To restate the obvious, the US has a huge amount of infrastructure catch-up it needs to do. Infrastructure spending provides an estimated $3 of economic growth for every $1 of spending. That means debt worry-warts need not fear, since deficit spending on infrastructure would lower the Federal debt to GDP ratio would fall.
But since the balanced budget types can’t get out of their own way and embrace MMT, budget hawks and ideologues who prefer private sector profiteering to government provision of services both tout the idea of “public private partnerships” as a scheme for what amounts to privatization of public services. These schemes are a transfer from local citizens, who wind up paying users’ fees, to financiers, design and construction firms, and investors, the overwhelming majority of which are not part of the community. So they are net transfers out….once you ignore political donations.
So as opposed to adding to local growth, these privatizations amount to new taxes in the form of users’ fees, but paid to private owners. Even worse, the deals are very one sided, with “gotcha” clauses like requiring payments if the public amenity is taken out of service for pressing reasons, like an emergency.
These infrastructure deals are also a lousy way to stimulate growth, since where the promoters want to do their projects is routinely not where the real economy payoff is greatest. And the process for selecting the consortium to handle the project, negotiating the deal, and for the promoters to get the funding is much more time consuming than having the government do it itself, making a mockery of the claim that the private sector is more nimble.
But on top of these issues is that certain types of projects, most notably toll roads, have a record of consistent failure that the press chooses to ignore. The Wall Street Journal today, for instance, treats a toll road deal that failed under then-Governor Pence as if it were mere bad luck, as opposed to precisely what you’d expect if you knew the terrain. From the Journal:
The project, a partnership between the state and private investors, was signed by Vice President Mike Pence in 2014 when he was the state’s governor. It is two years behind schedule and only 60% built. The state is in the process of taking it over and will have to issue debt to finish it…
The southern Indiana project near Bloomington had a raft of setbacks early on. The state selected a consortium that included a Spanish construction company, Grupo Isolux Corsán S.A., that hadn’t worked on a road project in the U.S. Its $325 million winning bid was nearly $75 million below the next-lowest one. The company quickly ran into unrelated legal difficulties in Europe that hurt its finances….
There have been some notable public-private failures. Toll-road partnerships in Alabama, Texas and California declared bankruptcy in recent years after revenue from tolls used to finance these projects fell short of projections. Indiana’s first major public-private partnership, a deal with Ferrovial S.A.’s subsidiary Cintra to operate the Indiana Toll Road, fell into bankruptcy after revenue missed targets. It has since been bought by new owners.
The article depicts this Indiana deal as a mere “black eye” and presents another Indiana project as a success:
Indiana has another public-private partnership for a bridge over the Ohio River that was recently completed ahead of schedule and $200 million below the state’s estimated cost.
However, mere completion is not the metric for whether these ventures have worked out. Consider the grim findings of this 2014 story in Thinking Highways by Randy Salzman:
Beginning with the contracting stage, the evidence suggests toll operating public private partnerships are transportation shell companies for international financiers and contractors who blueprint future bankruptcies. Because Uncle Sam generally guarantees the bonds – by far the largest chunk of “private” money – if and when the private toll road or tunnel partner goes bankrupt, taxpayers are forced to pay off the bonds while absorbing all loans the state and federal governments gave the private shell company and any accumulated depreciation. Yet the shell company’s parent firms get to keep years of actual toll income, on top of millions in design-build cost overruns….
Of course, no executive comes forward and says, “We’re planning to go bankrupt,” but an analysis of the data is shocking. There do not appear to be any American private toll firms still in operation under the same management 15 years after construction closed. The original toll firms seem consistently to have gone bankrupt or “zeroed their assets” and walked away, leaving taxpayers a highway now needing repair and having to pay off the bonds and absorb the loans and the depreciation.
The list of bankrupt firms is staggering, from Virginia’s Pocahontas Parkway to Presidio Parkway in San Francisco to Canada’s “Sea to Sky Highway” to Orange County’s Riverside Freeway to Detroit’s Windsor Tunnel to Brisbane, Australia’s Airport Link to South Carolina’s Connector 2000 to San Diego’s South Bay Expressway to Austin’s Cintra SH 130 to a couple dozen other toll facilities.
We cannot find any American private toll companies, furthermore, meeting their pre-construction traffic projections. Even those shell companies not in bankruptcy court usually produce half the income they projected to bondholders and federal and state officials prior to construction.
I strongly encourage you to read this article in full.
A big reason these deals do poorly is that infrastructure firms have copied the model of the creator and leader in that business, Sydney’s Macquarie Bank. It’s also a world leader in rent extraction. From another 2014 article:
Jim Chanos, president of the hedge fund Kynikos Associates and another famous early doubter of Enron, has been Macquarie’s most outspoken critic. In 2007, Chanos told [Fortune Magazine’s Bethany] McLean that Macquarie had ”perverse incentive to serially overpay for assets,” and compared the company to a Ponzi scheme.
McLean explained: “That’s because the assets are owned not by the bank itself but by the shareholders in its funds. The shareholders pay Macquarie management fees that are based on the size of the fund, meaning that Macquarie has an incentive to add to its collection.” That’s why Macquarie had every reason to bid a full billion dollars more than the second-place bidder for the Indiana Toll Road: Every additional dollar earned fatter fees for its bankers.
As an investment bank, Macquarie also earns money from transaction fees, which its infrastructure funds pay every time its banking arm rearranges investments into new corporate structures, or refinances a loan, or closes a deal. Chanos pointed out that 84 percent of the deals Macquarie advises involve its own entities. Shareholders ultimately eat the cost of these self-dealing fees.
Macquarie also pays itself handsome annual fees to manage its numerous satellite entities, in an “externally managed” arrangement criticized by corporate governance advocates. McLean called the funds “fee factories” for the company, noting they generate hundreds of millions of dollars each year for the firm. Even though Atlas is just a holding company with little of its own overhead, it paid Macquarie $36.7 million in fees in 2013 — millions more than it paid out to its shareholders.
The Sydney Morning Herald’s Alan Kohler shares Chanos’ skepticism. In a 2004 editorial, he wrote, “The Macquarie model is justly famous around the world. It is quite possibly the most efficient method of legally relieving investors of their money ever conceived.”
In other words, privately funded infrastructure investments and privatizations should be viewed with prejudice, yet clever PR has meant they are incorrectly seen as a good deal for governments, as opposed to a good deal for everyone but governments and their constituents. As Salzman put it:
The bottom line is that in the P3 [public private partnership] contracting process unaware taxpayers, and drivers, are facing brilliant financiers, the best fiscal minds money can buy. As we should have learned in the mortgage meltdown, the “set of financial interests who have learned how to mine the tax code” – as Virginia’s P3 director noted – have few qualms about how they make money.
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Is PPP really Public Private Partnership or Private Plunder of the Public ?
As JH Kunstler has been saying for a while “Everything has become a racket” :(
Capitalism is a racket. The people at the top of the pyramid don’t believe in it. Hence the clauses requiring government to guarantee their profits in case of failure. Some “free market”.
Capitalism is a fiction they push upon the rest of us to keep us struggling.
Gasoline prices fluctuate by a quarter periodically, and have for the last few years as oil prices fluctuate a few bucks above and below the $50/barrel price. My point? For the life of me I cannot grok what’s wrong with raising the gas tax – immediately – by 25¢ and indexing it to fleet average fuel economy. Thus, as cars of the future become more fuel efficient, the tax rises appropriately – all without further political intervention. Where are the adults in the room? Aren’t roads and bridges an American issue instead of a Republican vs. Democrat issue? Sheesh!
“Grok”?
Stranger in a strange land
It also shows up as part of the lexicon of posters of this site.
SC Connector 2000 is not far from where I live and I believe was conceived more as a “growth corridor” funded through user fees rather than due to any crushing transportation need. The politician mentality in SC (exemplified by recent guv Nikki Haley) is that government exists to create business opportunities for people like themselves and trickle down benefits for the common folk will follow. Meanwhile that other GOP bedrock principle, “read my lips no new taxes” (except sales taxes), is a given. The problem of course is that while tolls may be fully in tune with GOP ideology, Americans in general view freedom of movement as one of their most basic freedoms and have grown up with an interstate system that mostly forbade tolls. They will go out of their way to avoid them and I recall reading that the contract for the Indiana Toll road even forbade the state from improving competing roads in order to guarantee business for the toll operator. It’s all about the rents, as Michael Hudson would say.
Politicians like toll roads because they need to get around the the state quickly and don’t pay the tolls, in addition to the corruption. The needs of common people are different, and ignored.
A bit of a tangent, but tolls, run correctly, can produce decent results.
https://goo.gl/o4DNXh
Note that for this case, in 2003 the govt. tried to pass it off to a private operator, a plan that was shelved after strong opposition. No doubt if the plan had succeeded, we’d still be paying for this.
I understand your point (as in the headline is sweeping and arguably too broad) but in the US context today, “toll road” = “toll road funded by private investors”.
Your example was a toll road built in 1990, and not a “public private partnership” but one funded by the government. Not comparable to what the post is talking about. And as you point out, had it been privatized, it would be a different story.
Please stop using the propaganda term “PR” — what many have been taught to call “PR” is propaganda.
Yves, what is the basis for this statement of “fact”?
“Infrastructure spending provides an estimated $3 of economic growth for every $1 of spending.”
I have serious doubts as to its validity. Perhaps on selected upgrades of infrastructure, but certainly not on things like repaving an existing road, or painting an older bridge.
Your thoughts?
Without basic maintenance outlays, systems begin to break down and become unusable (witness the current state of our infrastructure). In order to combat entropy, there is a base amount of energy input (converted to dollars) that must be directed to our systems, those systems in return are the base for economic activity.
In terms of specific numbers, I’ll leave that to Yves.
You really don’t think that building roads, bridges, and water lines leads to more economic activity? How are people supposed to sell products if they can’t get them to customers in the first place?
No I don’t with the exception of new, strategic infrastructure. Just repaving a highway or strengthening an older, exisitng bridge doesn’t change anything with respect to existing access.
And yes, these things need to happen, but again, I doubt the economic impact is as great as 3:1.
Most of the infrastructure hype comes from people/organizations that stand to benefit from the spending. Also, in these times, people in the federal government talk it up because they know it will create jobs (for the infrastructure maintenance) and keep this economy going a little longer.
It won’t be very many more years before we won’t be able to repave the myriad of roads in the country. We will (and should) let some of these go back to gravel. How’s that for return on investment?
I’m with Mike. Randomly building roads or bridges or even cities to nowhere does not automatically create economic activity. Witness the see-through residential towers in China. Or the overbuilt U.S. retail sector. “If you build it, they will come” is a Hollywood fantasy – sometimes true but often not.
Repaving the interstate that was just repaved last year is usually a waste of money. Building a new interstate between two points that are already well connected would be a waste of money too.
In large parts of California, people complain about not having enough roads while driving 50 miles or more to work. The roads would be a lot less busy if people were able to live within 5-10 miles of work. This, however, would require that jobs and housing be created in nearby locations, but that is not how the cities’ incentives are stacked. Building more roads will create more pollution but won’t fix the underlying issue. The better solution to boosting growth, in this situation, is not to build “infrastructure” (that would create more pollution), but to fix the distribution of jobs and housing to reduce average commute distances.
And how exactly do we “fix the distribution of jobs and housing to reduce average commute distances”?
And if you redistribute all of these jobs and houses that requires what… new infrastructure! Infrastructure is much, much more than just repaving roads.
Well…one reality is the strong cultural preference for a NEW NEW NEW large four bedroom single family home with a three car garage, even for a family of three or fewer. :)
That drives a lot of the driving.
With well over 30 million people in California, the idea of investment in trains seems worth considering…but, I guess, there’s “no money” (ie no profit) for something like that….
The multiplier effect is a common economic principle. It is usually stated around a 3:1 ratio. The general thought pattern is like this – one dollar of ‘new’ money comes into an economy through consumption of some product or service. Some of that money is kept by the enterprise say 30 cents and the rest is spent again into the economy buying goods and services – say 70 cents. The sellers getting the 70 cents will put 10 cents in their pockets/bank and spend the rest into the economy buying goods and services. and so on. The economic effect at this point is $1 plus 70 cents, plus 60 cents, plus fifty cents, plus 40 cents etc. Each time a consumer payment for some goods and/or services is rendered a small part of it is saved as pure profit and the rest goes to pay other goods and services providers. The accrued effect of this transaction chain is often 1:3 – three dollars of economic activity (additional spending) for every dollar a consumer spends. Its called the economic multiplier effect, and it is real!
Cheers
I recommend the Strong Towns blog, which is compiled by a (conservative) engineer but makes a very strong case that much infrastructure spending is if anything Counterproductive.
Building a massive new interchange to enable a new collection of Big Box Generica (which bankrupts the previous cluster of Big Box Generica, which replaced the traditional downtown is not really “growth” except as a never ending treadmill of wasteful sprawl inducement. Which in the long run is not sustainable.
There are two separate things that provide economic benefit. The first is that much of the expenditure goes to local workers and suppliers. This is money that is recirculated quickly in the community, unlike tax cuts for the wealthy that get “invested” and don’t recirculate. So these types of projects have pretty good velocity of money through the economy, which has been a major economic challenge over the past decade.
The second is that good infrastructure projects either maintain or provide new capacity to local businesses and people. Companies will struggle to expand if bridges are closing or getting weight restrictions, water systems lose capacity and pressure, or electricity becomes erratic. Providing additional transportation, water, sewage, power etc. can provide new opportunities for companies to expand or people to live there.
Bridge painting is preventative maintenance that may keep that bridge functioning for an additional decade or more, saving much larger expenditures.
However, they need to be real projects with a real need, completed in a manner so that they will actually perform their intended function. This means there should be an actual plan that is funded and executed. Random expenditures of money don’t provide the benefits. Here is an example of how infrastructure spending does NOT provide $3 of benefits for each $1 spent despite its presence in a region that could desperately use rational infrastructure spending: http://www.bdtonline.com/news/bluefield-s-bridge-to-nowhere-featured-in-usa-today/article_52dde5dc-04e8-11e7-97ec-ff5d5ca571f7.html
When we’re talking “infrastructure spending”, people are generally referring to transportation systems for the most part. Highways, airports, rail, light rail, perhaps even waterways.
Water and sewer systems are primarily maintained/expanded by the municipalities that operate them. Federal money may be involved, but I doubt much.
And of course, electric systems are and should be maintained and upgraded by the power companies.
All that said, transportation infrastructre is important; however, it’s not like we have any major economic crisis anywhere in the US due to lack of infrastructure. I don’t know of any companies that have to move due to shipping bottlenecks. Now some politicians love to go after big projects in their districts/states, touting economic growth, etc. In Charlotte, they continue to expand the airiport and have sought millions in funding for a stupid trolley line that does nothing more than shift development to a depressed area. Also, the second light rail systme of several miles only, now tops out at 1B in costs. People could ride the bus for much cheaper, but that wasn’t good enough.
The US is so full of itself in terms of wants and needs. The average person lacks the capacity to understand how manipulated they are with all these wants (projects) and is made to believe they are needs.
The US WILL have a huge infrastructure spending push starting in 2018 when the economy hits the shitter big time. And this project WILL be debt fiananced (of course). But just like the current apartment boom, once it spends out, I doubt seriously we’ll have 3X in ongoing economic activity.
Isn’t this kind of the point. Federal dollars could be given in grants to help improve these systems. State and local governments are bound by strict budgets, the Federal government is not, thus the MMT point of the post.
Not even sure how you would quantify this, but there are most certainly many, many urban areas that are choked with overburdened and decrepit roadways. Chicago and the Bay Area are two that I can speak of from personal experience. There are plenty of fixes that could be implemented if there was money to do them.
I am not much of a fan of building entirely new routes, but the existing roads were designed to handle many fewer cars. They should be reworked to handle modern levels of traffic.
Again, with MMT framing the fact that it is “debt financed” isn’t a concern for the federal government. And this:
Along similar lines to the toll road
“public private partnership”scam is the one that the City of Chicago fell for, basically leasing its streets and parking meters to Morgan Stanley for 75 years.And let us not forget the Skyway…
The city of Chicago’s Department of Streets and Sanitation formerly maintained the Chicago Skyway Toll Bridge System. A transaction that gave the city of Chicago a $1.83 billion cash infusion leased the Skyway to the Skyway Concession Company (SCC), a joint-venture between the Australian Macquarie Infrastructure Group and Spanish Cintra Concesiones de Infraestructuras de Transporte S.A., which assumed operations on the Skyway on a 99–year operating lease. SCC will be responsible for all operating and maintenance costs of the Skyway but has the right to all toll and concession revenue. The Triple-A bond insurer Financial Security Assurance Inc. (FSA) has guaranteed $1.4 billion of senior bonds to provide long-term funding for the privately operated Chicago Skyway. On June 30, 2006, this same joint-venture assumed responsibility for operating and maintaining the adjacent Indiana East–West Toll Road for $3.8 billion. The agreement between SCC and the city of Chicago marked the first time an existing toll road was moved from public to private operation in the United States.
The SCC has been owned by a consortium of Canadian pension funds (Borealis Infrastructure, Ontario Teachers’ Pension Plan, and CPP Investment Board) since February 2016.
I take exception to this description –
Maybe it’s because this site does such a good job explaining the bezzle in clear cut language, but I would definitely not describe these people as ‘brilliant’ unless a 3 card monte dealer is also considered a genius.
What is the federal guarantee enabling these projects?
States guarantee the bonds sold to fund these projects, not the Federal government.
In European countries, those privatized toll roads are managed differently, probably because bankruptcy is handled in another way in their legal environment. Toll road operators rarely go bust.
There, P3 agreements frequently stipulate a minimum traffic level which, if not met for any reason, must be compensated by the State. Yes, the State must guarantee a minimum level of revenue to a supposedly profit-oriented private enterprise.
This has been the case for highways in France and in Portugal. The disclosure of those terms raised brief scandals, but contracts had already been signed and, since deemed non-leonine, had to be enforced.
Another trick operators of toll highways are fond of is deployed whenever the State wishes to have highways upgraded in some way (e.g. new security measures).
Since those investments were not explicitly stipulated in the P3 agreement, private operators gleefully argue for an extension of their concession (X more years) in exchange for taking care of the required investment. Yes, they prefer an extension to collect more tolls than letting the State pay for the investment itself. This was customary in France, but the approach has come under increasing criticism recently, since the incremental profit usually vastly exceeds the required outlays for upgrades.
Just like in Goodfellas:
After being held up for an extra hour crossing Indianna on what is quaintly named their turnpike, I made the mistake of saying to an older cashier at the only rest-stop along the way that I’d never take this road again. She replied, “This is America, you can do what you want!”. Case closed I guess, don’t diss the turnpike to the folks who live there. I still won’t take that road again.
As a newly minted Economist in the 80s, I embraced the private does it better meme – that the business of govt was not business.
I participated in several PPPs in my career and met several Macquarie Men – flash Harry types if ever I met one. The bank was called the Millionaire Factory.
I was an idealist, but quickly learned that deals weren’t always in the public interest. Later in the 90s, I was working for a State Treasury and was asked to conduct a tender for the sale and leaseback of a newly constructed ‘learning facility’ – some $50m was involved and the govt wanted to get the asset off its books and not have to borrow.
I did the analysis of the tenders and compared the cashflow to that of the govt if it chose to do nothing. Of course, the private deal was a great deal more expensive than govt funding and ownership – these guys never take any risk.
I was called over to the Parliament at about 730 (my boss was away) and called into the Premier’s office. He said to me was I the author of the brief and I said I was. He asked if the winning tender was good and I said that it was cheaper for the govt to not sell it.
He said ok and it was not sold.
One of the few times my frank and fearless advice was listened to during my public service.
PPPs are rarely in the public interest and I have friends who would be paying over $100 per week in tolls in Sydney. Horrible city, nice to visit but you would want to live there unless you had lots of loot.
“There have been some notable public-private failures. Toll-road partnerships in Alabama, Texas and California declared bankruptcy in recent years after revenue from tolls used to finance these projects fell short of projections. Indiana’s first major public-private partnership, a deal with Ferrovial S.A.’s subsidiary Cintra to operate the Indiana Toll Road, fell into bankruptcy after revenue missed targets….”
Why am I thinking “subprime mortgage cdo” here? Toll roads are not houses, so not really the same. Except something seems very familiar…. the ‘guaranteed profit’ bailout clause?
Thanks for this post.
Actually PPP may work. I have been astonished at the speed of building of a replacement road for a very heavily used highway near my hometown of Amsterdam (Netherlands, indeed quite a different setting). I guess that when a properly capitalized consortium is responsible for the design, building and maintenance for a period of 20+ years, things may go differently from when the government contracts for those functions seperately. My guess is that the consortium is paid per vehicle and per usuable mile x time so is very much incentivized to think about the cost of lengthy construction, choice of materials vs too much “downtime” for repairs.
The institutional setting does matter of course. In the Netherlands there is no pressure ‘to send more people to the private prison’ (not just because there are none) or ‘force drivers to use the toll road’ and sweetheart deals are currently not to be found.
It is rather the converse: some enthousiastic builders are suffering for having put in some low-ball bids for (designing, maintaining and) constructing parts of a highway and some bridges and tunnels.
Please note: this speed of construction does not include the as usual lengthy process for deciding whether the replacement road was needed and which route to use
If this is similar to the structure of the project (this seems to be a component) it bears no resemblance to the Orwellianly-named “public private partnerships” in the US or the famed Macquarie model. PPPs have investors winding up owning the infrastructure and collecting usage charges from citizens. This looks to be straightforward government contracting with private builders, with the added wrinkle of a long-term maintenance contract/ Emphasis mine:
http://www.roadtraffic-technology.com/projects/botlek-bridge-replacement-a15-highway-rotterdam/
Recall that school buildings and hospitals that are government owned require bond financing. The Netherlands government agency looks to have decided to outsource that to the builders. And if they really do have an ownership stake, it’s a minority. They don’t have control.
Re: 3:1 multiplier effect: this is the first time I’ve heard that the multiplier is independent of what part of the economic cycle you’re in. I’ve always been led to believe that the multiplier is bigger if you are in a liquidity trap.
We should’ve done a $2 trillion infrastructure spend in 2009. That would have eventually lowered the debt to GDP ratio significantly. Waiting until now means lower multiplier, less reduction in debt to GDP, and higher interest cost.