What’s good for the goose, is good for gander: the case of China’s Infrastructure Bank

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This article recently featured in Australian Financial Review on July 3, 2015.

When the Australian Treasurer visits the Great Hall of the People in Beijing to sign up the nation to the Asian Infrastructure Investment Bank (AIIB) it could reap big dividends, but not as you might expect.

Of course Asia needs more infrastructure and the sooner the better. Recycling China’s massive foreign exchange reserves of almost $4 trillion into roads, schools, fresh water, sanitation and cleaner energy is tantalising for an export nation like Australia.

But unfortunately as Australia’s experience can attest, more dollars directed to infrastructure brings no guarantees of better growth, more productivity or higher living standards. The root cause of this conundrum is not having a robust infrastructure governance framework to identify projects that will consistently yield the best ‘net benefits’ for society.

The Treasurer has rightly pointed to transparency and accountability as being a key for AIIB to lock in Australia’s membership. Because he well knows that transparency enables sunlight to illuminate infrastructure decision processes, where accountability and high likelihood of scrutiny acts to sanitise poor and at times corrupt decisions.

This is an absolutely proper standard for AIIB, but why has Australia exempted itself?

Not a lot is known about the AIIB but its clear in objective, to drive stronger regional economic growth; poverty alleviation does not figure in its mandate.

According to the Chinese, the logic for the AIIB is to redress deep dissatisfaction with

Bretton Woods institutions such as IMF and World Bank. They are perceived to be cumbersome to deal with, overly bureaucratic, have confusing and multiple objectives and are wasteful with resources that together impact on the quality of infrastructure investments.

Regardless of the merits of these accusations, there is an uncanny parallel with Australia. Economic efficiency of Australia’s infrastructure has been waning for over a decade. For example labour productivity in electricity, gas and water is 30 per cent lower than a decade ago in part reflecting government owned enterprises being overloaded with too many objectives, spanning commercial, social and fiscal arenas.

Inevitably these objectives while important have been executed inconsistently and sometimes with perverse effect. The reliability of electricity supply is a case in point. It traverses economic and social objectives, however widespread ‘gold plating’ and extravagant use of scarce capital occurred without a proper governance framework.

SMART has estimated that a better infrastructure governance framework could deliver the nation a massive saving exceeding $4-5 billion a year, from better planning, improved procurement techniques and cutting green and red tape.

This goes to the heart of the Chinese concerns, which has been replicated at a global level, and Australia must also heed it as an important reform lesson too.

But the task before Australia is to follow through with its demands on making the AIIB a case example of good infrastructure governance. Its authority to do this would be strengthened if Australia had a better track record in this area.

So while some may be counting the benefits of AIIB as being principally about more trade, investment opportunities and jobs for Australians the potential dividends extend well beyond these direct benefits.

If AIIB lives up to its rhetoric of seeking to push the boundary for better practice in infrastructure governance, and it appears Australia will goad it along, then the scene is set for reform. Put another way, surely for Australia to have any international credibility on this matter it must close the gap between what it expects of AIIB and the way it conducts itself domestically.

Just as the G20 Infrastructure Hub has aspirations of shifting the best practice curve for infrastructure governance, there is an important opportunity for Australia to connect these different initiatives into a coherent single framework.

The starting point for reaping the benefits of our imminent AIIB membership, along with the G20 Hub is to recognise that Australia’s track record for sound infrastructure governance is at low ebb and in urgent need of reform. Having the courage to admit this coupled with humility to learn from those abroad on the same journey is a good starting place to bank the dividends of these international initiatives.

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Stop the infrastructure ‘boom bust’

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The Australian Financial Review’s National Infrastructure Summit last week resonated with calls for reform to deliver better value for money, proclamations of broken procurement models, need for more rational risk allocation and furious agreement about importance of infrastructure to help rebalance Australia’s post-mining boom economy.
No doubt these sober deliberations confirm once again that Australia is a much better manager of adversity than it is of prosperity. This national characteristic was clearly evident at the Summit, and begs the question how Australia can be better prepared for the next bonanza and have more to show for it.
The boom-bust cycles of commodity prices are here to stay, but that does not mean infrastructure has to follow suit. Currently it does, which is a serious indictment on the nation that is failing in its long-term planning capabilities.
Despite the measured and grounded discussions of reform at the Summit a framework for growth remains illusive until Australia rebalances the scales so that its passion for more infrastructure is matched with its reason.

PROLIFIC BENEFITS
Sure, governments invest in infrastructure because the benefits are so prolific. It connects people and institutions with markets and opportunities, creates competition, drives up productivity and elevates living standards.
The promise of so much, however, is not an excuse to passionately invest in the blind hope the next crop of infrastructure will yield more again.
But governments need to heed the message and plan infrastructure for the long term. Current 15-year planning horizons of Infrastructure Australia and their state equivalents are a good start, but remain too short-sighted.
Infrastructure plans should not be just a project list but also a narrative of Australia’s demographic and spatial challenges, aspirations and intentions. The population task alone in accommodating 70 million people by 2100 is an unprecedented national challenge.
What is the future shape of Sydney, Melbourne and Brisbane as these cities absorb most of the additional 30 million people. For example, do we have in place the rudimentary options for growth that our mega cities will need such as land corridors for freight, utilities and passenger logistics.
President Eisenhower made the astute observation that ‘plans are useless, but planning is indispensable’.
The challenge before Australia is to break away from the stop-go, boom-bust approach to infrastructure, and set out a purposeful and strong planning framework for growth of cities and regions. This will demand a fundamental mind shift of policymakers and stakeholders alike.
Governments across the globe are calling for more long-term investors to finance infrastructure. When that is done well, the old way of ‘invest, set and forget’ should be a relic of history.
For that to happen, owners and operators of infrastructure must be more exposed to customers, and incentivised to meet their preferences. This strengthens scope for innovation, improves business cases, lifts ROI and long-term asset values while lowering revenue and political risk.
Unfortunately, the model today is back to front; infrastructure first, customer second.

SWEATING THE OPTIONS
The big utilities like electricity and gas companies are sweating the options to better understand and partner with customers, despite decades of loyalty they still know very little about them. Utilities have not been helped by plethora of regulatory changes that have been poorly thought out and executed in a vacuum of research and data on customer behaviour.
Transport and electricity infrastructure share a great deal in common. Their customers demand more in the peak as average consumption declines, which present a very challenging situation. It is exorbitantly costly to ensure reliability in the peak and holding idle capacity at other times.
The upshot of the utilities experience for the rest of infrastructure is clear, especially for transport, get closer to the customer sooner.
Of course, infrastructure needs to be marketed better in the language of community and customers. What does it mean for my commute time, access to different types of transport, kids drop off, getting to hospital, my house price and liveability of my neighbourhood.
Community support and trust towards credible infrastructure plans must be earned with sound community engagement and better customer service outcomes. These must form the central plank of the new long-term infrastructure-planning regime, not just a focus on assets and projects.
This is by far Australia’s most pressing infrastructure imperative.

 

Infrastructure Australia Audit: first ‘listen’ to the people

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Infrastructure Australia is under new management, and it shows in its first national audit report released today.

Demographics, land use and infrastructure are all bundled together in the Audit, and its not a minute too soon. The mega trends in demographics and land use are the big drivers of infrastructure demand and recognition of ‘integrated infrastructure planning’ is welcomed.

But how IA proposes to capitalise on this ‘integrated infrastructure approach’ is unknown at this stage. So we are all left wondering about the types of infrastructure outcomes, how our cities might be shaped, community impact and liveability we might expect in the future. Without these types of pointers, its hard to know what IA’s big picture strategy over the next 15 years is all about.

However, while ‘integrated infrastructure planning’ language should be encouraged, putting it into practice is a whole other ball game. Thats because there remains a culture of resistance across Australian bureaucracies and industry to the big picture shape of networks and cities into the future.

The culture of silos, where transport, land use, energy and water (to name just a few) are all separate and isolated from one another remains as big a problem today, as it has been in the past.

This is where IA can play constructively.

The biggest problem with silos is that they fragment infrastructure planning and intelligence. Departmental silos prevent proper recognition of the ‘customer’ who is having to traverse all the silos at once as they live, work and play. In addition, silos prevent proper policy and design reasoning so that the community can be assured that every time a new project is proposed that its actually makes people and the network of infrastructure better off.

Remember Sydney’s Cross City Tunnel, and closure of adjacent roads to drive up patronage for the new tunnel. Such business models are destructive to community trust and are typically incubated in a silo.

Securing permission from the community to do infrastructure is Australia’s newest and biggest hurdle.

While IA appears to be trying to express themselves in the language of openness and consultation, so much more is required. Engaging the community goes deeper than traditional consultation asking ‘what do you think’ of our latest project thought bubble.

Government’s must be prepared to ask the community what are the problems that concern them most, and set up a deliberative conversation to explore how these problems can be addressed, identify the trade offs without the presumption that building something new is the best way of meeting that need.

This is how infrastructure can inject much needed innovation and drive up productivity by being focussed on the problem and inviting more ‘unsolicited bids’ to solve them. There have been too many projects in Australia that are engineering brilliant solutions but are in search of a problem. Inland and high speed rail, decentralisation initiatives and reversing rivers come to mind.

Finally, headlines leading the IA Audit like congestion costs Australia $53 billion are simply meaningless. Instead, the community deserves to be engaged about infrastructure with language and values that meaningfully impact their lives, like travel time to school drop off, access to services like hospitals, schools and amenity, air quality and can it help my kids get a job. This is the new and necessary language of infrastructure.

These are some of the issues that shape liveability and infrastructure must be slavish to them, not the other way around.

Another budget of ‘reverse philanthropy’

Australia brought down its Federal budget tonight. Sure the Prime Minister was right, it had ‘no surprises’ and the flip side is ‘no aspiration’ either.

While Europe and US have had an appetite for public debt for a prolonged period of time, and have enjoyed the favour of the capital markets, Australia should not bank on the same.

Yet the budget is on track to do exactly that, with deficits that will accumulate as a burden on the Australian taxpayer for decades into the future. The big difference for Australia is its volatile ‘terms of trade’ (the relative price of exports to import prices) must be planned for, and contingencies put in place to ensure living standards can be sustained.

Debt is not the answer, and younger people in particular need to get on the case.

The question in search of a proper response is why does this budget, like so many budgets that  came before it from both Liberal and Labor, enable the transfer of wealth from the young to the old.

Australia has a serious case of what I call ‘reverse philanthropy’, and the consequences are serious.

The budget provides extraordinary tax expenditures to older groups by virtue of concessional tax treatment of superannuation, and an expectation of a universal pension funded by the taxpayer. Other benefits include, tax exemption to the family home that favours incumbent land owner, generally the older generation who also had the benefit of free university education as well.

In contrast the younger generation face extraordinary house prices, (fuelled by poor land use regulation that has restricted supply in favour of the old), and the burden of financing their university education as well.

Young people in Australia need to make their voices heard, and question the inter-generational  wealth transfer that is doing them no favours what so ever. For the younger generation to pull off this financial trick of supporting themselves and paying off the debt legacy of the older generation, is going to rely on a productivity boost equivalent to the invention in 1765 by Hargreaves of the spinning jenny which could spin numerous spools of cotton simultaneously.

Of course, if such transformational technology does not eventuate the impact of high marginal tax rates required to fund the budget will crush incentive and productive purpose. If you think this sound a bit like Greece today, then your probably not wrong.

 

 
 

Customers first, infrastructure second

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Why are customers left out of infrastructure?

The preferred language in infrastructure circles for the people that consume infrastructure services are ‘users’.

And this says it all.

Users are the anonymous and forgotten people that have no say in what is offered to them when it comes to our roads, trains, energy and water systems. Its just take it or leave it.

On the other hand, customers are enticed with a ‘value proposition’ – they get something of value for their spend. Customers can choose on the price/quality spectrum, cheap and cheerful through to luxurious and exotic.

While infrastructure may not be able to meet the extremes of choice in the consumer retail market, there is plenty of scope to do more and no doubt some utilities and companies are trying.

So next time you are travelling on a toll road well under speed the limit as you endure another traffic jam, arrive late for your next appointment you are entitled to ask the question, what service did my toll just pay for?

If there was no service at all, then a toll is just another tax.

The community will fund infrastructure by paying fees and charges provided the value proposition of the service is good enough and can be delivered consistently overtime. Yet, so little of these considerations of the customer come into play when we plan and design infrastructure.

When we recognise the ‘customer’ and account for their needs and expectations many of the problems of infrastructure delivery and funding become far more manageable.

That is why community participation and confidence in the infrastructure planning and delivery process is of critical importance. Connecting major decisions with better and relevant services directly impacts people’s lives.

When projects are accountable to customer service outcomes, this will help prevent inappropriate political influence and lift confidence that proper planning against clear objectives and service outcomes are taking place. Together this can help unlock the infrastructure impasse, win community approval, attract new funding sources and unlock much needed innovation.

Infrastructure assets and services have a very privileged and intimate role to play in our society, because they provide the platform for conducting modern life. For example water for living, energy for growth and employment and technology for connection and coordination.

Shifting the focus of infrastructure planning from its physical attributes to the services it is intended to deliver is a critical reform that will require a different procurement approach and culture of planning within government. The dividend of this reform, however, will better reflect the community’s expectations and help justify the investment and disruption caused during construction.

The increasing reliance on private investors to fund public infrastructure places an even greater imperative on governments to have the ability to interact, negotiate and secure outcomes in the best interest of the community. This requires strong institutional architecture, including anti-corruption agencies. Governments need to be open and transparent about the relationship with private sector participants and the value such participants provide to overall infrastructure development.

Jurisdictions need to be frank about success and failure; and to demonstrate they are capable of learning lessons from the past and can transfer best practice from other projects and jurisdictions.

Australia has an alarming lack of information, data and culture of review (benchmarking) of the performance of its infrastructure. There is an urgent need to build a body of evidence that will inform future infrastructure policy and decisions of past lessons and successes.

Public trust and confidence within a jurisdiction can improve when there is demonstrable success of previous projects. Jurisdictions should recognise public trust and confidence is cumulative, and every project successfully delivered builds trust one-step at a time. Therefore, infrastructure planning must ensure a very high level of competence in delivery, and genuine and in-depth consultation occurs to take account the needs of the customer and the community customers live in.

Public infrastructure in the eyes of the community expects a very high level of accountability and transparency. Of course government must ensure that legitimate commercial-in- confidence considerations are protected but this should not be used as a means of blocking the ability of the community to have an appropriate degree of scrutiny to ensure the value proposition of infrastructure is relevant and good value.

Taxes, till death do us part

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Benjamin Franklin wrote anxiously while corresponding to his dear friend Jean-Baptiste Leroy in Paris during the peak of the French revolution about whether he was in fact still alive or had succumbed to the violence.

Franklin wrote (as translated to English): “Are you still living? Or has the mob of Paris mistaken the head of a monopolizer of knowledge, for a monopolizer of corn, and paraded it about the streets upon a pole.

In the same letter, Franklin was feeling the vulnerabilities of life himself, and having just bedded down the US Constitution, he famously remarked: “Our new Constitution is now established, everything seems to promise it will be durable; but, in this world, nothing is certain except death and taxes.”

While not the first to use this term ‘death and taxes’ it is by far the most famous.

The authors of the Re:Think Tax Paper recently released by the Australian Government only wish that tax was in fact as certain as death. The ingenuity of humans whether it be behavioural or technological have managed to highlight the frailties of the current tax system in Australia. It is not longer capable of funding the insatiable needs and wants of government.

While budgets require a tango of expenditure discipline and revenue management,  Australia is struggling like never before to even do the most basic housekeeping on these fronts.

Among the important messages in the Re:think Tax paper, it reminds us that when government tax they change the economy and with that comes the potential to damage economic efficiency if taxes are too high or narrowly based.  Economists call this ‘excess burden’ of taxation, where the benefits of a tax can be overwhelmed by its costs of collection.

Stamp duty on property is identified in the Re:think Tax paper as having a significant excess burden, and I will focus on this because it is a particularly pervasive tax that distorts decision making in business and of individuals. It also has perverse effects like exaggerating the infrastructure deficit.

How does this happen and what are its consequences?

Stamp duty like all taxes has the potential to change economic behaviour. For example, higher income taxes can reduce your incentive to work and stamp duty on conveyances can distort land use, for example by retaining land for relatively unproductive purposes just to avoid stamp duty. The same can be true for individuals when it comes to property ownership and where they choose to live.

In both cases stamp duties for conveyance levied by the states increases significantly transaction costs of buying and selling houses, apartments and commercial land.

Higher transaction costs limit the ability of employers to locate facilities in the most optimal location for access to infrastructure and skilled workers. Equally it directly impacts on people’s willingness to adjust locational preferences for living as their circumstances change over time because of say, a new (another) job, children, health and aging.

With much higher levels of workforce participation, coupled with dramatic reductions in the average tenure of jobs provides some clues as to why traffic congestion is getting worse by the day. Jobs cannot move to people, and people cannot comfortably access jobs is a diabolical mix for our national economic engines. And the solution is, travel more.

Sydney’s major roads such as M5, M1 and M4 all have a daily peak hour exceeding 10 hours per day, and for the more chronically congested in excess of 13 hours. For an equivalent 60km trip in peak hour Sydney,  the average speed is 40 kmh, Melbourne at 44 kmh compared with London at 54 kmh – a city of far greater size and complexity.

Many people may not need to be on the road if they had more choices about where they live, work and play.

A perverse outcome of the tax system I would argue is that it has not only limited work and travel choice, it has exaggerated Australia’s infrastructure deficit. This has caused many commentators to mis-diagnose the cure by supporting even more taxes and debt to invest in better roads and public transport to ease peak hour congestion.

It appears that the new shock absorber to make our cities function smoothly is an over reliance on the transport system which is bearing the burden of an accumulation of tax distortions. Of course, other factors like penalty rates also encourage us to work in the goldilocks eight hour block, exacerbating peak hour traffic as well.

There is an urgent need to better understand the plethora of tax interaction effects with infrastructure and seek to reduce negative consequences.  Taxes and death may share a common inevitability, but our quality of life could be so much better if we managed these negative consequences more thoughtfully.

 

Is Demography Destiny?

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Australia had a bonanza of major reports handed down in the past week commissioned by the Federal government on the challenges and opportunities for the nation to retain its position as one of the most liveable places on earth.

The Intergenerational Report points to the extraordinary expenditure required to support an aging population; while the Re:Think Tax Discussion paper confirmed yet again the tax revenue system is not fit for purpose; and Review of Competition Policy suggests deeper and wider competition could serve the nation better.

Is there any common ground between these reports and what does it mean for Australia’s infrastructure future? Over the coming days, I will comment briefly on each report, starting with the Intergenerational Report now.

Many skilled analysts have fallen into the trap of overplaying the importance of demography by going so far as to argue: demography is destiny for nations.

The thought provoking Equity Guilt studies from Barclays reported in The Economist is a case in point. In 2005 based on population predictions, they expected bond yields would rise 5 percentage points per decade, making them about 9% now. Of course, the prediction has been wildly wrong, not because of a major demographic shift but rather there have been multiple other factors like, GFC, Europe’s debt crisis and quantitative easing.

Interestingly, from an infrastructure perspective the most recent Barclay study has identified another demographic theme, the aging population and its impact through de-accumulation of national savings. The upshot is an expected strong head wind for asset prices in coming decades.

Time will tell whether that is the case,; so far there is only evidence to the contrary when it comes to infrastructure assets.

Recent prices paid for major infrastructure (like Port Botany, Port Newcastle in NSW, Australia) by global pension funds fully exposed to these demographic trends are paying historical highs (+25 times revenue) for the privilege of ownership.

Over playing demography is one risk but the bigger risk is to ignore it altogether.  Demography can still tell an awful lot about the future. It is for this reason that national infrastructure planning should be more closely linked to, and informed by the Intergenerational Report if the authors went one step further in their analysis.

Australians have peculiar land settlement patterns where vast bulk of the population cling to an 80km littoral ribbon running from Brisbane to Melbourne.

The missing link in the Intergenerational Report is for the demographic outlook to be given some basic spatial detail. It would be very helpful for all levels of government to have a basic understanding of the expected settlement patterns and population size that will evolve as we track towards the 22nd Century. But too many politicians deem this type of scenario-based information as too sensitive; they do so at the cost of the nation.

Population projections at postcode level can be extremely valuable, especially over the next 20 years to inform transport and land use planning. It also provides a firmer foundation to reason about what decisions should be made today to ensure future policymakers have good options to deliver the services demanded tomorrow by the community.

Creating and preserving land corridors for transport and utilities is critical. Without it the costs of basic services will be harder to deliver and certainly more expensive. The simple acceptance that land use planning and transport planning is the same thing, would save the nation billions of dollars every year.

Instead there is a lack of willingness to engage the community on the types of questions and issues that go to the heart of championing a sound infrastructure governance process.

Community consultation and trust with our policymakers is very important, and unfortunately trust is trending down. Population and demographic trends provide one of the few evidence bases that can be relied upon to inform better infrastructure decisions.

The Federal Treasury recently stated that the long-term fiscal outlook for Australia is that we can expect to not produce a single ‘budget surplus’ for the next 40 years on current policy settings.

Could it be that too many of our current policy settings are feeding back, contradicting one another and exacerbating the fiscal, economic and social challenges we are trying to fix in the first place; calling for even more taxes and more expenditure.

Can we stop this unvirtuous cycle?

I will revisit this question shortly when I look at the Re:Think Tax Discussion Paper next time.