On Infrastructure Financing

As America launches an era of industrial and economic resurgence, it must simultaneously address our ailing, and in many cases failing, physical infrastructure. Improving the security of our supply chains and strengthening our economy through reshoring of manufacturing and technological capacity is an urgent, national priority. Success will depend upon our comparative tax and regulatory frameworks, worker retraining efforts, and trade and antitrust regimes. But the quality of our energy, transport, broadband and other public works are equal concerns for business leaders – and, at present, a major weakness for the nation. Left unattended, infrastructure underinvestment may delay or even disqualify many industry relocations.

Building the infrastructure America needs to power and transport a new century of growth has proven problematic in the best of times. The COVID-19 pandemic has made an already challenged environment for state, local, and federal public infrastructure finance worse. The U.S. sorely needed a new approach to planning, permitting, and financing infrastructure across all 50 states before the latest health and economic crisis. Now, reluctance to adopt a new approach—one that is comprehensive, resilient, flexible, and sustainable—invites economic peril.

Any meaningful solution requires that private capital step up. Experiences with public-private partnerships (PPPs) outside of the U.S. reveal promising and plausible paths that could mobilize 20% or more of our total infrastructure funding needs, or trillions of dollars. Political stars also seem to be aligning for such a solution. Pending legislation, supported by Democrats and Republicans alike, envisages a much larger role for private capital. The most compelling elements of four bills now pending in Congress could be aggregated and augmented to create a best-in-class, uniquely American development bank.

The right PPP model would serve multiple goals.  It would make America a more attractive supply-chain site and bring industry home, eliminating foreign supply risks and boosting the domestic economy. It would create enormous latent demand for industrial output and millions of new, high-quality jobs. Finally, it would efficiently upgrade our public works at minimal taxpayer expense.

Broke … and Broken

The state of our roads, bridges, broadband, airports, sea-ports, energy transmission, levees, and mass transit systems bear directly upon our economic competitiveness—and currently retard growth. The U.S. spends some 2–3% of GDP annually on infrastructure—half of what the EU spends, and only a quarter as much as Australia and China. Years of neglect have caught up with us.

A widely cited 2017 report by the American Society of Civil Engineers (ASCE) graded our systems a D+ before assigning a hefty “$4.5 trillion by 2025” price tag for their prioritized remediation.¹“Infrastructure Report Card,” American Society of Civil Engineers (ASCE). This report has gone largely unheeded, however; since its release, America has lagged an additional $1.5 trillion behind.

Our infrastructure vulnerabilities are not academic. In rail transport alone, 15% of maintenance facilities, 17% of systems (e.g., power, signal, communications, and fare collecting), 35% of tracks, and 37% of stations are not in a state of “good repair.”²“Infrastructure Report Card,” American Society of Civil Engineers (ASCE). By another estimate, proper expansion of and upgrades to our energy grid requires at least $600 billion in investment through 2050.³“Increased Electrification and Renewable Energy May Require Massive Transmission Investment,” Institute for Energy Research (IER) (March 20, 2019). In fact, without $180 billion for transmission and distribution enhancements in the next four years, Americans across the South and Midwest will likely experience longer and more frequent power interruptions.⁴“Energy – Infrastructure Report Cards,” American Society of Civil Engineers (ASCE).

These shortcomings are a top issue for manufacturers and a comparative vulnerability for the nation. They are also a direct obstacle to reshoring industrial production. Infrastructure quality is one of the vital factors that firms evaluate when deciding where to site their facilities: one of the top six “key location drivers” for Deloitte in 2015;⁵“Footprint 2020: Expansion and optimization approaches for US manufacturing,” Deloitte (2015). one of five crucial dimensions for McKinsey in 2017;⁶“Making It in America: Revitalizing US Manufacturing,” McKinsey Global Institute (2017). and one of six for PwC in 2019.⁷“Reconfiguring your manufacturing footprint for growth,” PricewaterhouseCoopers (PWC) (2019). The World Economic Forum (WEF) rated the United States second overall in its 2019 Global Competitiveness Index—but this was despite our infrastructure shortcomings. Against top-five rankings for our labor market, financial system, business dynamism, and innovation capability, the WEF ranked the U.S. thirteenth for infrastructure—well behind Germany, France, Korea, the Netherlands, Japan, the UK, and Spain, among others.⁸Klaus Schwab, “The Global Competitiveness Report 2019,” World Economic Forum (WEF) (2019). Our industrial leaders have repeatedly decried these disadvantages. A 2017 survey by IndustryWeek, conducted before passage of the Tax Cuts and Jobs Act, found that 47% of 1,500 manufacturing and supply-chain professionals preferred “investment in U.S. infrastructure” as their top policy priority for the Trump administration, versus just 26% who chose “tax reform.”⁹Karen Field, “Manufacturing Professionals to Trump: Focus on Infrastructure,” IndustryWeek (June 29, 2017).

Even the recent decade-long economic expansion failed to close our infrastructure funding gap. States and localities historically provide two-thirds of the nation’s total infrastructure spending, the rest coming from the federal government.¹⁰Hunter Blair, “What is the ideal mix of federal, state, and local government investment in infrastructure?” Economic Policy Institute (EPI) (September 11, 2017). The COVID-19 crisis has now crippled the finances of many states and localities, gutting revenues while spending has soared. Many hard-hit states need federal assistance to shore up their healthcare and first-responder services; their urgent physical infrastructure needs will again fall down the priority list. In times of local funding distress, Washington has often stepped up counter-cyclically, either increasing direct spending, or supporting new local debt instruments with guarantees. Following the Global Financial Crisis, Build America Bonds mobilized an incremental $180 billion in capital that would not otherwise have been available.¹¹“Treasury Analysis of Build America Bonds Issuance and Savings,” U.S. Treasury Department (May 16, 2011). But the federal government today has more limited latitude to assist. Many congressional leaders are already fatigued with trillion-dollar, deficit-funded spending plans. It appears much of the country shares that fatigue as well.

Private Capital to the Rescue?

But now comes some good news. Trillions of dollars of private capital are both ready and willing to be deployed for high-quality infrastructure projects that generate revenue streams. The premise is simple: private capital is used in a project’s green- or brownfield build-out phase in exchange for some component of revenue sharing following the project’s completion. The provision of credit and/or completion risk guarantees from the government makes the investment viable while lowering the project’s total cost of capital.

Properly constructed guarantees crowd private financing in, rather than fencing it out. For example, the recent experience of the European Investment Bank (EIB) and the so-called “Juncker Plan” achieved a 15:1 ratio of private to public capital deployed.¹²“European Fund for Strategic Investments: Action needed to make EFSI a full success,” European Court of Auditors (ECA) (2019). The EIB’s remarkable PPP successes are simultaneously credited with creating more than 1.7 million jobs and raising EU GDP by 1.8%.¹³“Juncker Plan has made major impact on EU jobs and growth,” European Investment Bank (EIB) (October 22, 2019). Today, Europe has proven more adept than America at mobilizing private capital for public infrastructure.

In Hamiltonian fashion, developing public infrastructure in the U.S. as a new asset class may even solve one problem with another: better infrastructure for the country could well beget better and much-needed returns for those projects’ owners. U.S. government and corporate bond yields have fallen to all-time lows. They could well fall into negative territory. Our public and private pension plans as well as our insurance companies urgently need to replace all this lost income. Today, on average, the top 100 pension plans in the U.S. are only 82% funded. Absent new sources of attractive, sustainable, long-term, real returns—such as that infrastructure could provide—taxpayers may need to bail out dozens of public and private pension plans and the millions of retirees they were created to serve.

The untapped opportunity for PPP is enormous. A recent Congressional Budget Office (CBO) report estimates that less than 3% of U.S. funding sources for public water and transport assets since 1990 have private origins¹⁴“Public-Private Partnerships for Transportation and Water Infrastructure,” Congressional Budget Office (CBO) (January 21, 2020).—infinitesimal relative to other countries. Roughly half of Australia’s annual infrastructure spend has historically come from private sources, equivalent to more than 4% of Australian GDP. U.S. emulation of Australia’s PPP experience would amount to $900 billion of private infrastructure investment per year—enough to meet the ASCE’s goals. That same CBO report further highlights why diversified financial sources aren’t the only reason to foster more private involvement: public works built in part with private capital and know-how are more likely to be completed on time and under budget. Market discipline and the profit motive create powerful incentives for projects to get done faster and at lower cost.

In analyzing Australia’s broadly positive experiences with PPP, Geoffrey Garrett, dean of the Wharton School of the University of Pennsylvania, cites three crucial lessons that the U.S. could learn:

1. Building first-rate infrastructure—roads, bridges, ports, high-speed rail, airports, power grids, cellphone networks, and fiber optic cables—is essential to realizing the full potential of all economies.
2. The sheer scale of the global infrastructure challenge is so enormous that the only possible way to meet it is to find a much bigger role for the private sector.
3. Smart governments can ensure that increasing the role of the private sector in infrastructure furthers their mission of serving the broad needs of society.¹⁵Geoffrey Garrett, “What the U.S. Could Learn from Australia about Financing Infrastructure,” Knowledge@Wharton(June 8, 2018).

Garrett further notes the “profound irony that America—arguably the world’s most developed and perhaps most market-friendly economy—has persevered with a government-led, if not government-only, financial mindset to taking on its infrastructure challenge.”

Proposed Congressional Solutions

The 116^th Congress has four pending infrastructure bills, each intended to fill at least part of our yawning infrastructure funding gaps through a new era of public-private partnerships—three in the House and one in the Senate. The proposals differ in scope, function, and the amount of federal capital at risk (i.e., “recourse”). They also differ in reporting accountability, agency consolidation, and prospects for rapid expansion.

The House bills—H.R. 658, H.R 4780, and H.R. 6422—are sponsored by Representatives Rosa DeLauro (D-CT), Salud Carbajal (D-CA) and Adriano Espaillat (D-NY), and Danny Davis (D-IL) and Seth Moulton (D-MA), respectively. Each bill would effectively establish a national bank with the singular remit of infrastructure finance. Activities in scope at launch would be limited to debt- and project completion-guarantees. All governing board members would be appointed by the President with the Senate’s advice and consent. Of these, the Davis-Moulton bill is by far the most ambitious, authorizing subscribed equity capital of up to $500 billion, with no more than $100 billion coming from the federal government. Presuming a capital adequacy ratio of 12.5%, the implied lending capacity of the Davis-Moulton bill would be $4 trillion—i.e., genuinely proportionate to the tasks ASCE insists need to be undertaken. H.R. 6422 also includes an advisory function known as “regional economic accelerator planning groups”—an administrative capability that could encourage reshoring initiatives by creating ready site and execution plans.

Senator Mark Warner (D-VA) is sponsoring the Senate bill, S.1535, joined by bipartisan cosponsors including Senators Roy Blunt (R-MO), Amy Klobuchar (D-MN), John Cornyn (R-TX) and Chris Coons (D-DE), among others.  Also known as the Reinventing Economic Partnerships and Infrastructure Redevelopment (REPAIR) Act, S.1535 relies upon an “infrastructure finance authority” structure that is directly accountable to the Secretary of the Treasury, rather than a bank with an independent board. S.1535’s new authority would begin with paid-in public capital of $10 billion and be restricted from issuing debt in its own name. This means REPAIR’s lending and guarantee capacity would have relatively modest beginnings until “proof-of-concept” is achieved, with lending authority specifically capped at $20 billion in its first two years. The bill would simultaneously establish a “Project Delivery Task Force” and an “Office of Technical and Rural Assistance.” The former could tackle a problem that has often proven as vexing as financial resources: the expedition of local and cross-border permits. The latter would provide much the same advisory assistance as H.R. 6422’s “regional economic accelerator” function, with detailed project analysis and execution advisory capacities. Both could underscore and deepen the symbiotic relationship between effective infrastructure financing and the reshoring of supply chains.

An alternate approach that might incorporate all of these positive elements, and perhaps augment them further, would be to establish a new development bank. Development banks differ from the national banks outlined in the House bills primarily through their larger scope of capabilities, including direct debt issuance, credit and completion guarantees, equity lending, syndication authority, and levels of technical assistance. The United States is unique in the world for not having some multi-lateral or national development bank providing these capabilities. This is a remarkable disadvantage. There are more than a dozen multilateral institutions and nearly three dozen national development banks supplementing trillions of dollars of investments, supporting industry and infrastructure all over the globe—yet none in America. Such organizations—like KfW in Germany—have proven adept at attracting, supporting, and retaining businesses, enabling local industries to flourish.¹⁶“KfW Group at a Glance,” KfW. Their ambit extends from infrastructure to worker training to advisory services for large-scale production facilities and beyond.

Relative to the infrastructure agency and national bank instrumentalities now before Congress, stand-alone development banks present another potential benefit, especially in an era of fiscal constraint: most operate with a “callable capital” model, funding their own activities and balance sheets through tax-advantaged debt and, most often, implicit rather than explicit federal guarantees. Their debt often trades at, or even through, U.S. Treasury rates, depending upon the currencies in which they are issued. Such cheap funding provides considerable leverage opportunities with limited systemic risk: no major national or multi-lateral development bank has ever sustained stultifying losses. Loss recourse for, say, the World Bank or Asian Development Bank is effectively limited to the equity capital and their other senior and secured assets. Given this, it is reasonable to assume an American development bank with $100 billion in callable capital (i.e., the same as H.R. 6422) may be able to mobilize $1.5 trillion in private funds within two years, nearly three times more than the Juncker Plan. Callable capital also represents the most taxpayers could ever owe—though if history is any guide, public cost would most likely be zero.

Built to Last

America has a golden opportunity to regain its position as a preeminent manufacturing power, reshoring industrial capacity, fortifying supply chains, and repatriating high-quality jobs.  To succeed, we must create the right tax, trade, and regulatory incentives, in addition to a properly trained workforce. But we must simultaneously bring our antiquated infrastructure up to globally competitive standards—or perhaps even dare to surpass our competitors and establish next-generation infrastructure as a genuine strength.

Absent ubiquitous, scalable, innovative partnerships between public and private capital, it is hard to see where much-needed financial resources and know-how will come from. For this reason, chartering the right institution or institutions to turbocharge a new PPP era should rank among our top national priorities. Without an infrastructure authority or development bank providing proper technical assistance, fast-track permitting, and customized financing solutions, we may well be unable to bring desired manufacturing back to our underemployed communities. And without a new era of American industrial leadership, the vibrant promise of the next American century will be lost.