If everyone agrees that investment into infrastructure drives economic growth, then why are decisions being made without a view on the true economic value that those investments deliver? And, without these considerations, how is anyone effectively prioritising their investments to ensure they are putting the right money in the right places to achieve their economic objectives?
We believe that current infrastructure appraisal and prioritisation methodologies are frequently nowhere near sophisticated enough to allow governments to make truly informed decisions about their investments. It’s time to rethink the way we appraise and prioritise infrastructure, and forge better links between decision making, growth and thus the revenues that ultimately pay for what is built.
The unavoidable fact is that demand for infrastructure is growing exponentially while – in most markets – the ability of government to fund these investments is dwindling. In response, many governments recognise the sense in prioritising those investments that seem likely to drive economic growth. Most seem to understand that improved economic growth is ultimately about productivity, and that improved productivity will increase tax revenues without the need to raise tax rates.
Our experience suggests that very few governments are able to properly assess the actual economic value that their investments deliver. In part, this is because current infrastructure appraisal and prioritisation methodologies tend to take a very narrow view of value. As our report ‘Assessing the true value of infrastructure investment’ illustrates, in some markets, appraisals are simply based on a mix of feasibility studies and (occasionally) economic cost/benefit analysis. In many cases the appraisal is a way for individuals to get what they want rather than helping decision-makers understand which combination of projects merit investment.
Those – like the UK – that do include more sophisticated business case requirements into their investment process often focus narrowly on calculating what expected revenues can be generated from users and the welfare benefits to these users (i.e. their untapped willingness to pay) for an improvement, usually against the background of an assumption that the “real economy” is fixed. In some sectors, such as transport, appraisals now incorporate an estimation of the wider economic benefits that a fixed economy, welfare based appraisal might miss.
While that is a step in the right direction, this ‘missing piece’ approach is too narrow, and fails to provide a complete picture of the impact a project may have on the real economy, since inevitably there are overlaps between the welfare and real economy views of the world. A better question would be how a project will impact the real economy (growth and jobs), land values and tax revenues, and what this means for overall project affordability for the taxpayer.
Another major challenge is that most governments today tend to manage their infrastructure investments in departmental silos or (in the case of strategically important projects and megaprojects) on a project-by-project basis. And, as such, there is often little awareness of the relative value that each project delivers to the government’s overall economic objectives which, in turn, makes it very difficult for governments to properly balance their investments to get the best returns.
The project by project view of life also risks ignoring important interactions between projects, which can only be addressed by looking at whole programs and across silos. In the real world, no program is ever exactly the sum of its parts.
In the absence of data, methodologies and a program view, our experience suggests that politics gains much more influence in the government investment decision-making process. Indeed, quite often, we find that project appraisals are used as a means towards an end, rather than as a way to assess various options.
Politicians, for example, may decide that a new airport is needed and appraisals will be conducted to find the best way to deliver that airport, or to clear a particular approvals hurdle. Very rarely does anyone question whether an airport truly delivers the best economic outcomes when compared against, say, high speed rail or improved urban mobility projects, or a fundamentally different economic strategy based on a set of interventions in other sectors.
We believe that it is time for governments to start focusing on evolving their infrastructure appraisal and prioritisation processes to reflect the real economic value and thus long term affordability of infrastructure, and focus on programs rather than projects.
To start, governments must find a way to explore and measure the broader basket of benefits that their investments can deliver. The calculation for economic benefit should include not only traditional metrics such as ‘time saved’ or revenues generated, but also aspects such as impact on tax revenues and land value changes.
In many cases, governments may have other specific policy objectives that they hope to achieve (reducing the carbon footprint, for example, or improving job prospects for the poorest 25 percent of the population). These must also be understood, measured and assessed.
With this information in hand, governments should be in a position to start making more informed decisions about how they invest their budgets to optimise their policy objectives. The role of politicians, therefore, would be to set the right policy objectives and decide the right balance between them which, in turn, will enable the bureaucrats to properly evaluate and prioritise investment accordingly.
The latest developments in the UK suggest this may not mean one all-encompassing appraisal metric based on an opaque set of shadow prices, but parallel appraisals addressing key objectives and, in the case of the real economy, long term affordability.
Just as importantly, governments need to start thinking about their infrastructure as a portfolio or program rather than as a set of discreet projects. This should allow decision-makers to better understand the relative value – and the necessary trade-offs – of each option which, in turn, should drive improved prioritisation. The program approach can also help deliver balance between objectives and help deliver minimum outcomes, which is impossible at the project level.
We believe that governments and policy makers need to embrace change and encourage more innovative approaches to infrastructure appraisal and prioritisation.
Creating and implementing a new approach to infrastructure appraisal and prioritisation will not be easy. In some cases, the right data may not be available. In other cases, governments may face opposition from stakeholders with a vested interest in maintaining the status quo.
However, we firmly believe that – to achieve the best returns on their investments, to achieve their policy objectives, and to achieve better affordability for infrastructure – governments must start to evolve their approaches and methodologies. And, given the current ‘funding gap’ for infrastructure, most would be well advised to start right now.
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Member firms of the KPMG network of independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm.