Finance Options for Infrastructure

Juan Costain

South Asia Regional Workshop on

Investment Climate
Colombo, Sri Lanka, December 9-11, 2003
Joint WBI/PSDVP Workshop
 Fall in Infrastructure Investments Highlights Risk
of Relying on Foreign Investment

Investment growth robust until ‘97 crisis

Currency devaluation caused many
Project Finance - Debt Commitments infrastructure projects to collapse
160
US energy sector woes hit investment
140
120
Many projects refinanced by government,
US$ billion

100
80 others cancelled
60
40 EMEAP Asia Bond Fund, longer term
20 objective invest in local currencies &
0 promote infrastructure projects
94

95

99

00

01

02

03
96

97

98
19

19

19

20

20

20

20
19

19

19

(Source: PFI) Year (94-02 actual, 03 projected)

Total Loans+Bonds Loans+Bonds Developed Loans+Bonds Developing
2
 Financing Choice Matters

n Few Infrastructure projects generate foreign currency revenues

n Currency mismatches invariably left unhedged with government
substantial capital losses experienced - ¥ appreciation
n Alternatively $ borrowing costs passed on to consumers through $
indexed tariffs compounding problem of $ costs for fuel etc
n Currency of revenues matters, not currency of disbursement
- Asset/Liability matching
n Substantial disbursement in local currency leads to increase in money
supply & increased FX reserves invested at low $ interest rates
n Sterilization of monetary expansion requires issuance of T-Bills at
higher interest rates – fiscal cost
n Developmental assistance invariably ensures the infrastructure is built.
Such direct interventions may be overkill, precluding a role for local
markets & capacity building

3
 Market Response Has Been Lacking

n Infrastructure assets are often the best projects in country

n Sovereign guaranty invariably required for overseas borrowing
n Pension Funds & Life Insurance companies have long term fixed
liabilities denominated in local currency, cannot find matching assets
n In South Asia only Nepal Employees Provident Fund invests directly
in private infrastructure projects (hydro-electric)
n Contractual savings institutions invariably directed to invest
substantially in government debt – not subject to donor interference
n Capital markets generally immature facing regulatory and tax
constraints as well as limited professional capacity
n Supply/Demand function of markets is generally lacking

4
Market Failure Leads to Government Intervention
n Experience from developing economies suggests that few markets
are efficient enough for purely market-based solutions for PFI
n In the few cases where private infrastructure projects have been
implemented, finance has usually been provided in Dollars by DFIs
n So even if the infrastructure is not government, the finance is, and
often much of the risk
n Why, if the project makes sense, it has not been completed by the
private sector
n Entrepreneur objective is to obtain a return on investment through
the construction & operation of infrastructure facilities
n Inefficiencies preventing this can be divided into those that affect
financing, (capital market inefficiencies) & those relating to the
ability to build and operate the facility (infrastructure inefficiencies)
n Deficiencies can also be described as either impacting upon the
supply of capital (undermining the effectiveness of capital markets)
or relating to the demand for capital (infrastructure constraints) 5
 Infrastructure Interventions
Directed
n Grants for greenfield
infrastructure projects
n Revenue guarantees
n Subsidized resources (land,
fuel etc.) or mandated
purchases
n Detailed guidelines for type
and location of facility
Facilitating
n Capacity building & training for
government planners &
regulators
n Privatization of State Owned
Infrastructure Enterprises
n Enabling legislation for PPI
n Judicial reform to protect
property rights. Rule of
contract etc.
n Antitrust legislation to curtail
monopolistic practices
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 Capital Market Interventions
Directed Facilitating
n Tax incentives for infrastructure n Enabling legislation for a
investments competitive capital market
n Access to preferential n Removal of subsidized insurance
funding/guarantees on bank deposits
n Restrictions on choice of n Generic disclosure and accounting
investment types standards for securities issues
n Rate of return caps on n Removal of stamp tax impediments
investments to securities issuance and trading
n DFI loans or guarantees n Back stop or take out financing

The Directed / Facilitating Continuum

- The Example of Funding
Directed Facilitating
DFI A/B Loan Partial Partial Infrastructure Back Stop
Loan Credit Risk/MIGA Fund Facility
Guarantee Guarantee

7
 When is Directed Intervention Justified

n Empirical evidence suggests that directed interventions are

appropriate in circumstances where the underlying market conditions
are less developed
n In these cases private infrastructure may better resemble a
public/private partnership with the private sector undertaking a
subordinate role in a government sponsored scheme
n Facilitating interventions are seemingly better suited to
circumstances where the fundamental requirements are in place
n The use of directed interventions should be limited to cases where
there is no prospect of market deficiencies being corrected within a
reasonable timeframe, or if a non-market solution is sought (such as
a need to build in a given region for social reasons)
n It may be that the long-term solution is a facilitating change in policy
but expediency calls for short term directed action

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 Matching Interventions to Sector Inefficiencies
Interventions Inefficiencies
INFRASTRUCTURE CAPITAL MARKET INFRASTRUCTURE CAPITAL MARKET

DIRECTED DIRECTED
No capable project No sources long term funds
Infrastructure Grants
Revenue guarantees sponsors
Sponsors qualified but
DFI loans & guarantees
Subsidized resources Uncreditworthy projects financially weak
Restrictions on investor
Detailed directed Weak Government Political environment
types
guidelines capacity precludes investment
Tax incentives
Rate of return caps Political uncertainties No access intl. markets
Directed funding
Unreliable raw materials Fiscal crowding out
Utility privatisation
Financial market instability

Equal Tax Treatment Tax on infrastructure

Capacity building for investments
regulators & planners Take-out financing Weak regulatory structure
Regulatory structure
PPI enabling legislation Improved disclosure/
Lack of good title High transaction cost
accounting standards
Judicial reform
Remove of stamp tax Monopolistic practices Credit support for
Antitrust legislation prevail alternative investments
Remove deposit Legal constraints
insurance Rule of contract doubtful Limits on market
FACILITATING FACILITATING
Enabling legislation development

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 Mapping Intervention Types
INFRASTRUCTURE CAPITAL MARKET

n Interventions to promote PPI DIRECTED

IDFC – India
should have characteristics
IDCOL – Bangladesh
consistent with the underlying PSEDP – Pakistan Asia Bond Fund
country and sector conditions.
Chad-Cameroon Pipeline PSIDC - Sri Lanka
n Each type of intervention, directed
Provident Funds &
or facilitating, is only appropriate Chile - Toll Roads Tax Rules – India &
to address a constraint in the Malaysia
same sector of the Infrastructure /
Capital Markets dichotomy
n Tendency for DFI operations to be China Toll Roads
more heavily concentrated in the Africa PIAFF INCA - South Africa
directed intervention quadrant,
with a focus on the supply of funds DCA-USAID Phillipines Chile - Pensions
(the Capital Markets quadrant). Municipal Infrastructure
Investment – South Africa
FACILITATING

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