Changes Needed to Implement P3s on Wide Scale for Infrastructure Projects

In January, the Ash Center for Democratic Governance and Innovation at the Harvard Kennedy School released a report that examined the challenges facing funding and financing for federally-sponsored water resource infrastructure (“Tapping Private Financing and Delivery to Modernize America’s Federal Water Resources”).

For some years, a focus on public-private partnerships (P3s) has been held up as a new tool to solve our infrastructure woes. It has been used successfully for recent large-scale port projects, but only with non-federal sponsors who had the means to front project costs up front, and often with the help of new permitting initiatives such as President Obama’s “We Can’t Wait” initiative and the U.S. Army Corps of Engineers initiatives to cut project timelines, costs and federal oversight. The new wave of P3 infrastructure projects is still in the making.

Fixing the country’s crumbling infrastructure became a campaign promise for President Trump, and now, it may take the spotlight for policy and legislation. In early February, Trump released his infrastructure plan. For more details on the plan, read the editorial in the recently published 2018 IDR directory, owners and operators edition.

Some in Congress are poised to act on infrastructure. None more than the House Transportation & Infrastructure (T&I) subcommittee on Water Resources and Environment, which held a hearing in January on water resources infrastructure and enhanced project delivery. For more on the hearing, see the story on page 44.

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One of the witnesses, Jill Jamison of Jones Lang LaSalle, who advises public authorizes on project implementation, also co-authored the Ash Center report with Stephen Goldsmith.

The Shrinking Civil Works Budget

The report starts with a focus on our infrastructure crisis, failing and inadequate structures and not enough funding, as the Corps struggles to meet its growing obligations. Since 1962, the report said, the Corps’ Civil Works spending has shrunk from 0.16% of national Gross Domestic Product (GDP) to as low as 0.04% today.

“To put this decline in perspective, between 1962 and 2014, GDP grew from $3.3 trillion to $15.9 trillion. Over the same period, foreign trade volume grew from $207 billion to $3.7 trillion, while the Corps’ annual spending remained flat in real terms, at approximately $5.9 billion,” the report said.

Because of funding shortages and the process for budgeting federal projects, we often wait to fix critical infrastructure, until it begins to fail. No surprise, the “fix-as-fails” approach is vastly more expensive, the report said.

Projects are rarely considered on a life-cycle basis, so instead of low-cost, high-quality infrastructure, we get limited funding for projects year to year. Protracted appropriations yield the costliest infrastructure delivery system, the report said.

Appropriations in the 1950s and 1960s primarily supported new construction. Over time, the need for new construction was replaced with the need for maintenance, rehabilitation and modernization of aging infrastructure. Funding for operation and maintenance (O&M) has increased over the years some, the report said, but it has not kept pace with the rising cost of maintaining the infrastructure.

Many are quick to highlight the flaws with the “fix-as-fails” process, namely higher project costs. Projects with less funding upfront will require more funding in the long run. The report said that for every dollar of deferred maintenance, taxpayers will need to invest four to five dollars later on. The graph below demonstrates this relationship.

Funding and Delivery

Water resource projects with a federal interest fall into two categories: a federally owned and operated project, or one under a shared-responsibility agreement between a federal agency and a non-federal partner. Federally owned assets, referred to as reserved works, for which the federal government holds the title and O&M responsibility, include inland waterways, navigation channels and some flood risk management projects, as well as dam and water supply projects.

Cost-shared or transferred works include flood risk management projects and ecosystem restoration projects, but cost-share agreements for projects from different federal agencies differ greatly. While in some cases, cost-share projects with the U.S. Bureau of Reclamation (USBR) mean the agency retains the title, with the Corps, it often does not.

The funding and delivery method becomes even more important when considering alternative finance delivery structures, like P3s. The report argues that the discussion is “complex and nuanced” because issues of asset ownership and life-cycle responsibility can impact Office of Management and Budget (OMB) scoring and project prioritization.

Projects also lie on a spectrum of delivery structures, ranging from traditional delivery to public-private partnership to privatization. See the chart on page 28 for a description of delivery models

What are the benefits of private involvement and public-private partnerships? For the federal government and its strapped funding, P3s can mean full funding is available at the outset of a project with the help of private financing. In terms of risk, P3s transfer that to the private partner and incentivize performance. All these combined are said to improve the quality of public infrastructure and leverage innovative approaches, the report said.

In her testimony before the T&I committee, Jamison took time to squash some misnomers about P3s. They are not a funding strategy but a delivery tool. The current system, she said, is flawed. It has failed to deliver quality infrastructure for the long-term, and legislative and policy details have impacted the effectiveness or reach of P3s on infrastructure projects, especially water resources.

Without a long-term budget, finance structures like P3s “are in direct conflict with the federal pay-as-you-go budget system,” the report said.

Public infrastructure and services are funded primarily via two structures: usage-based or budget-based payments. P3 projects need a funding stream to compensate investors for their costs and risks.

In the case of the federally leveraged taxes or fees, as in the Harbor Maintenance Trust Fund (HMTF), the money collected is sent back to a general fund and subject to future appropriations. It cannot go directly to projects, unless appropriated by Congress. “Without the ability to commit project-specific revenues to project costs, most federal P3 projects are thus entirely dependent on budget-based payments,” the report said.

For budget payments, appropriations are performance based and contingent upon OMB budget scorekeeping rules, which mandate that the entire federal funding obligation for a project is scored upfront in a single year, at the time the contract is executed. Very few large-scale projects can command their entire budget in one year, where funds are already tight.

Revenue Generation and Ring-Fencing

Federal authority to assess fees varies significantly depending on the type of water resource. Most fees or taxes assessed for the use of federal water resource assets are deposited in the Treasury’s General Fund, or into specialized trust funds, such as HMTF. “These revenues are not available for dedicated project-specific purposes. This inability to commit project-related revenues to specific project purposes represent a significant constraint to P3,” the report said.

Alternative finance and delivery structures like P3s need federal revenues for project-specific purposes, but current specialized trust funds do not allow that. To be used for project-specific purposes, funds would need to go to an escrow account or revolving fund (“ring-fencing” the funds), the report suggested.

Even if dedicated fees could be used for project-specific purposes in the short-term, it means little for infrastructure in the long-term, where federal agencies’ fees cannot be leveraged to finance and deliver projects and commit future revenues in advance of their collection.

This notion is also counter to the Anti-Deficiency Act, which prohibits a federal agency from entering into a contract that would obligate more money than the federal agency has on hand. When federal authorities can’t use future cash flows generated from user fees, they must pre-fund the work or separate the whole project into many phases that can be funded annually.

“If federal agencies hope to utilize revenues for project-specific purposes, they would need contract authority to allow them to enter into contractual arrangements on the basis of future revenues,” the report said.

Since federal trusts or revolving funds currently do not have legal authorities to be used for project-specific purposes, “significant legislative changes would be required,” to make that happen, the report said. Specifically, to facilitate P3 projects, federal water resource authorities would also need multi-year contracting authority.

Budget Prioritization and Pilot Programs

The report also argues that P3 projects do not receive credit for the benefits of their alternative financing and delivery approach in the budget prioritization process. “The ability to accelerate the delivery of an infrastructure asset through P3 not only results in efficiency savings, but also accelerates the resulting public benefits of the project. This should be considered when establishing budget priorities. Moreover, the value of risk transfer should also be considered,” the report said.

Federal budget scorekeeping rules by OMB were established in the early 1990s in reaction to perceived abuse over federal real estate acquisitions. The report concludes that these same 25-year-old rules should not apply to all infrastructure projects. Investments are currently prioritized based on their Benefit-Cost Ratio (BCR), without consideration for federal return on investment, Value-for-Money, accelerated benefits and risk transfer.

“Federal return on investment refers to public benefits deriving from each federal dollar appropriated to a project,” the report said. Value-for-Money (Vfm) analyzes the total life-cycle costs of service delivery and evaluates the benefits to the public at large.

“Consideration should be given in the BCR calculation to the accelerated benefits and life-cycle cost-savings resulting from a P3,” the report said. Quantifiable benefits are also associated with the transfer of project risks to private entities.

To help expand P3s for water resource development projects, the Water Resources Reform and Development Act (WRRDA), Section 5014, established a framework for the Corps to establish a P3 pilot program for water resources. “However, activities related to the program were only authorized to the extent specifically provided for in subsequent appropriations, which have not been granted,” the report said. Likewise, the legislation, the report concludes, sets up the parameters to develop a program, but does not provide the specific authorities necessary. And the program hadn’t received any appropriations to develop the program.

It clear that P3s could be an important part of delivering water resources infrastructure in a more timely and cost efficient manner, but it is not a one-size-fits-all solution. The Corps also needs new authorities, such as long-term contracting authority, to make P3s work, and changes to the annual funding process would make P3s more attractive to the non-federal partners that the federal government needs to support projects. In order to be competitive for funding, P3s also need a more even playing field with OMB, which rates projects strictly on BCR.

The next water resources bill, expected this year, could explore some of these options. Proposals from the administration’s infrastructure plan also address some of the issues addressed in the Ash Center report.