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Thursday, April 13, 2017

Retreat from private infrastructure projects

by Ajay Shah.

The case for private participation in infrastructure


Many years ago, most infrastructure in India was government owned. Policy thinkers strenuously argued for greater private participation, for the following reasons:

  • Private ownership would give better hardware, as a private person cares about what is being built. It would also give better safekeeping of the assets, as a private person cares about his things.
  • Private owners would strenuously push for adequate user charges, and act as a counterweight against the biases of the Indian political system in favour of low user charges and thus a burden upon the exchequer.
  • If a project is unviable, the private sector will more clearly say so and walk away, in contrast with the government processes which will build infrastructure in respond to political pressures.
  • Indian public finance would be better off when its balance sheet is freed from infrastructure assets, and these are instead held by listed utilities who issue debt and equity. It would become possible to bring the vast global capital to bear on these markets and deliver low cost financing.

For some years, private participation in infrastructure grew well, but things have changed sharply. Here are three key pictures. At each point in the time-series, we sum up the value of infrastructure projects in the CMIE Capex database that are classified as being `under implementation' by CMIE. The time series of the stock of `under implementation' projects changes from $t$ to $t+1$ because some old projects are commissioned, some are abandoned, and some new projects appear into the list.

Private infrastructure projects that are Under implementation in the CMIE Capex database

As the graph above shows, we got a huge increase from 2003 to 2011: a gain of roughly 10x in nominal rupees. By 2011, there was a stock of roughly Rs.25 trillion rupees of private infrastructure investment projects that were under implementation.

After  that, private infrastructure projects have receded substantially. We have a decline of Rs.5 trillion in nominal terms. If inflation were taken into account, that is a decline of another 25%.

How has government infrastructure investment activity fared?

Government infrastructure projects that are Under  implementation in the CMIE Capex database

This shows a picture of steady growth. In 2011, both private and government projects were at roughly Rs.25 trillion. From there, the private projects have dropped to Rs.20 trillion while the government has gone on to Rs.38 trillion. There is growth in the stock of government infrastructure investment projects under implementation, even after you take out the 25% increase in prices from 2011 till today.

It is quite a reversal for the long-held objective of having greater private participation in infrastructure.

What's the overall picture of infrastructure investment?

Total infrastructure projects that are Under implementation in the CMIE Capex database

Putting the two together, there is broad stability from 2013 onwards (but a decline in real terms once you take out inflation). What has not been widely observed is the compositional change within this overall number: the private sector is losing ground and government infrastructure projects are gaining ground.

Implications


In my view, the original logic in favour of greater private participation in infrastructure remains. The private sector will use capital more effectively, deliver a better incremental capital-output ratio, and take care of assets better. Conversely, public sector domination of infrastructure investment is going to deliver reduced bang for the buck. The compositional shift in favour of public infrastructure projects is a weakness.

Where did we go wrong?


In the first wave of pushing private sector participation, we did not adequately understand that private participation in infrastructure requires complex institutional machinery. The government's role in infrastructure is in three parts: Planning, Contracting and Regulating. Clear structures needed to be established for each of these three pillars. Mechanisms were required for resolving disputes and protecting cashflows from user charges. We needed to keep our eye on the prize: the projects that come out of all the complexities of the early stage and make it into the listed space, as boring utilities who just collect user charges and do O&M. With the benefit of hindsight, we went  about private sector investment in infrastructure in a slipshod manner.

In the recent period, instead of fixing these institutional complexities, there has been an excessive willingness to give up on private sector participation and make do with muscular State-led investment. It feels like an entire generation of institutional memory, about the problems of public sector infrastructure investment, has been lost. We are now running a Chinese-style risk of large investments going in with low returns in terms of incremental GDP per unit investment.

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