7 August 2013 – Manchester in the UK has a clever finance structure that pulls money from future uplift in taxable land values to fix potholes, create new housing, repair schools  and develop a high speed rail line. It’s one of the innovative financial mechanisms that will help fund growing cities. Leon Gettler reports.

We have clearly reached the limits to how much funding can be put into public infrastructure. The population is increasing and there’s only so much money in the pot. We need radical solutions.

Infrastructure Australia, a government body, sums up the problem. “Australia’s transport systems are especially struggling in the face of these challenges with public transport growing rapidly in recent years and reaching capacity limits in most major cities.

Looking to the future we face escalating energy costs, the need to reduce carbon emissions, and the need to adapt to unavoidable climate change. Australia needs the development and coordination of urban action plans, significant investment in public transport networks, improved governance, and integrated long-term strategies to manage land use planning, density, population and urban congestion.”

“Investing in infrastructure in cities is not only costly, it is rarely reversible and can result in long-term social, economic and environmental costs that will be difficult recover. Therefore, urban and regional infrastructure should be underpinned by strategic plans that generate long-term productivity gains.”

How to do this? Infrastructure Australia recommends that the Australian government, for the first time in history, make a significant investment in public transport. This is important because despite one of the highest levels of urbanisation, Australia remains the only OECD nation where the Federal Government refuses to fund sustainable transport infrastructure. No matter who’s in government, the money instead goes to roads. It’s not good enough.

Over the years, governments have used public private partnerships as a tool to get the private sector to tip in and take some of the risk. It’s produced some disasters. Examples include the Lane Cove Tunnel, Cross-City Tunnel, Clem7 Tunnel and Airport Link. These were nightmares for investors and gold mines for receivers.

PPPs are not the gold-plated solution to infrastructure that governments crack them up to be. Stephen Grenville from the Lowy Institute says the PPP experience shows there are no easy answers and, in any case, it’s not a great business. “Few infrastructure projects lend themselves to simple revenue collection.

A good part of the benefits are often external, unable to be collected as revenue (a toll road delivers congestion relief to those who don’t use it, as well as to those who pay). In many cases there are irresistible social pressures to supply the service at less than cost. In just as many cases, the service is supplied in a monopolistic way (no point in having two competing water pipes), so pricing can’t be left to the free market.

“Moreover, the universal experience is that the private sector is particularly skilled at shifting residual risk to the public sector. When, after long experience, risk transfer was more firmly tied down (the Sydney cross-city and Lane Cove tunnels, for example) the experience led the private sector to withdraw from this PPP model.”

A study, by Danish academic Bent Flyvbjerg from Oxford University’s Said Business School, found that traffic forecasts for infrastructure projects around the world are usually way off target. We’re not talking about 5 or 10 per cent out either – they can be wrong by more than 40 per cent, sometimes even way more.

Clearly, we need some radical funding model solutions. Flyvbjerg says the first thing we need to do is understand it’s no easy fix, that it’s fraught with problems and that we need better ways to manage the risk.

Unfortunately, we can’t look to the Australian government for solutions. Last week, the government released a report on the state of our cities. It summed up the issues quite well, but did not offer any answers.

For solutions, we have to look at the out of way and unexpected places.

For example, The Fifth Estate has an exclusive on the Victorian government  embarking on a radical government building retrofit program that it claims will save taxpayers around $1 billion in energy bills for their public buildings over the next 25 years. The program aims to spend $400 million on energy efficiency retrofits to Victoria’s public buildings including Federation Square, the Melbourne Cricket Ground, museums, universities and offices.

But here’s the kicker: retrofits must be fully paid for by returns on investment with a seven-year pay-back period. How so? Through the savings in energy costs. While the program has an initial estimated greenhouse gas savings of 25 per cent, the GHG savings actually average just over 40 per cent, and some are up to 70 per cent.

This was followed up by another report  telling us that the New South Wales government had decided to take it up too and is now retrofitting 150 of its buildings for energy efficiency with projected annual savings of $5.8 million.

Then there’s the radical proposal from a coalition involving the Australian Sustainable Built Environment Council, Australian Conservation Foundation, Association of Building Sustainability Assessors, Consult Australia, Green Building Council of Australia, Australian Institute of Architects, National Growth Areas Alliance, Planning Institute of Australia, Property Council of Australia and Urban Development Institute of Australia.

It’s called for a unique urban infrastructure fund that would offer investors long-term returns more attractive than government bond rates. It would give investors a tax rebate of up to 10 per cent on the value of their investment while offering a capped government guarantee

UK in radical finance deal

But the most radical solution has been developed by the Cameron Government in the UK where the government has entered into “City deals”. Each city co-opts government, business and community representatives and gets them to create economic growth plans for that city. As part of the financing scheme, they can use the expected increases in their rates under their financial models to finance smart infrastructure investments.

It basically means that if a UK city wants to fund a railway line, it doesn’t have to go to London to get the money. It can raise the funds itself.

The Economist explains that local councils can keep any growth in their business-rates revenue.  Because they are looking at substantial increases in revenue that will be generated from the investment, they can borrow against this “uplift” to build critical infrastructure. The infrastructure generates growth which increases tax and rate revenues which in turn provide enough funds over time to repay the loan. This circular funding method is known as tax-increment financing.

As the Property Council notes, Greater Manchester has a multi-billion pound investment in transport infrastructure would deliver huge dividends over many years. The transport infrastructure will create economic growth which will in turn boost central tax revenues. According to the Cameron government, Manchester can “earn back” a portion of the additional tax it generates on a “payment by results basis” for the next 30 years. The Manchester Evening News reports that the city deal program will see the city fix potholes, create new housing, repair schools  and develop a high speed rail line.

Portland in the US has a radical system of funding green infrastructure programs creating eco-roofs and reducing stormwater runoff and overflows from the parts of the city covered by the combined sewer system. The money comes from operating capital; paid directly by ratepayers; debt, which is repaid through public utility fees on developed property; and system development charges, incurred when there is new development or a change in use. There’s also a Stormwater System Development Charge (SSDC) for new residential structures. And it has a Treebate program, started in 2010 and continuing to 2014 that provides homeowners with a credit of up to $50 on their utility bill for every tree planted. Without much overhead expense, the city has persuaded local home and garden centres to publicize the program.

In a paper, Financing Green Infrastructure, the OECD recommends other methods including real estate developers paying development charges or impact fees, and taxes reflecting the value increase thanks to the infrastructure.  It also recommends loans, bonds and carbon finance as instruments to attract private finance.

For sure, times are tough. But as The Economist points out, infrastructure creates economic growth which in turn increases tax revenues.  It cites a study by the University of Massachusetts-Amherst in 2009 which found that every $1 billion spent on infrastructure creates 18,000 jobs, almost 30 per cent more than if the same amount were used to cut personal income taxes.

Finding the funds for infrastructure in austere times is tough. But as the Cameron government has shown, as has the governments of Portland and Victoria, it can be done. All it takes is some creativity.