Fishburn Hedges

14.11.2011

A Government that needs economic growth now sees infrastructure investment as a practical answer to its problems.

Roads and power stations are not normally seen as sexy.  But for the Government, right now, the A14 near Cambridge is positively seductive and Sizewell B has all the allure of the feminine body part it resembles.

So, what is it about infrastructure that’s currently turning on George Osborne and Vince Cable?  As the Financial Times and the Sunday Times have been reporting, the Government sees infrastructure as key to unlocking economic growth.

Growth and spending

Growth, lest we forget, is currently virtually non-existent.  The Bank of England is likely to downgrade its growth forecast this week to 1% whilst the Office for Budget Responsibility (OBR) is bound to do the same just as HM Treasury announces the next stage of its growth plan to coincide with the Chancellor’s autumn statement

Such depressing figures might have prompted past governments to splash the cash.  But this Government has neither the philosophical urge nor, frankly, the money to do so.  In fact, Government net capital spending will have dropped to £24bn a year by 2013-14 (from a high of £49.5bn in 2009-10 – see the OBR’s March report).

The allure of infrastructure

So the Government hasn’t got lots of money to spend building new roads and railways itself.  Nor is it a Government that necessarily believes in doing so.  They instinctively dislike direct state intervention in the economy but believe the state can and should correct market failures or enable investment.

And the Government thinks infrastructure can both perform this enabling role, and overcome the problem of their lack of money.

Unlocking growth

The theory is that if the Government can put the right structures in place, private investors will help finance infrastructure which will in turn stimulate growth encourage further investment in the economy.  A virtuous circle.

The Government is trying to do this in a variety of ways (some of which can be used in combination):

1. Small grants to infrastructure schemes that help wider economic growth – this is what the £950m Regional Growth Fund (confirmed two weeks ago) is supposed to do.

2. Revolving funds, which are lent to developers to kick start schemes, and then repaid from the proceeds of the development and including:

a) the £500m for the Growing Places fund (re)announced last week and to be distributed by Local Enterprise Partnerships (LEPs)

b) the Evergreen fund established by CBRE and authorities in Greater Manchester, Lancashire, Cheshire and Cumbria to access European Regional Development Funding (ERDF).

3. Investment vehicles / funds – where pension funds and other long term investors can take a stake in a fund offering a stable return over a long period, something which infrastructure can do very well.

4. Underwriting borrowing – Government indemnity for borrowing against the long term value of assets, which is how rail schemes like the Northern Hub are funded by Network Rail.

5. Allowing investors to make future returns on their assets – the aforementioned A14 bypass would be a toll road, guaranteeing investors a (relatively) fixed income over a specific and long period of time offsetting the cash they invest upfront.

What this tells us about the Government’s approach

Investors and developers can learn several lessons from the approach the Govt has taken:

1. Lobbying for big, no-strings cash investments doesn’t work (if indeed it has since the 1970s).  The Government neither wants nor has the cash to bail companies and industries out. 

But there is funding available where:

2. The Government can get their money back (or at least see investment funds recycled).  Loans are preferred to grants.

3. Quick wins can be provided.  The Government knows it needs investment now to deliver a private sector-led economic recovery before a 2015 general election.

4. The private investor is willing to put their money where their mouth is and match any funding the Govt is providing.

5. The investment will demonstrably stimulate further growth and investment.

A pragmatic approach

Ministers want to be seen to be acting on growth now so that the electorate does not think this Government’s only concern is making painful cuts.  They also know that lead-times on investments are long.  If the Government wants growth in time for a feel good factor for a General Election in 2015, time is running out. 

Big ticket items just don’t deliver quickly enough, and they soak up cash the Government does not have so.  So instead the Govt is making and encouraging lots of smaller investments to spread the potentials win across the country – which also helps increase the number of voters who stand to benefits. 

Will this work? 

In the short term, this isn’t a bad bet.  Against the background of very low growth, lots of smaller schemes getting underway could add up to a decent fillip for the economy, and create a bit of a bump in people’s perception of the economy. 

But in the longer term, it won’t address some of the more major problems with Britain’s infrastructure.

Next week, I’ll blog about the infrastructure gap – where big ticket items might be needed for the UK’s long term competiveness.

Posted by Tom Wadsworth