...against fictions and other tall tales

Sunday, 11 September 2011

The proposed American Infrastructure Financing Authority: Not the way to go

I've been critical of the idea of an American Infrastructure Financial Authority (AIFA) since before President Obama included it in his jobs plan last week. Here is an excerpt of a post I wrote in March on the proposed AIFA and, more specifically, its objective of seeking to direct private capital toward the funding of publicly-oriented infrastructure projects that are both commercially viable and socially beneficial:
In one way, the idea would be a good one if the US economy was riding somewhere mid-point along the business cycle. But the economy is nowhere near such a point. Rather, with real long-term interest rates (i.e. interest rates on inflation-protected bonds) as low as they are today, the US should simply be borrowing massively and investing the amounts on growth-inducing projects, such as building or improving infrastructure, as well as in areas such as education and energy-efficient technologies.

Also, I want to add a word on this notion that the funds be limited to "commercially viable" projects. Let's not forget that the private sector is rarely compelled to invest in projects resulting in positive externalities (i.e. benefits that everyone can enjoy). Governments, however, are much better positioned to do so given that governments can count as profits these types of widely-shared, collective benefits associated with large, public infrastructure projects.
Since Obama gave his jobs speech last Thursday, I've read several commentaries expressing doubt about the necessity and merits of the proposed infrastructure bank. But none are as forceful as this excellent article from the author of the Reuters MuniLand column. Here are some excerpts from the article describing the problems associated with the proposal to establish the AIFA and the role it might play in accelerating the pace of privatization of US public assets:
Currently almost all American infrastructure is funded either through municipal bonds or federal funding. Even as federal funding has been constrained, municipal bond issuance has been very low this year, running at about half of last year’s rate. There is plenty of capacity to fund infrastructure with municipal bonds. From a funding standpoint it’s not clear why we need an infrastructure bank, especially a paygo infrastructure bank. [...]

There is no question that private money is interested in being used for loans to infrastructure projects and guaranteed by the federal government and taxpayers. It’s almost identical to senior bondholders who loaned money to too-big-to-fail banks. It’s the best setup for private money because there is no loss. [...]

[I]t’s a pity that a project dressed as job creator will really be a vehicle to create privatized public assets. Our nation was founded and grew strong on the basis of our shared public infrastructure. It’s a shame that the American Infrastructure Financing Authority will be the agency in which ownership of public assets becomes private. (emphasis added)
I agree that it's a shame. Actually, if the public interest is truly the goal driving such an initiative, US policymakers should stick with a plan that involves borrowing massively and investing into employment-enhancing and growth-inducing public infrastructure projects. Now is exactly the right time to be undertaking such initiatives. As you can see from the chart below, the cost of borrowing for the US government is currently at record lows.*

10-year Treasury Inflation-Indexed Security, Constant Maturity (Source: Federal Reserve)

* Rates on inflation-protected bonds rates are a good measure of the private cost of borrowing to start new businesses or expand existing ones


  1. Thks KP. It's mind-boggling that private-public partnerships are viewed as a solution is when the cost of borrowing is so affordable. As others have mentioned in previous comments (Jorge nod), this Congress is most uncooperative. I suppose the Administration sees this proposal as one of the only ways to gain the support of Congress.

  2. You are correct. The proposal is politically correct. On the other hand, it does offer the opportunity to distribute risk. Unfortunately, the world still sustains the paradigm that deficits for sovereign issuers is anathema. However, if I recall, one or two of your readers, (nods Jorge and GC) argued that paradigm changes take time. One of the readers mentioned that gradualism is better than staying put. I'll go with the informed readership. Maybe it's Pres. Obama's best shot. Good passionate speech.

  3. Circuit. You are on the target! Excellent sounding. No one highlights the issue because as you probably know it has been ranked much lower than the European predicament for most policymakers as imminent priority.

    The potential privatization of public assets by private sector participants at nominally no-cost and financing being so inexpensive, is the single most dangerous economic problematic facing enlightened decision-makers. Since demand is so minimal for respective services, no serious entrepreneur will bid up premiums for the opportunities.

    This is a dangerous time, and these are Hard Times, when a leader's earnestness to do good, can entail tragic consequences.

    To be fair to President Obama, no details have been offered on the type of relationships, the business model, legal and commercial, that will engage the private-public partnership. However, if conventional agreements are an indication, the private sector will, at least, definitely insist on a very-long term to manage and protect their investments. During that horizon, the public could be subject to the delivery of quality and shareholder returns determined by the lead whose reward grid may not be the same as the public's expectation and that of other stakeholders.

    This is a very serious matter. One presumes that it will not be dismissed by pundits as being a non-political issue.

  4. A timely post, circuit (nod!). Unfortunately, now that the private sector has been accustomed to cheap funding and no retaliation in case of non-compliance, it seems optimistic to presume that the sector will commit to long-term employment strategies. Short term, they will; long term, terminations will become the cost-effective measure to ensure the continuity and performance of the projects and of the firm. The lessons of the first decade of the new millennium have been harnessed well.

  5. I agree that it's a timely post! But I sense a dose of cynicism in JH that is absent from your comments. I think yours a healthier attitude (nod). I have problems believing that American business has dropped any sense of social responsibility, and that begins with assisting families move on with their lives.

  6. Again Circuit your work is appropriate. The times are indeed Hard (nod MI)and were it nor for Dickens and the Depression (exc. the underdeveloped) offering dire frames of reference, I suggest that they are as Hard for the unemployed, and the poor. Incidentally, poverty is reaching new highs and still going. Your column, as most comments from your readers confirm, is right on time! In Washington especially, the timing is even more relevant. There is an anxious, and by some of the better, earnest and humble search for ideas. Policymakers and pundits are tapping experience and racing back to the Keynes work between 1924 through to 1932...the famous articles and pamphlets that Swells (nod:11-08-27) named a while back. It's interesting because, the now historic public work initiative by the Swedes back in 1932, owes much to those same manifest ideas of JMK. Wigforss (then Minister of Finance) was an avid reader of Keynes and to a large extent, responsible for implementing the ensuing core programs .
    The 'Can Lloyd George do it?' was key for the Social Democratic Govt. at the time. There's much wealth in those period writings, and couple that with the Swedish experience and FDR's New Deal, solutions are available to the reasonable.

    Hopefully, common sense and sound judgement will deter the electorate from rash decisions in their refusal to compromise on behalf of the needy and spending.

    Always pertinent, circuit.

  7. You're right for the US. But you can't do that in Europe. What can they do when the ECB can't exercise fiscal policy. It can't even persuade.

  8. @MI and Coleen: Europe is indeed the epicenter of risk, although things seems to have subsided somewhat yesterday. Perhaps some higher authority than the ECB had something to do with helping Italy from further problems this time around. I don't blame policymakers for focusing on Europe. As MI says, the Europe *is* the priority. You're right, Coleen, that fiscal policy isn't an option (unlike for the US). The ECB has one objective and they achieve it very well. Low inflation is its only goal. Recall that in the spring the ECB had no qualms in raising rates on the very next day that one of its member states received a loan from the IMF. There is indeed something wrong here. However, what is really troubling is that all of the focus is on resolving the short-term problems of individual states on a temporary basis. No one seems to be addressing the long-term problems caused by the EU's lack of recourse to fiscal remedies. Some ideas have been kicked around but I haven't read or heard anything that would be both effective and politically feasible.
    @Rick: Thanks for the comment and welcome. I must admit sharing some of JH's concerns. I too am skeptical about relying on the private sector to achieve Pres. Obama's objectives. I just don't see how (or why) the private sector needs to be involved if the goal is to build or renew public infrastructures that are meant to achieve a "public good". Right now, the plan is silent as to how "public good" is defined. I have a feeling the authorities may have to widen the concept in order for businesses to get involved. This goes to the excellent points made by MI above (i.e. type of model, agreement, etc). I suppose it remains to be seen...
    @Jorge: I'm pleased that policymakers are looking at the ideas you cover. Interestingly enough, I have noticed that the work of the Swedes has been highlighted in some recent articles. Of course, FDR should be *the* inspiration for the US right now. However, I hope it isn't too late; I tend to think that Obama's first term would have been the perfect time to channel FDR's approach. Also, is it me or am I hearing a lot more pundits and financial commentators quoting Keynes and his ideas? It seems that since Gross and El-Erian have come out for increased public-x, many others have come out in favour of such strategies.

  9. Jorge. I know that you specified Keynes's work as instrumental influence in defining Wigfross public works program (nod), but I think the jury still out on whether JMK was an intellectual origin of the Stockholm school. Just to distinguish and clarify the two targets for some readers.
    @Rick I can only hope that American business is onside.
    @circuitOn the P/P partnership, I concur with MI and JH (nod!!). These are not appropriate times to price these types of deals. They could morph into divestments.
    FDR is politically incorrect these days. Deficit spending is a non-sequitur at the moment in Washington.
    PIMCO yes for the public, but there are many Trsy offcials that hardcore spending.
    As to Europe, higher powers for sure. When was the last time a Sec of the Trsy participated (not assisted or observed) to the Eurozone Finance Ministers' meeting.

  10. @GC Glad to hear that there still many Trsy ops supporting spending. I was under the impression that they retired a decade ago- at least the better- the best retired two decades ago (LOL)
    @jorge- do you have to revive the Keynes-Stockholm controversy (lol)
    @Coleen E. There is nothing Europe can do. It needs an imposition. Who will lead it. France? At the moment, France is fortunate that the lights are on Greece and Italy. Germany? Merkel has enough problems of her own and she seems to have depleted the goodwill of the US over the last year.

  11. @GC and JH: I'm also glad to hear Trsy officials are on side with additional spending. Maybe there is hope after all. Although GC seems to think an FDR inspired move is unlikely. GC, I believe you are right on the involvement of a "higher authority".
    @Jorge: Keep raising those debates; it adds quality to FRB! For instance, our discussion on the Volcker years has become a favorite!
    @GC: You don't see France as a possible leader? But, according to S&P, the Republic has a triple A rating!!(lol - I concur)