Tailing Europe, U.S. Is on the Road to New Investment Bonds
The White House’s idea to promote public- private partnerships with a new kind of investment bond could raise billions of dollars for transportation projects with relatively little fiscal effect on the government, but the big infrastructure projects carry big risks for the private sector.
The Qualified Public Infrastructure Bond the administration proposed this month would give public-private partnerships access to the low interest rates, federal tax benefits and the government protection of municipal bonds. The bonds are similar to Private Activity Bonds, which have proved successful but have been limited to $15 billion. The new program would not be capped.
The administration’s idea is to combine some of the most attractive features of public-private partnerships with those of wholly public projects. Local governments would get a private equity partner willing to share the risk of a project, while the private sector would get access to low-interest loans.
The program would require congressional approval, and some observers think it may have a good chance among lawmakers looking for new ways to finance transportation and infrastructure projects because receipts from the federal excise tax on motor fuel have been inadequate. The costs are unclear since the administration has withheld details in its initial release of the plan.
The idea has support in the transportation industry, but whether the financial world comes on board is an open question.
A Game of Risk
The risks in transportation infrastructure can be considerable. Construction delays, cost overruns and other problems can be difficult to manage on a complex project. Depending on the structure of the partnership, the private investor may take on the responsibility of managing those risks.
Public-private partnerships, in which a private investor contributes equity and takes a share of risk in an infrastructure project, are widespread in Europe but have not gained a great deal of acceptance in the United States. That has led American investment funds to put money into projects overseas rather than at home.
One case in point is the California Public Employees’ Retirement System, one of the world’s largest investors, which owns 12.7 percent of London’s Gatwick Airport.
One reason the partnerships haven’t taken hold in the United States is that state and local governments benefit from a well-developed municipal bond market that allows them to borrow money cheaply. Rather than deal with the legal hassles of writing a contract with a private investor, the governments prefer to go to the bond market and keep control of their projects.
A brief run of private investment in big transportation projects in the 2000s increased interest in such public-private partnerships, but the examples fell away to financial reality. The management operation of the Indiana Toll Road, for instance, filed for bankruptcy protection last year after traffic declined and an investment by Spanish and Australian firms meant to last 75 years ran off the road.
Voters and local officials in the United States often oppose toll roads or other user fees necessary to generate a return for the private investor. And though the idea of using bonds has some support in Congress, critics say they do not provide a real answer to the enormous costs behind major infrastructure projects.
“Those sorts of programs are good for any part of infrastructure that has a cash flow — that can be water, it could be ports, it could even be a limited applicability to greenfields projects [those on undeveloped land] or some major projects that are enhancements, or bridges,” said Rep. Peter A. DeFazio of Oregon, ranking Democrat on the Transportation and Infrastructure Committee. “For all of the existing infrastructure which has been free but paid for by user fees, it does nothing. Zero. And that system is falling apart.”
Bonds for the Long Haul
Tax-exempt bonds, which minimize risk over time, provide strong competition for large private investments that will be held over a long period of time. “The primary impediment to equity investment by pensions, across all public infrastructure sectors, is the strong access to the tax-exempt bond market enjoyed by many government agencies,” CalPERS wrote in a 2012 report looking at infrastructure investment opportunities in the United States.
The report noted bond interest rates are now lower than the targeted rates of return for CalPERS and other major investors, which usually exceed 8 percent. “Therefore, tax-exempt bonds are the lowest cost option and represent the majority of funding,” the report said.
The recession threw a wrench in public financing. Devastating budget crises in 2009 and 2010 left state and local officials reluctant to borrow heavily to pay for projects despite low-interest rates. Issues of municipal bonds remain down from the pre-recession peak even as state budgets have largely recovered.
The fiscal crisis has led state and local governments to take a new look at public-private partnerships as a way to pair up crumbling roads and bridges with billions in private investment capital.
Jim Reed, transportation policy director at the National Conference of State Legislatures, said partnerships are increasingly attractive to states because they can build maintenance requirements into the contracts. Deals can be structured to give the private entity responsibility for the long-term maintenance of the new asset. “The incentives have to do on the performance side and the longer-term contract,” he said.
Transportation experts say that public- private partnerships are not enough to fix all that’s ailing the American infrastructure network. Still, by promoting the new bond program, the administration is trying to get more money flowing into projects without committing more scarce federal dollars up front. Instead, the costs will come later in the form of tax exemptions. And instead of paying for part of the projects, state and local governments can use their full faith and credit to guarantee state and municipal loans.
That could perhaps make the program more palatable to lawmakers who have been reluctant to spend more money. Details on the bonds are scarce. The White House said it would unveil more information in the fiscal 2016 budget release.