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PPPs in decline ?

July 12th, 2006

There’s been quite a bit happening in relation to Public Private Partnerships, most of it suggesting a diminished role for this kind of financing. Queensland has issued new guidelines, partly in response to criticism of the fact that there has so far been only one major PPP project approved (and that only just scraped in). The criticism is understandable: a lot of people in the financial sector are missing out on really big money every time the government decides to go with simple low-cost bond financing. It’s striking though, that the only state with no reason to reduce measured debt levels (Queensland has positive net financial worth) is also the one that has found hardly any PPP offers meeting the value for money criterion. It seems pretty clear that at least some evaluation processes in NSW and elsewhere have been corrupted by the determination of the parties to do a deal regardless of the economics. The recent NSW Parliamentary Public Accounts Committee report on PPPs doesn’t say this, but it certainly raises plenty of concerns about opaque processes.

Meanwhile, in the UK, it seems to be two steps forward and one step back. The nonsensical idea of an all-in-one contract for schools, in which construction is bundled with provision of “soft services” like procurement and HR is mercifully being abandoned, but new forms of PFI/PPP, such as Building Schools for the Future are emerging. The pernicious features of these “innovations” will no doubt become apparent in time, but for the moment, the Blairites are still keen.

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  1. rog
    July 12th, 2006 at 18:48 | #1

    Until govts can read a contract properly PPS will always appear to be dysfunctional.

    In the mean time the smart people will opt for private health, education, transport, housing etc

  2. rog
    July 12th, 2006 at 18:53 | #2

    ..and I bet I know and have dealt with more Public Works architects, designers, engineers, project managers, site managers and foreman that most.

    By the time the construction is complete it is 90% policy compliant and 10% functional .

  3. Bill Posters
    July 13th, 2006 at 07:06 | #3

    “a lot of people in the financial sector are missing out on really big money every time the government decides to go with simple low-cost bond financing.”

    The AFR is intermittently full of the squealings of PPP proponents, who certainly appear to think they’re being squashed. There’s generally a denial from governments that PPPs are off the agenda – a pretty sure sign they are.

  4. July 13th, 2006 at 08:39 | #4

    Apparently Bracks is getting a new Blairite advisor. So we’re probably stuck with PPPs for the foreseeable future, I guess.

  5. July 13th, 2006 at 08:39 | #5

    In Victoria, I mean.

  6. Terje (say TAY-A)
    July 13th, 2006 at 09:17 | #6

    I am not sure if the cross city tunnel in Sydney is regardes to be a PPP. It seems to me that it is merely a conventional build, own, operate type of arrangement. The problem with the cross city tunnel in my view relates to the notion that such an operator should be quarantined from competition. It would make more sence to put such deals out to tender with no quarantees at all about future competition. If a future competitor wants to build a second tunnel parallel to the first tunnel then tough. If commuters decide to do the rat run and pay with their time instead of with dollars then tough. The problem is not in outsourcing the construction and operation of such projects it is with the sweet heart deals that quarantine them from the threat of competition.

    It seems to me that PPPs are a soft option for those fearful of full privatisation but still wanting efficiency driven by private sector competative bidding. When it comes to schools it would be better to privatise the entire entity, fund it through vouchers (now virtually in effect anyway) and lightly regulate with examination measurments of curriculum outcomes .

    The overlay of medicare plus private GP medical practices and public hospitals seems to be a form of PPP. Is there a susinct definition of PPPs that says otherwise?

  7. Fred Argy
    July 13th, 2006 at 10:29 | #7

    John, I agree that a high proportion of the PPP’s (or their BOO cousins) would have been better done through public borrowing and it is good to see some State governments finally waking up to this. But if the private equity providers (such as the superannuation funds) scaled down their outrageous risk premiums, there might still be case for using private equity.

    The way I see it, PPP’s etc. make good sense where
    (a) there is a genuine transfer of risk involved and the private sector is clearly better at bearing and managing the risk than the public sector (e.g. because the risk is commercial rather than political and regulatory in character);
    (b) private capital markets function efficiently; and
    (c) the public interest can be safeguarded.

    Conditions (a) and (c) could well be met if the financiers were less greedy and public servants more vigilant. As for (b) you are the expert, but is capital market failure worse than government failure? I would love your views John.

  8. July 13th, 2006 at 12:12 | #8

    Fred, isn’t one of the big problems with regards to c)? It seems to me that one of the major problems with PPPs (or outsourcing more generally) is that by signing long-term contracts the party buying the service loses the ability to change its mind about what it wants without paying large penalties, essentially locking in the policy choices made by the management responsible for signing the original contracts.

    To take a well-known example, it seems that most of the tollway contracts have had clauses heavily penalizing governments if they introduce public transport on similar routes.

    I may be a cynic, but I suspect certain government have regarded locking their successors in to such contracts is (to use some geek terminology) a feature, not a bug. However, from the public point of view, governments giving up the ability to control the services they are supposed to provide is not in the public interest.

  9. fred
    July 13th, 2006 at 12:24 | #9

    John,

    Which PPP project is the “only one”? Are you aware of the outcome? Was it beneficial to all parties?

  10. still working it out
    July 13th, 2006 at 12:32 | #10

    (a) there is a genuine transfer of risk involved and the private sector is clearly better at bearing and managing the risk than the public sector (e.g. because the risk is commercial rather than political and regulatory in character);

    This sounds like an unrealistic condition. A PPP almost by definition will require some action by government. If the government does not perform its part competently then it will still bear political risks if the project fails, even if the financial risk is borne entirely by the private sector.

  11. July 13th, 2006 at 13:19 | #11

    “Commercial in Confidence” makes matters worse as it prevents us the public scrutinising deals which could ultimately cost us more.

  12. Bemused
    July 14th, 2006 at 09:05 | #12

    Helen, “Apparently Bracks is getting a new Blairite advisor. So we’re probably stuck with PPPs for the foreseeable future, I guess.”

    Quelle horreur!!! Who is this person? What is your source?

  13. July 14th, 2006 at 10:25 | #13

    Just follow the link in the comment. Links in John’s blog comments are a v. subtle shade of dark red (or brown? Dried blood colour?), so they’re a bit easy to miss.

  14. Ernestine Gross
    July 14th, 2006 at 11:18 | #14

    “But if the private equity providers (such as the superannuation funds) scaled down their outrageous risk premiums, there might still be case for using private equity.”

    The notion of ‘private equity’ in the foregoing is not one I would be able to agree with. Moreover, I would not be able to agree with the conclusion because:

    Firstly, superannuation is compulsory. This constrains the notion of ‘private equity’. Second, a large fraction of superannuation funds are not managed by the ‘constrained owners’ but by managers. The managers of superannuation funds have an oligation to maximise the risk adjusted returns for the constrained owners.

    So, I can’t see why the risk premiums are in any way ‘outrageous’ except if I assume that someone has assumed that the workforce can be forced to save and the resulting savings can be used as a ‘cheap source’ of funds to try out PPPs. If this is the premise, then my question is: Wouldn’t it be more transparent (and transaction cost saving) to increase taxes and use the receipts to build infrastructure? Or, wouldn’t it be more transparent to issue government bonds to finance infrastructure and these bonds can be bought by superannuation funds, if their constrained owners select to have these in their portfolios? – or a combination of both, taxes and bonds?

  15. July 14th, 2006 at 12:01 | #15

    Ernestine,
    Good to see there is something we agree on. PPPs have always been a silly bit of Blairite sophistry and attempts at balance sheet management by governments more interested in appearances than actually doing things the most effective way.

  16. Ernestine Gross
    July 14th, 2006 at 12:57 | #16

    Andrew,

    Thank your for your reply. However, there is the possibility that you agree with me for the wrong reason. You refer to ‘Blairie sophistry’. The term Blairite means absolutely nothing to me. I am not sure whether Fred Argy, from whom I quoted, has anything to do with ‘Blairites’.

    ‘Balance sheet management’ is also not confined to the government sector. But I don’t think this would be a possible source of disagreement.

  17. July 14th, 2006 at 13:39 | #17

    Ernestine,
    The first time I came across PPPs was in the UK, when Tony Blair’s government was trumpeting them as part of his “Third Way” mantra – using private funds to achieve public objectives. Thus, “Blairite” as a term to discuss Tony Blair’s interpretation of the “Third Way”.
    It usually ended up with the government taking all the risks and paying more money than previously, but ending up with accounting outcomes that looked better under the, rather silly, government accounting methods being used.
    Corporate balance sheet management is usually (but not exclusively) done to reduce tax, improve the risk / return ratios or improve appearances. Governments do not normally have to worry about the first two.

  18. gordon
    July 14th, 2006 at 13:46 | #18

    I totally agree with Prof. Quiggin’s remark that “a lot of people in the financial sector are missing out on really big money every time the government decides to go with simple low-cost bond financing.” In fact, the only budgetary question which seems to be taken seriously by our State and Commonwealth govts. these days is how to ensure public money flows into the “right” pockets – namely the pockets from which it (or a substantial part of it) will flow back into the election campaigns of the govts. aforesaid.

    The Future Fund has got to be a world-beating exercise in this kind of “budgeting”.

    And I confidently anticipate the PPP financing (at huge cost to the public) of a new generation of nuclear reactors in Oz.

  19. Fred Argy
    July 14th, 2006 at 14:14 | #19

    Ernestine, I was just making the general point that because of inadequate competition for infrastructure investments (at least until recently), capital markets have been setting themselves an unrealistic rate of return target. This arose for three reasons. First, investors were unfamiliar with infrastructure and assumed a level of risk that was diproportionate to the true risk, especially when one allowed for the likelihood that the Government would not let the project fail. Secondly, there was insufficient competition between financial intermediaries. And thirdly, governments were acting through private agents who demanded their cut, rather than dealing directly with super funds etc.

    All this made the alternative of a bond issue (which super funds and others could subscribe to) a much better proposition for taxpayers.

    But all that is past history. I believe super funds are starting to fall over themselves to get into infrastructure and could be content with much lower profit target for any given risk. That doesn’t mean private equity is necessarily the best option but it has a better chance.

  20. Jonno
    July 14th, 2006 at 21:32 | #20

    The demise of PPPs (or better stated – their use when appropriate, rather than as a panacea) is probably a way off. I don’t think we should overlook novelty, fashion and ideology as drivers.

    The people in Treasury like them – they’re sexy, they appear to be a simple solution to a complex problem – just have a look at the fancy spreadsheet models proving the “best value for money” and the way they are manipulated to ensure that the right outcome (certainly not the public sector comparator) will win. Treasury has been driving them – and it gives them rather more control over major projects than would otherwise be the case.

  21. Bemused
    July 14th, 2006 at 21:37 | #21

    Thanks Helen, you were right about links being subtle!
    As it happens I attended a talk given by Tom Bentley a few years ago.
    He spoke very fluently for probably the best part of an hour but at the end I could not really recall anything of substance he had said. All froth.
    It will be interesting to see what transpires.

  22. Tom
    July 17th, 2006 at 12:53 | #22

    “PPPs have always been a silly bit of Blairite sophistry”

    700+ completed projects worth many billions of GBPs in the UK alone… I hope that Blair does not get serious with his sophistry.

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