Let’s get political

In a way, it seems like a bit of a cop-out to say that the overarching theme at the Infrastructure Investor: Berlin Summit 2012 – the biggest and most successful iteration of our annual European infrastructure forum, with close to 300 delegates – ended up being political risk.

What else is new, we hear you say? Infrastructure has always been – and will probably continue to be – a highly politicised asset class. When was political risk not one of the main talking points at similar infrastructure summits? It’s a fair point, but where 2012 might be different from previous years is that it will show how infrastructure correlates with politics at a time of unprecedented economic crisis.

For a relatively young asset class, infrastructure is certainly having an “interesting infancy”, to quote Macky Tall, head of infrastructure at Caisse de depot et placement du Quebec.

In the short years since it has emerged as a distinct investment proposition, infrastructure has already gone through its own debt bubble (sub-100 basis point loans, anyone?) and several identity crises (anybody out there still think toll roads, especially greenfield ones, are pretty much the same as regulated utilities?).

But since the 2008 financial crisis evolved into a full-blown sovereign debt cancer, infrastructure faces heightened levels of political risk. This is surely what Gordon Bajnai, a former Prime Minister of Hungary, meant when he started this year’s Berlin conference with the following, headline-grabbing statement:

“The biggest risk in infrastructure [today], especially for public-private partnerships, is political and not financial.”

Stunned investors

Bajnai will probably be proved right. As painful as regulations like Solvency II and Basel III may end up being, their impact might easily be overshadowed by inconvenient political decisions, such as the retroactive cuts to solar subsidies that stunned investors in the Spanish solar industry last year.

In this sense, the crisis is highlighting and exacerbating the mismatch between infrastructure’s long-term characteristics and the electoral cycle’s short-term nature.

Take the UK, where the Private Finance Initiative (PFI), the country’s standardised procurement process for public-private partnerships (PPP), has been under unprecedented pressure over the last year.

Anthony Rabin, Balfour Beatty’s deputy chief executive, pointed out with an undercurrent of thinly-veiled outrage at the start of day two, it took only a flick of the electoral switch for PFI to go from respected procurement tool to a “national disgrace”.

Rabin attributed PFI’s fall from grace to a new government anxious to differentiate itself from its predecessor, a trend which, especially at a time of crisis, will not be confined to the UK.

Or look at Portugal, one of the European Union’s (EU) troubled debt spots, which had to be bailed out by the International Monetary Fund (IMF) and its EU peers last year.

As Chris O’Gorman, head of infrastructure at Japanese bank Mizuho, highlighted at a day one workshop on sourcing project finance debt, the former Portuguese government decided to de-risk its €5 billion roads programme by structuring it with availability payments. This allowed the previous government to build the roads it wanted and attract investors by eliminating a much-disliked risk following the 2008 financial crisis: demand risk.

But as O’Gorman pointed out, investors in the country’s roads programme are now saddled with a much bigger counterparty risk, when you consider that one of the demands of the EU/IMF bailout has been for the new Portuguese government to reassess its PPP programme, with a view to finding out where it can reduce the state’s commitments.

Localisation

Eduard Ruijs, co-head of First Reserve’s European energy business, offered another revealing example of politics’ impact on infrastructure by pointing to the increasing localisation of deals.

While claiming First Reserve had little trouble sourcing debt for the deals it closed last year, he noted that bank activity had become increasingly localised, with local banks tending to stick with local deals. This is not surprising, especially in Europe, where many banks had to be propped up by the taxpayer and as such are ‘encouraged’ to give something back to their respective economies.

This increasing ‘localisation’ of the infrastructure space was also evident in a day one panel dissecting the recent acquisition of Amprion, Germany’s fourth-largest electricity grid. Amprion was an all-German deal where a German utility (RWE) sold a German asset (Amprion) to a consortium of German institutional investors with the help of a subsidiary of a German bank (Commerz Real).

When quizzed by chairman, Thomas Putter, on what made the Amprion deal so special, one of the panel’s participants candidly replied that Amprion’s ‘Germanness’ made it a great political story.

Even the slight hiccup in proceedings was caused by a German entity – the regulator – when it briefly flirted with the idea of cutting allowed equity returns exactly one day after the deal’s conclusion was announced. Fortunately for the investors, that threat has failed to materialise.

In a way, Amprion is the kind of feel-good, thoroughly national deal that UK Chancellor George Osborne would kill for. And it doesn’t take a huge stretch of the imagination to see that that is precisely what the new UK government is aiming at with its much-discussed plan to create a fund to provide UK pensions with easier access to UK infrastructure.

Productive, not social

As politicians adjust to the new economic reality, the type of infrastructure governments are likely to offer for procurement over the next few years will almost certainly be markedly different from the infrastructure programmes of yesteryear.

As Bajnai pointed out, European governments are likely to move away from the social infrastructure programmes that characterised the last two decades (typical, in many ways, of boom time largesse) in the direction of what he called “productive infrastructure”, probably of a more economic bent, intended to help stimulate the economy.

All in all, Berlin offered plenty of examples of how policy and political decisions are shaping up to be one of the major forces in infrastructure this year. Somewhat predictably, though, it proved less able to offer answers on how to counter this growing political interference.

In this sense, it was again Bajnai, the politician, who came up with a possible solution to help de-politicise infrastructure, suggesting countries look at creating technocratic structures to help manage long-term infrastructure programmes – thereby somewhat insulating the asset class from the short-term depredations of the electoral cycle.

But the former Prime Minister of Hungary, in a knowing nod to the growing unpopularity of all things technocratic, stressed that these bodies would need to be democratically accountable.

And herein is a potentially weighty obstacle: many of the measures necessary to provide investors with long-term certainty in infrastructure risk, in these tough times, clash more and more violently with public opinion.

As Putter highlighted in an interview with Infrastructure Investor last December, increasing private management and ownership of infrastructure has explosive social potential – “social dynamite” as he colourfully named it.

After all, you “will have financiers, who you would never have invited to your Christmas party in the first place, making money out of a resource that you had taken for granted”.

Squeezed electorate

It’s a tricky conundrum: politicians know they need to attract ever greater amounts of private money to develop their infrastructure programmes, which they simply cannot afford anymore. But they will have to reconcile greater private ownership with the needs of an increasingly squeezed electorate, unhappy with seeing prices go up on pretty much everything.

This is infrastructure’s ‘political dynamite’ potential, to borrow Putter’s term, which Berlin foreshadowed as the year’s biggest theme. As Bajnai jokingly – but tellingly – put it, referring to the realities of making unpopular political decisions:

“We [politicians] all know what we need to do. The problem is: how do we get re-elected if we do it?”