Monthly Archives: April 2010

Infrastructure: what is right?

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Most of the current debates on infrastructure financing focus on two very different aspects: the enormous size of infrastructure investment demand, and the critical need to invest in what is considered the ‘right type of infrastructure’. There are multiple ways of looking at demand for infrastructure and so depending on the underlying assumptions and models, it is quite natural that there will be multiple estimates. It is hard to get a consensus on a single number. But once the numbers are in trillions, why waste time arguing about methodological purities? Whatever the differences, these would be well within a reasonable margin of error in any case.

And so this entry is about a long list of attributes that are currently used to illustrate the ‘right way to invest in infrastructure’. Local money for local infrastructure – which means no bailouts by Washington – is considered right. Emphasis on asset maintenance gets high marks. Partnerships with the private sector are essential elements of the right strategy. Mass-transit to reduce urban congestion costs and modernization of transport system are integral parts of right infrastructure investments. Information infrastructure, especially creating high-speed broadband is supposed to benefit innovation and so must be right. Green energy, clean technology, smart grid and other tools that modernize the energy sector are encouraged too. Reduced logistic cost, efficient and intelligent transport, including freight modernization, would benefit local industries and so are usually considered right. And for developing countries the right kind of infrastructure is, among others, inclusive, market expansive, regionally integrative, and sustainable.

So what is wrong with labeling everything ‘right’? Nothing, except that all these statements allude more to a religious discourse driven by faith and belief rather than professional substance. And this gives very little guidance to policy makers about the underlying trade-offs that need to be evaluated before making the ‘right’ choice. For China, which is spending heavily on infrastructure, the fear is the possible overheating of the economy – which is energised by infrastructure investment, but is in reality paid for by the enormous value generated by labor arbitrage.

And the Indian infrastructure investment model may end up paying a much, much higher fiscal cost of going the PPP route which, once embarked on, may be very difficult to regulate in the future, at least in the medium term. Rent seeking and corruption will proliferate because it is difficult to design the ‘right’ types of incentives for infrastructure. Is this a story of any one country in particular? Not really. PPPs bring additional resources for infrastructure investments, but often, elaborate financing structures divert policy makers from the fundamental issue of how new services are going to be paid for today and in the longer term.

Unfortunately, there are very large gaps in the analytics surrounding the current choices countries make. There is a fundamental asymmetry of skills, information, and incentives between the two deal-negotiating parties, at least in developing countries: the private sector use all three to ensure that they maximise value for themselves in any investment proposal; government representatives, on the other hand, often lack all three but do have the exclusive right to grant market access. And as elaborated earlier (infra101), market access alone has high potential for super normal profits. This, coupled with the high transaction costs of closing a single deal, is nothing short of a perfect recipe for rent seeking.

So, if you go back to the basics, ‘right’ infrastructure means remembering that there are only two possible ways to fund infrastructure: either by the service users, or by citizens at large through tax and other indirect payments. The third way, (i.e., paying for infrastructure with vast tracks of land and thereby allowing the private sector to create value from idle resources) is an option unlikely to be available in many countries today given the extreme pressures on land resources. Investing right is thus not a mantra, but instead detailed and often dangerous work for policy makers, who must examine counterfactuals and choose projects that generate maximum value for infrastructure consumers. So it’s not about faith or beliefs, you can’t simply wish a project ‘right’. It’s all about hard facts and figures.

Thousand Worlds.

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In spite of all the talk about globalization, we live in an increasingly fragmented world. Most of us are aware of the differences in income or quality of life between countries, but even within a country, children in Shanghai or Delhi face a very different future from their youthful counterparts growing up in a Tibetan village or parts of rural Bihar. But beyond regional disparities are the gaping inequalities within cities themselves: the latest human development report for Mumbai for example, shows that people in certain parts of India’s most prosperous city have a quality of life that is worse than that of some of the poorest African nations. The crucial difference is the opportunities available to people.

 

What shapes these opportunities? Income differences matter. Of course they do: Average per capita income in Shanghai is 13 times that of the poorest parts of China, and Chandigarh is 8.1 times richer than the poorest parts of Bihar. In Peru, for example, the poverty rate for districts at sea level is 46.1% compared with 63.3% for the districts that are at an altitude of 3500 meters above sea level. The Luxembourg Income Study for selected eastern European countries confirmed that capital cities and major urban areas closer to the rich western neighbors have much higher levels of income compared to those regions which are further away. But what accounts for such large differences in income and opportunities both across countries and within a country?

 

Regional geography plays an increasingly important role particularly now since globalization has created a premium for the regions with easy connectivity. Infrastructure provides the much-needed connectivity to help regions unlock underutilized resources and facilitate labor arbitrage. Infrastructure development, however, remains uneven across countries because remoteness adds to the cost of connectivity for two reasons: Physical attributes like higher altitudes and remoteness imply longer distances and much larger costs of connection, and the absence of scale economies make most of the infrastructure projects unviable in such areas. In addition, there are large inequalities in distribution of public money at the sub-national levels. For example, the richest county in China spends 48 times per capita expenditure for public services compared with the poorest counties. Such large inequalities lead to either virtuous or vicious cycles: Better connectivity can lead to agglomeration impacts, creating more inflows of investments, technology, and people, which makes the areas richer and in turn results in more money available for infrastructure improvements. But remote areas continue to lag behind in development due to lack of connectivity and investments. The key question for policy makers then is whether to move economic opportunities to these areas by reducing economic distance, or to move people to jobs in a connected world. From the 1980s, China has consistently moved its workforce into areas that are better connected to the rest of the world. But this is now being changed, given their focus on creating a harmonious society: large infrastructure investments hope to connect remote Western areas to economic opportunities.

 

In any democratic system, it is not the cost or economics alone, but rather political voice and participation by stakeholders in effective policy-making that also determine the ultimate outcomes. And this is where there is a flicker of hope: Mandated representation of women in India at the local level, known as Gram Panchayats, have shown some interesting impacts. Women elected as leaders, or Pradhans, invest more in infrastructure than men. This has been especially true for roads in West Bengal, and drinking water provision in Rajasthan. These results also confirm, albeit indirectly, that local governments do have effective control over policy decisions that affect them.


There is a long way to go to bring these thousand worlds closer to each other. A beginning, however, needs to be made by involving stakeholders and giving them a greater voice in overall resource allocation.