TE: Funding Infrastructure
If You Build It, They Will Fund
Pension funds can and should invest more in infrastructure.
It might seem like a marriage made in heaven. Infrastructure projects take a long time to build but then deliver cashflows over an extended period. Pension funds have liabilities that stretch over several decades. Why not get the latter to finance the former?
But the couple have barely survived the first date, let alone made it to the altar. A new report from the OECD, a think-tank, estimates that global pension funds have just 0.9% of their portfolios in pure infrastructure plays.
In part, that is due to the OECD’s decision to define infrastructure assets as unlisted debt and equity; pension funds have significant exposure to the listed shares and bonds of power companies and the like. From the point of view of public policy, however, the OECD’s definition is the correct one. The utility shares owned by pension funds are those of companies that were privatised in the 1980s and 1990s; the infrastructure they operate was the result of government spending in previous decades.
At the moment, public finances are very tight. Although governments would like to see more infrastructure get built (thanks, not least to the Keynesian stimulus that might result), they would rather not bear the whole burden. The difficult bit about infrastructure projects, apart from the original decision to commission them, is the cost of construction. That is where governments would like pension funds, and the rest of the private sector, to open their wallets.
What’s stopping them? Risk is clearly an important factor. Pension funds want reliable cashflows that can be used to pay retirees, not the uncertainties that are associated with greenfield projects. As the OECD report points out, there is a “lack of objective high-quality data on infrastructure investments.” This makes it difficult for funds to calculate how infrastructure would fit into their portfolios: for example, whether its returns would be closely correlated with other assets, such as equities. Another problem is that small pension funds may lack the expertise to get directly involved in such large projects; they have to invest via an infrastructure fund, and pay a management fee for the privilege.
The biggest infrastructure investors so far have been the giant Australian and Canadian pension funds, which can benefit from economies of scale. Britain is trying to achieve the same effect by setting up a Pensions Investment Platform which will pool infrastructure investments; the hope is for a £20 billion ($32 billion) fund within ten years. However, the scheme has been slow to get going—one person involved described it as like “herding cats”—and even if it is successful it will not be sufficient to fund Britain’s highest-profile project, a proposed high-speed rail line from London to Manchester.
A new report from Llewellyn Consulting and the Pensions Insurance Corporation points to other problems for pension funds, including the lack of political certainty. Capital spending is often the first item to be cut when governments run into budget difficulties and tough decisions are put off to suit electoral cycles (expansion of airport capacity near London is a notable example).
The report suggests one possible solution: that the government should borrow a separate sum to finance infrastructure spending with the stated intention of selling assets to the likes of pension funds after a number of years. Such debt could be recorded separately in the national accounts, an idea that was suggested to the British government by one of the report’s sponsors back in 2009.
An alternative option would be a national investment bank, along the lines of the European Investment Bank. It would borrow from the market and use its capital to guarantee the equity portion of infrastructure projects. That would allow pension funds to buy the more secure debt elements of the project’s funding.
The Olympics showed that Britain can build projects on time when the country puts its mind to it. A similar effort is required now. The need is clear. More than half of companies surveyed by the Confederation of British Industry compared Britain unfavourably with other EU countries on this issue. Among the G7 countries, only Italy is regarded as having worse infrastructure. And there is no shortage of potential funding—Britain’s pension assets are equal to 112% of GDP. Surely someone can put the two together.