Sustaining economic growth: Public-Private Partnership to keep public investments going
Monday, 6 January 2014 00:00
So many traps to avoid in stepping up growth
Sri Lanka’s avowed goal has been to maintain a high economic growth in the next few decades to elevate the country from a lower middle income country to a higher middle income country in the first instance and then to a rich country not long after that. But this path is marred with pitfalls and traps.
Having recognised these traps, the Central Bank in its Strategic Plan for 2014 – an annual rolling plan which the Bank has had since 2007 – an opportune theme has been pronounced: ‘Step up! Avoid the trap’. There are many possible traps the country may get into but one important trap which impedes the country’s ‘stepping-up’ initiative is the inability of the government to continue with a high public sector investment program to meet the growing investment needs of the country without going for costly commercial debts.
Need for enhancing and sustaining public investments
The construction of buildings, roads, ports, airports, power plants and so on – commonly known as physical infrastructure facilities – provides ground conditions conducive for subsequent economic growth to take place. Governments contribute to such infrastructure facilities by allocating funds for capital expenditure, known as ‘public investment’. To do so, several fiscal policy options are available to a government. It could cut down the consumption expenditure, known as current expenditure, generate savings in its revenue account and divert the resources to capital expenditure programs. It is like saving money and building a house so that a person is not under obligation to anyone after he has had his desired house.
"The recognition of PPP by the Central Bank as a strategy to relieve the budget of its constraints, improve the efficiency of public projects and public enterprises and create an investor friendly environment is important. The bank on its part to prove that it is not a mere preacher but a practitioner as well went into a successful PPP with respect to its residential facilities available at the Centre for Banking Studies, the bank’s training arm, at Rajagiriya"Crowding-out of private initiatives
Or else, it can borrow money from local markets and foreigners to finance the capital expenditure programs. But when it borrows from local markets in excessive amounts, local interest rates will go up making it more expensive for private people to undertake similar capital expenditure programs. Economists call this ‘crowding out’ of private investments.
Foreign borrowings are repaid by making further borrowings
When it borrows from foreign sources, it will increase the country’s foreign debt and drive the country to a very critical situation of having to find foreign exchange to repay those loans. This was the experience of Mexico, Chile and Argentina in 1980s and Greece and Cyprus in the recent past. Demonstrating a similar ominous sign, in Sri Lanka’s case, such foreign loans are now repaid by raising new loans in bigger amounts year after year.
Inflation will cause a country to sacrifice all the good gains
In the third, a government could print new money through the central bank and borrowing money from commercial banks and meet the capital expenditure expenses. This option is fraught with the risk of generating inflation and sacrificing all the good results which the country has attained in growth and stability – the current tagline of the Central Bank of Sri Lanka. That is a trap which Sri Lanka has to avoid in its ‘stepping up operation’ for sustaining economic growth.Low level of public investments is a problem
Sri Lanka has exhausted all these options by now. As a result, the government has not been able to step up its public investment without going for costly commercial borrowings, either from countries like China or from international capital markets. Thus, the Government’s capital expenditure as a percentage of the country’s GDP has stood around 5.6% on average during 2008 to 2012. The attainment in 2013 has not been that impressive either with a public investment of only 5.8%; since then till 2016, the target of the Government has been to maintain a rate of 6.3% which is only marginally higher than the historical record.
PPP is a crowding-in strategy
Obviously, the Sri Lanka Government is now faced with a financing constraint which will impede its attempt at spending more money on public investment programs. In this scenario, an alternative available has been the use of private sector talents, financial resources and managerial skills to provide the much needed infrastructure facilities to the economy. That strategy is known as public private partnership or PPP or just P3. Fortunately, it is a ‘crowding in’ strategy to bring the private sector which has been crowded out by excessive past borrowing made by governments from local markets to the limelight of economic activities.
Central Bank’s recognition of PPP
The Central Bank had recognised the importance of PPP for boosting the public expenditure program as far back as 2008. In a special box article in its Annual Report 2008 on ‘Public Investment Program: Progress, Issues and Way Forward,’ the bank had argued that the continuation of the public investments in the country would possibly be slowed down due to a slowing of the foreign funding sources. As an alternative, the bank had opined that “public private partnerships (PPPs) would be encouraged in infrastructure development, which would help to reduce the burden on the Government budget to a considerable extent” (p 139). This was taken forward by the bank in its Annual Report for 2009.
Analysing the importance of ports development in a special box article in the report, the bank had suggested that the efficiency in the management of ports could be improved if some activities are “outsourced or restructured to operate as PPP to ensure operational efficiency and sustained productivity growth” (p 68). In 2011, the bank had made a comment in its Annual Report that “State Owned Enterprises (SOEs) are also expected to explore innovative Public Private Partnership (PPP) strategies and attract private investments to catalyse the development process” (60).
In its Annual Report for 2012, the bank had emphasised on the need for bringing in private sector to manage public projects efficiently. It had said that the initial capital outlay could be made by the government but the operation of the projects could be handed to private sector through “Public-Private Partnerships (PPPs)” which “are essential to catalyse economic development and to create an investor friendly environment in the country” (p 68).
CB has even practised PPP
These are only marginal comments which usually get buried in the long body of the Central Bank annual reports without being noticed by the Government officials and politicians to whom they matter. However, the recognition of PPP by the Central Bank as a strategy to relieve the budget of its constraints, improve the efficiency of public projects and public enterprises and create an investor friendly environment is important. The bank on its part to prove that it is not a mere preacher but a practitioner as well went into a successful PPP with respect to its residential facilities available at the Centre for Banking Studies, the bank’s training arm, at Rajagiriya.
"Engineering possibilities and commercial successes are two different things. Commercial success comes from good management and marketing plans which bureaucrats are often unable to produce in view of damaging political interferences, inflexible rules and regulations and simply the lack of competency. The private sector normally does not suffer from these weaknesses. Hence, the engagement of the private sector is necessary and such engagements are made through PPP"PPP arrangement for CB’s residences at Rajagiriya
When the Centre for Banking Studies was constructed in mid 1980s with funding from the Asian Development Bank or ADB, a residential facility was also constructed to facilitate residential training programs. However, it was never put to this use since the residences were occupied by the Special Task Force or STF of the Police as its Colombo Head Quarters in 1987 at the height of the civil disturbances in the country.
The bank, having failed to get the residences released for its training purposes, chose to relocate the STF in an alternative residential facility by putting up a separate building at its own expenditure just behind the current location for use by STF. After the STF moved to this new residences in 2007, the choice before the bank was to refurbish the old CBS residences and run them as a bank’s outfit or go for a different business model in which the management of the residences will be handed to a private entrepreneur.
The bank’s assessment revealed that it was not a good manager of residences and therefore the first choice was not an optimal one. Accordingly, the bank went for a PPP in 2008 under which the reconstruction was done by the bank but running of the residences was handed to a private sector entity experienced in running a small hotel to manage it as a hospitality facility. This was done under a special contractual arrangement with a service provider who was selected through a competitive bidding process. The service provider, while making available rooms to the bank for residential training purposes, is presently running it as a small city hotel which has a high occupancy rate throughout the year. This is certainly a valuable learning experience for Government ventures for emulation.
Ancient Lankan kings too have practised PPP
Though PPP is a novel concept in the modern world, it is not novel at all. In ancient India in the 4th century BCE, Kautilya, statesman and economist, advised the king to grant concessions for mining, a right of the king, to private miners on payment of an annual fee with the proviso that easy mining fields should be reserved to the Crown and difficult fields should be leased to private miners.
Similar arrangements had been used in ancient Lanka by Sinhalese kings with respect to irrigation schemes. While large reservoirs had been built and managed by the Crown, small reservoirs had been built and managed by private entrepreneurs who had got a licence from the king to do so.
While the revenue from those small reservoirs had been collected by the private owners, the responsibility for maintaining the reservoirs had been vested with the private entrepreneurs who had financed such expenditure out of the revenue they had collected.
This model is similar to the ‘Build-Own-Operate or BOO system prevalent in PPP today.
Colossal losses made by Government ventures
The Government has in the recent past built awesome engineering marvels in the form of superhighways, power stations, ports, airports, sports stadiums, conference halls and TV and Movie villages. However, as this writer had commented in previous My Views, all these public investments have not yet proven to be commercial successes as revealed by the respective Ministers in statements made in Parliament in answer to questions raised by members.
Bureaucrats and politicians have been arguing that such investments need not generate profits at all or if they do, at least in the immediate run in view of the presumed economic and social services they provide to society. The often quoted examples are CEB that produces electricity, SLTB that transports the country’s working population and CPC that supplies energy. Hence, losses are explained away as necessary costs which society has to incur in order to keep the economy going and improve the quality of human life.
While it is true that these businesses do provide a service to society, so do the other businesses as well. Hence, one cannot forget the profit factor altogether since the foreign commercial loans out of which above mentioned engineering marvels have been created have to be repaid practically from day one. If they do not generate a surplus, moneys will have to be found by the Treasury to repay these loans by sacrificing expenditure programs elsewhere. That is a trap which has to be avoided.
Government projects can be handed to PPP players
What this means is that engineering possibilities and commercial successes are two different things. Commercial success comes from good management and marketing plans which bureaucrats are often unable to produce in view of damaging political interferences, inflexible rules and regulations and simply the lack of competency. The private sector normally does not suffer from these weaknesses. Hence, the engagement of the private sector is necessary and such engagements are made through PPP.
Caveats of PPP: Giving political favours to friends
But there are certain caveats in this exercise. They arise from the members of the governments showing private interest in the selection of parties for PPP. In many countries, PPP processes have been criticised on the ground that there have been irregularities in the selection of parties concerned.
Instead of going through competitive selection processes, the governments may simply cater to the unsolicited proposals made by private sector individuals for engagement in PPPs. Or the governments may select the parties on their own without going through due processes. Even if they follow competitive processes, there can still be possibilities of twisting the processes in order to accommodate parties favoured by them.
Whatever it maybe, it leads to a loss of credibility for PPP diminishing its role as a supporter of economic growth and its sustainability.
When there are perceived irregularities in the processes, any concerned member of public can take the authorities to courts under now famous ‘public interest litigations’. It the courts overrule the PPP arrangements, it not only weakens its role as a growth inducing catalyst but also it causes a loss of faith by public in PPP activities. The chances are that if governments do change either through democratic elections or through popular uprisings, the PPP arrangements too can get reversed.
It is damaging to the PPP as a model to be practised by countries concerned.
PPP to be guided by ethical and moral codes
These caveats can be eliminated through a well publicised system of selecting PPP partners and running PPP businesses. This is an area where ethical and moral considerations come into play. However, ethical and moral codes cannot be put into practice by mere rules and regulations.
They should come from within the individuals concerned but that is the most difficult part in managing PPP schemes.
(W.A. Wijewardena can be reached at [email protected].)