Chris Lewin of the IFoA’s Infrastructure Working Party explores the UK government’s options for getting more investment into UK infrastructure
It is often suggested that UK pension schemes and insurance companies should invest more of their assets in the UK’s infrastructure. The financial institutions concerned could benefit from the performance of these investments, particularly if the economy grows. And society would benefit from new infrastructure such as bridges, hospitals, and tramways that might otherwise never be built because of a shortage of funds. What is the best way forwards?
The government’s principal options can be considered under 4 headings.
Let the existing system continue. Public infrastructure in the UK has so far been funded mainly by the Exchequer through gilt issuance, taxation, and user charges. The rest was funded largely by developers and financial institutions through the Private Finance Initiative, which was discontinued in 2018.
Commercial infrastructure and student accommodation has tended to be funded mainly by financial institutions in the expectation of receiving rent. However, it seems unlikely that ‘do nothing’ will enable many of society’s demands for new infrastructure to be satisfied in the foreseeable future.
This has many challenges, including the:
Definitions of the infrastructure that would count could be difficult. Would it include housing, student accommodation, commercial infrastructure such as shops, offices, and warehouses, mixed-use assets, or improvements to existing infrastructure?
As the first 2 options seem unlikely to achieve satisfactory results, this paper will concentrate on the following 2 ‘make it easier’ options.
Institutional investors have long-term investment horizons. Their principal needs are for stability, good risk-management, and the need to avoid placing too much strain on their very limited in-house investment resources.
The government could help by facilitating the formation of pooled funds through:
The government would establish a framework for a pooled fund of investors which would be a market-maker. Public sector bodies would be able to bid for finance for their projects. The market-maker would approve the best projects. It would then ‘securitise’ the finance for them into tranches of debt and equity, to suit a range of investors’ risk and return appetites.
The government could in suitable cases provide guarantees to facilitate institutional investment, such as to prevent losses above a given threshold, to encourage investment in ‘high tech’ projects. Investors’ returns could be linked to positive achievements in matters like carbon intensity, specified social matters, and environmental improvement. Projects unsuccessful in the bidding could be dealt with as at present.
The government could encourage public sector bodies to form public-private partnerships to channel some or all of their projects through pools established by private investors. Such partnerships would be formed to construct the assets in return for a share in the revenues. But (unlike the PFI) the investors would not normally offer ancillary services.
The aim would be for:
Construction would be supervised by the investors. It may sometimes be possible for a public body to share in the investment returns made by its own pool. A separate paper is available on our detailed ideas in this area.
The Infrastructure Working Party has published its paper Public-Private Partnerships: Opportunities for investment. It outlines a vision where much new infrastructure in the UK could be built using a partnership of public and private investors, harnessing the expertise of experts from both sides and releasing investment by insurance companies and pension funds.
Some thought could also be given to ways of making it easier for everyone to invest in infrastructure, including the general public and overseas investors.
Encourage the issue of bonds and equities for projects to be established by local authorities. The aim would be that these are taken up in the main by local investors. The government would prepare a standard framework for use by authorities who wished to participate.
Establish a national infrastructure fund which would be:
The taxation (if any) of the returns made by different kinds of investor would need a careful review to achieve fairness. Some form of regulation may be necessary to give investors confidence.
There are several attractive opportunities to encourage greater investment in UK infrastructure, all based on the concept of pooled funds. There are already a few pools in the UK for infrastructure investment. But the idea can be developed further in the ways indicated above.
Pools are likely to shorten the timescales between the initial project conception and the infrastructure coming into service. That’s because the pool will already have been established for previous projects.
A pool has the advantage that it can enable the risks of all the projects in the pool to be balanced against each other. The hope is that the losses on one will be offset by gains on another. This will normally enable investors to accept a lower return than for a single project.
Pools can enable various forms of debt and equity to be offered to participating investors with differing risk appetites. In some forms they can encourage a genuine partnership between a public body and the investors, which will tend to improve project quality.
Pools would not put too much strain on the very limited in-house investment resources that most institutional investors possess. The reason is that pools would be able to appoint their own professional experts with wide experience to work in selecting a portfolio with a suitable balance of risk.
This might enable public bodies to be offered more favourable contracts than a single investor in one project could contemplate. Investors in a pool would find it attractive to have a chance of liquidity if their needs change. They may be able to sell their holdings to other investors in the pool, whereas if they are the sole investor they could be locked in.
Are pooled funds worth further thought?
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Note: This discussion paper was prepared by the IFoA’s Infrastructure Working Party, whose members are:
Chris Lewin (chair), Matthew Levine, Refilwe Modise, Hemal Naran, Paul O’Mahony, Kumar Sudheer Raj, Monica Rossi, Theresa Rouhayel, Evangelia Soultani, Christophor Ward.
Some details in the paper do not necessarily represent the views of particular members.
We plan to develop these ideas and would welcome the chance to hear the ideas of other people. Contact Chris Lewin: thirlestane1903@aol.com
