Mandelson adds weight to UK infrastructure bank

Business secretary Peter Mandelson said in a speech last week that private sector funding for UK infrastructure will have to be mobilised on 'a totally new scale'. And for that to happen, the government has to examine “the case for public sector-backed financial institutions to achieve this mobilisation”.

UK business secretary Peter Mandelson said in a speech last week that the government needs “to mobilise private investments on a totally new scale” to finance up to £500 billion (€548 billion; $753 billion) in infrastructure over the next decade.

Peter Mandelson

“That has to include examining the case for public sector-backed financial institutions to achieve this mobilisation,” Mandelson said, as the government looks for “innovative ways of lowering capital costs [as well as] mitigating the initial risks and uncertainty,” he added. The “prize”, as trade and investment minister Mervyn Davies has already said, are pension funds, “a huge pool of capital well suited to these kinds of long term investments,” Mandelson pointed out.

But “just because the funds are there doesn’t mean these important investments will get made”, which is why the government must step in if need be with “public sector-backed financial institutions”, to attract these investors, Mandelson argued.

Tim Breedon, head of Legal & General (L&G), the UK’s largest pension fund manager, explained in an interview with the Financial Times that a UK infrastructure bank could help projects get started. This bank would then siphon-off debt to insurers and pension funds at credit ratings they would find attractive.

Construction risk has been identified as the chief deterrent for major pension fund investment in infrastructure following the demise of the monoline insurers. A state bank that would help fund the construction period could be a way of raising most projects’ BBB- rating. Alternatively, the government could “take some of the building risk before converting it [infrastructure investments] into long-term loans,” as Davies suggested.

A previous report in the Telegraph newspaper had implied Mandelson was looking at Germany’s KfW bank as the model for a similar UK investment vehicle.

The KfW group was founded in the aftermath of the Second World War to help reconstruct Germany. Initially, it used funds from the Marshall Plan to help fund projects but its federal guarantee allowed it to borrow at very low costs and, in turn, provide competitive loans. It is now Germany’s sixth-largest bank with close to €400 billion of assets at the end of 2008.

The government is currently drafting a list of priority infrastructure projects the UK will need in the next five to 50 years, which is set to be revealed in the upcoming 2010 budget, expected March 24.

According to one government estimate, the UK will need to spend £434 billion upgrading its infrastructure by 2020. The lion’s share of investments will be spent in the energy sector (£264 billion), followed by the transport (£120 billion), water (£45 billion) and communications (£5 billion) sectors.