The Rudd government is cranking up its infrastructure investment plans in an effort to head off an economic downturn, and in the process hoping to resuscitate shattered business and consumer confidence. The move has important implications for all layers of government together with financiers, investors and a range of public and private sector enterprises.
This is more than a mere knee-jerk reaction on the government’s part — an emphasis on expanding and renewing Australia’s economic and social infrastructure has been a recurring theme of the government’s political narrative since its election in late 2007.
Prime Minister Rudd’s case for infrastructure spending is grounded in the belief that it will stimulate growth and alleviate inflationary pressures by removing supply-side constraints and choke points. It dovetails with another cherished government policy — increasing investment in education to produce a more skilled and flexible workforce. The government is also trying to use infrastructure investment as a lever to introduce a more cooperative and efficient model of federalism.
To some extent the government’s position echoes the Business Council of Australia’s contention that appropriate infrastructure reforms and investment could boost Australia’s GDP by up to two percent per annum1. A 2005 report2 by the Committee for Economic Development of Australia (CEDA) suggested that simply overcoming the existing infrastructure investment backlog (i.e. excluding investment for future needs) in electricity production, gas, rail, roads and water could lift GDP by 0.8 percent. Business investment would go up by 1.2 percent and both housing investment and exports by 1.8 percent each. The consumer price index would fall by 3.2 percent.
Clearly, well-targeted investment in transport, power generation, water and communications enhances the nation’s economic growth potential. (The CEDA report noted above refers to various studies that demonstrate how a one percent increase in infrastructure spending increases economic output by between 0.17 and 0.39 percent.) Investment in so-called social infrastructure — such as schools, health services, urban renewal and the like — generates economic flow-on effects as well as improving the quality of life for many of our citizens. A considerable, ongoing investment in infrastructure is required just to accommodate population growth. There remains an ongoing need to restore and replace much of our existing physical infrastructure, including water and gas mains, sewers, irrigation works, power distribution networks and bridges and tunnels. Some of these assets are now well over a century old and the risk of failure is increasing rapidly.
The threat of anthropogenic global warming is likely to require significant spending on new infrastructure, even if the scale and nature of that investment remains unclear at present. The notion of “peak oil” (a progressive decline in the world’s maximum sustainable production of oil and a reciprocal increase in petroleum prices) could leave Australia with a hefty bill to develop alternative transport fuels and associated infrastructure.
Of course, as bodies such as the Productivity Commission have long argued, the full benefits of infrastructure investment won’t be realised without corresponding reforms in such areas as competition policy, pricing practices, taxation and public investment processes.
The federal government appears sensitive to these matters.
Last May, in its first budget, the Rudd government sought to confirm its infrastructure credentials by allocating an initial $20 billion to a Building Australia Fund to finance critical road, rail, port and broadband projects. Building Australia was to be funded from the 2007-08 and 2008-09 budget surpluses, with the first allocations from the fund to be made in the 2009-10 financial year. A press release at the time from the responsible minister, Anthony Albanese, proclaimed that the government was “back in the business or nation building”. On infrastructure, the Prime Minister talks of a “transformational vision”.
Earlier, the government had established a new entity, Infrastructure Australia, to “advise Australian governments about infrastructure gaps and bottlenecks that hinder economic growth and prosperity”. Infrastructure Australia, headed by Sir Rod Eddington, is also charged with identifying investment priorities and policy and regulatory reforms that will be necessary to enable timely and coordinated delivery of national infrastructure investment. It reports to the Council of Australian Governments (COAG). Its initial priorities are to:
- complete a national infrastructure audit by the end of 2008;
- create an infrastructure priority list for COAG consideration by March 2009 (since brought forward to December 2008); and
- develop best practice guidelines for public-private partnerships.
Allocations from the Building Australia Fund will be guided by Infrastructure Australia’s national audit and infrastructure priority list, suggesting Canberra wants to increase the economic rigour involved in the selection and funding of major infrastructure projects.
These are welcome developments, but ones that have been overtaken by more recent events. As the global banking and finance crisis unfolded in September and October, it became clear that both Australia’s economic outlook and the government’s political dynamic were being transformed. From a focus on inflation and the labour and material bottlenecks caused by the resources boom, government attention has now moved to actions to insulate the Australian economy from the full effects of the credit crisis and slowing global economy.
Accelerated infrastructure spending figures prominently in the government’s response to these problems.
In early October, the Prime Minister told a Brisbane audience3 that “nation building” (i.e. infrastructure investment) was a cornerstone of the government’s strategy for seeing Australia through the banking and finance crisis and its aftermath, and that the government was now bringing forward its long-term nation building agenda. Mr Rudd claimed that, in its first year in office, the government had “committed to a $76 billion infrastructure investment program, allocating funds for road, rail, ports and high-speed broadband”.
The precise composition of this $76 billion remains unclear, although the Prime Minister said it is made up of $20 billion to be allocated through the Building Australia Fund, $15 billion through the Education Investment Fund and other programs and $11 billion through the Health and Hospitals Fund and other programs. (At the time of writing the latter two funds had not yet been formerly established.) A further $26 billion would be spent under the AusLink road and rail program introduced by the Howard government. Another $5 billion has been committed for a national broadband network.
Just how quickly the government can get its projects going remains to be seen. In this regard, several issues arise.
For a start, if the economy slows drastically, federal and state budget surpluses are likely to evaporate almost as quickly as water storages in the worst climate change scenario. . Even with all good intentions the government may have to consider one or two years of deficit financing if it wants to keep up the pace of its infrastructure investment. This will of course be considered on a year-to-year basis.
Second, there’s limited scope for private capital to take up the slack.
Private funding for infrastructure development — either directly or via public-private partnerships (PPPs) — will almost certainly change in the short term as banks and investors sit on their hands (and their wallets). This will be particularly the case where private financiers are expected to pick up all or part of the commercial risk of a project. (In a 2006 study,4 ABN AMRO estimated a base case for public sector infrastructure spending in Australia over the decade to 2016 of $338 billion, of which about $80 billion, or one quarter, would be privately financed. Finding that private element might now be more difficult.)
Still, the world’s capital markets aren’t short of liquidity. In Australia, large sums keep flowing into superannuation funds, kicked along by former Treasurer Costello’s generous final tranche of reforms to the super system. That money has to be invested somewhere. Likewise, the world’s big sovereign wealth funds also need to keep investing. Both are attracted to investments offering reliable and stable long-term returns. The trick for the designers and marketers of PPPs will be to create robust and transparent structures that respond to the relevant asset allocation and portfolio management models. PPPs offering simplicity, transparency and reliable and predictable income flows should be supported.
Third, supply constraints and skill shortages are unlikely to disappear entirely. For example, a recent KPMG global survey of major project owners found that 57 percent of respondents believed resource shortages would continue to push up costs while 46 percent saw the scarcity of skills as a long-term problem. Forty-one percent admitted to under-estimating cost increases. Infrastructure project sponsors, financiers, constructors and other suppliers will need to keep on tap of these potential supply-side squeezes.
Fourth, in their haste to get big infrastructure projects away, governments will need to resist the temptation to relax their own requirements that these investments yield robust economic and social returns. In fact, when capital is scarce the case for thorough and impartial assessment is challenging but critical.
In his Brisbane speech5 Prime Minister Rudd disclosed the main criteria Infrastructure Australia will be expected to employ in assessing and prioritising investment proposals.
- How does a project expand Australia’s productive capacity?
- How does it build Australia’s global competitive advantage?
- How does it develop our cities or our regions?
- How does it reduce greenhouse gas emissions?
- How does it improve our quality of life?
No doubt these criteria will need to be fleshed out and refined. Nevertheless they represent a useful start.
The Prime Minister added that every proposal will have to undergo a serious cost-benefit analysis that for the first time will monetise economic, social and environmental costs and benefits. Proposals will typically have to be assessed over a 30-year timeframe. Costs will have to be accurately assessed and subjected to appropriate sensitivity analysis.
Economic downturn or not, many of us will be looking to the government to deliver against its promised new approach to infrastructure spending.1 Infrastructure: Roadmap for Reform. Business Council of Australia. September 2007.
2 CEDA Growth Report No 54 Infrastructure: Getting on With the Job. Committee for Economic Development of Australia. April 2005.
3 Nation Building for Australia’s Future. An address by the Prime Minister to the Australian Davos Connection Infrastructure 21 Summit. Brisbane, 7 October 2008.
4 ABN AMRO Equities Australia Infrastructure: A$330bn+still to do. November 2006.
5 Nation Building for Australia’s Future. An address by the Prime Minister to the Australian Davos Connection Infrastructure 21 Summit. Brisbane, 7 October 2008.
