Inflationary Pressures are Preventing Central Banks from Easing Financial Stresses -
The Good News (and the Bad) for PPP’s and PFI in the UK.
There has been a lot written and discussed recently about the UK Government’s “Sustainable Investment Rule”, which limited borrowing to ensure that Britain’s total public sector debt never exceeded 40% of national income. It was the 40% Rule that forced spending departments to adopt Public Private Partnerships (PPPs) in the UK to keep borrowing off the Government books in the first place.
PPPs are joint working agreements between the public and private sector. In the broadest sense, PPPs can cover all types of collaboration between the public and private sectors to deliver policies, services and infrastructure. Where delivery of public services involves private sector investment supported by debt financing in infrastructure, the most common form of PPP in the U.K. is the Private finance initiative (PFI).
Now that the Treasury has admitted that it will have to revise (abandon?) Mr. Brown’s golden rules for “fiscal prudence”, including the 40% Rule, what will happen to PPP infrastructure development, notably under PFI in Britain?
There is a strong argument that in order to counter the impact of the credit crunch on the broader economy, lowering taxes and increasing spending, especially in infrastructure, would stimulate the economy and, hopefully, avoid a recession. This fiscal stimulus is what the U.S. Government has done to help the US economy to avoid recession.
At some stage however, higher government borrowings begin to fuel inflation. The IMF has stated that strong inflationary pressures were already preventing central banks from taking corrective action. “With inflation risks on the rise, the scope for monetary policy to be supportive of financial stability has become more constrained”, it said recently.
On that basis, PFI should become an even more important part of the Government’s strategy for delivering high quality public services. PFI projects in themselves are not anti inflationary. But, by requiring the private sector to put its own capital at risk and to deliver clear levels of service to the public over the long term, PFI can deliver public services and assets that are off the Governments balance sheet. This then will allow the Government to spend, tax and borrow funds on more socially sensitive services and assets, especially those outside of the risk – reward horizon of the private sector.
So, in my opinion, the credit crunch will increase the demand for PPP arrangements under PFI. However, as I reported in last month’s blog, whilst project debt financing markets remain open, there are major challenges still facing individual lenders. The terms for new debt pricing levels on PFI, as well as the actual lending appetite of the financial institutions, may not be known until later in the year, or even the next.
