There have been endless discussions over the past several months about President Trump’s much-hyped trillion-dollar infrastructure initiative. No one is still quite sure what’s in it, but one question seems to have been answered: It’s not going to be $1 trillion in new grant funding for infrastructure. That’s in part because there’s no consensus in Washington on where new funding might come from—be it a gas tax increase, repatriated foreign profits or new container fees.
Instead of new funds, the Trump plan focuses a great deal on cutting federal regulations. Federal regulations can certainly add time and expense to projects—a Oregon department of transportation official once told me that he refused to take federal funding for anything less than a $10 million project “because a $1 million federalized project becomes a $2 million project.”
But the fact is, over-regulation isn’t what’s stalling projects. In many cases, environmental approvals can’t be given until a project is fully funded, so what looks like a problem with regulatory approvals can actually be a funding problem.
Another prominent aspect of Trump’s plan is to dramatically step up the use of private capital, in the form of public-private partnerships. That’s certainly a viable option for some projects. But even Transportation Secretary Elaine Chao acknowledges a truth about P3s that is not always understood: P3s don’t make money, they need money to work. P3s aren’t a revenue-generating mechanism, but an alternative form of financing (coupled with a long-term, performance-based procurement) that is generally more expensive than other alternatives. And it’s a tool that’s typically limited to larger projects that can somehow turn a profit for the private investors.
There is one thing in the Trump proposal, however, that could provide cheaper, more flexible financing for P3s as well as other innovations—an expansion of federal credit programs. This is actually the part of Trump’s plan that’s most likely to happen: These programs are cheap, from a budgetary perspective, so they won’t require the elusive revenue solution that a grant program would.
With federal credit, essentially, the federal government is passing along its low cost of borrowing to another borrower, and the only budgetary cost is accounting for defaulted or late payments. So one dollar of credit assistance can be supplied for between five to 10 cents of budget. In turn, that one dollar is often just part of a larger pool of financing, which leverages the federal investment even further.
Federal credit is important because it addresses an inherent problem in infrastructure investment: The capital is inherently “impatient.” Investors need to see a return much sooner than a large infrastructure project can often deliver. Much of the capital in capital markets, even pension funds, has a five- to 10-year return horizon. (Municipal bonds can have somewhat longer terms, but aren’t as flexible and face restrictions on private involvement.) This doesn’t align well with the life cycle of an infrastructure project or a revenue source that may take a decade or more to emerge.
Federal credit helps bridge that gap, enabling more “patient” capital. In addition to the long repayment term, federal credit also has flexible features that foster further innovation, including no prepayment penalties (so a city can refinance whenever interest rates are favorable); fixed, low interest rates that don’t vary with the risk of a project; and no interest fees until loan funds are actually drawn down. Federal credit also features repayments that start up to five years after project completion, so projects have time to establish revenues before repayments kick in. It can also include backloaded or income-contingent repayment schedules, which can be aligned to anticipated or actual revenues.
How Patient Capital Drives Innovation
Patient, flexible capital can match the uncertainty surrounding new or less-stable revenue sources. That’s important for cities, like those in the City Accelerator, trying to bring innovation into their infrastructure finance programs. For example, the city of St. Paul is trying to change the paradigm for stormwater infrastructure on large redevelopment districts. In the traditional model, each subdeveloper builds its own buried stormwater pipe and ties that into into the city system. But a new, greener stormwater infrastructure solution can create a development-wide recreational amenity (essentially, a river running through it) that has aesthetic as well as environmental benefits, and will likely increase land value (and future tax revenues) in the long run. Changing this paradigm, though, requires a patient source of capital to allow for the incremental pace of ultimate development to pay back the upfront costs of a greener, long-term solution.
Patient capital could also be a huge asset for cities like San Francisco that are working to reinforce their seawalls against rising sea levels. Coastal cities need to make their infrastructure more resilient to address short- and long-term sea level rise. One possible way to finance some of the resiliency improvements could be resiliency bonds. These bonds would use the reduced insurance premiums from making seawall failure less likely to fund projects that would reinforce them. Patient capital could be included in this kind of funding package, to reduce the risk to investors who wanted to try this kind of innovative approach, but want additional security.
In the District of Columbia, which is undertaking a public-private partnership to provide better street lighting, patient capital can help reduce the cost of the capital to the private partner, and reduce the overall cost of the project to the city.
The fact is that long-term investments create longer-term value. Land near transit stations, for example, is worth up to 10 percent more than comparable real estate; land with green infrastructure features can see a similar increase in value. Over time, that provides the revenues to support any increased cost for the infrastructure that created the value. But without truly patient capital, these opportunities are lost.
Right now, federal credit program exist for surface transportation and water infrastructure. Expanding federal credit to more infrastructure modes, such as ports, or other purposes, such as coastal resiliency, is a smart way Washington can help states and cities get things done. That may be the most powerful possibility in the infrastructure initiative—and the one that is most likely to receive bipartisan support.