Using their noodle
The emerging economies of Asia are growing rapidly, but infrastructure bottlenecks threaten to stifle that growth. Governments in the region are getting richer, but many still struggle to finance their capital requirements. Even when the cash is available, project delivery can be ruinously inefficient. The private sector’s capital and project management know-how are increasingly in demand.
Take India. According to the World Bank’s PPI database, central government PPP projects with a value of US$18.5bn were signed in 2010. And the prime minister has announced a plan to increase infrastructure investment to $1trn between 2012-13 and 2016-17. As many as 1,112 state-level projects worth $135bn are now in the pipeline, focusing on sectors such as education, health, urban development, municipal services, water supply and sanitation.
Similarly, almost three-quarters of China’s $4trn stimulus plan is expected to come from the private sector or city governments. While regulatory challenges remain, new legislation, issued in May 2010, widened the scope for private investment, including the full gamut of economic and social infrastructure sectors. Private enterprises are also now able to establish financial institutions and participate in the reform of state-owned enterprises. These reforms are expected to further promote the use of PPP.
The evolution of PPP in the emerging markets of Asia has evolved on a pragmatic ‘whatever works’ basis shaped by the political, regulatory and technical constraints affecting the process. But two features stand out. The first is a reliance on government to co-finance projects, so that private capital is used to leverage, rather than entirely replace, public funds.
Both India and Indonesia support PPPs through government grant assistance. In Indonesia, for example, the most common approach is a modified build-operate-transfer model in which the government acts as the major shareholder together with the private sector as the minor shareholder. Other forms of government financial assistance are long-term debts to secure financial stability or government-affiliated funds established for credit enhancement for PPPs through guarantees. Multilateral development banks are also active in providing financial assistance in the region.
A second feature is that project revenues are much more likely to come from service users rather than from the public sector, as in the availability-based models of the developed world. In India, the Department of Economic Affairs of the Ministry of Finance explicitly defines PPP as "a concession between a government or statutory entity on the one side and a private sector company on the other, for delivering an infrastructure service on payment of user charges". In the European Union, such an arrangement would not be defined as a PPP.
While recent progress in PPP programme development has been good, there are lessons to be learned from the more mature markets, such as the UK, Australia and Canada. Experience in the region shows that risk allocation between the government and the private sector is not always well-calibrated. In addition to government co-financing, public sector guarantees are also commonplace, since the cashflow from user fees is often insufficient to cover the initial investment, operational costs and expected return of private investors.
In China, foreign investors will often request a guarantee of a fixed return, thereby reducing the very incentives for disciplined project management that PPP is supposed to generate. In South Korea, minimum revenue guarantees left the PPP programme open to a charge that it is allowing private investors to privatise profits while socialising losses. Such guarantees had to be abolished in 2006 and the market has struggled to recover.
Conversely, some countries in the region have done what many developed economies are trying desperately to do: encourage pension funds into direct investments in greenfield infrastructure. In Malaysia’s case, many PPP projects are funded by the government-owned pension funds, the Employees Provident Fund and the Pensions Trust Fund. Liquidity from these funds is expected to support the Tenth Malaysia Plan, through which 52 high-impact projects worth $19.8bn have been identified for implementation.
As these countries continue to grow and their capital markets develop, the more ambitious risk-transfer models familiar in the mature markets are likely to become viable. A stimulus to market sophistication may arise as these markets receive more foreign direct investment and expertise. According to the government of India’s official projects database, just $3.6bn has been invested in the country’s PPP programme by Western equity investors, mostly in large projects such as the Mumbai and Delhi international airports.
That needs to change. As in many other countries in the region, the major challenge for policymakers is to find innovative ways of promoting competition by helping global players to enter the market, breaking up any cosy relationships between domestic players and public authorities. The potential for PPP in the emerging economies of Asia is simply vast – and it will take the skills and resources of the whole world to realise it.