK’s water and utilities sector, have arguably been most successful at answering this question. 

Subsidies are generally no longer needed for cost-competitive solar and wind projects in Europe so government support here been building for more nascent sectors such as green hydrogen, carbon capture and storage and electric vehicles. This is where infrastructure funds and private equity are currently targeting with massive new energy transition and renewable energy funds. Fibre broadband, particularly in rural areas, is also on the agenda of governments but there are clear regional distinctions. 

“There is still a broader policy agenda towards certain areas where it’s probably been under-invested in the past,” outlines Minesh Mashru, global head of infrastructure investing at Cambridge Associates. 

Geographic discrepancies

“So if you take fibre, as an example, the UK has around 5 per cent fibre penetration, Germany has a similar number, the US is just under 20 per cent. Whereas in Asia, or the Nordics, you’ve got numbers like 80 per cent. We’ve had massive under-investment in these parts of the market, but it’s clearly become more economic to make this type of investment.” 

The new UK Infrastructure Bank is due to publish its first strategic plan in June with an initial GBP12 billion of capital to deploy and around GBP10 billion of government guarantees. Its first private sector investment was in December to seed a 10-year, GBP500 million solar infrastructure fund managed by NextEnergy Capital. In March, the UK chancellor called on it to invest more in green energy as energy prices rise following Russia’s invasion of the Ukraine. 

The European Investment Bank and the World Bank have also typically used guarantees as a way to bring private investment into large infrastructure projects and will be thinking along similar lines. 

Many of these infrastructure projects can take years to finance and sometimes even longer to build. If governments don’t move quickly on procurement, private capital will look elsewhere. 

Read the rest of the Private Equity Wire Insight Report Pricing Power: How infrastructure funds are taking on inflation

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