Soon after May’s general election, we offered our thoughts on what the unexpected result would mean for infrastructure investors. With the dust of the election settled and the new Conservative government bedded in, is there still a rosy prospect for infrastructure investment under the Conservatives?
Here we set out our thoughts on the political risks facing infrastructure investors in the coming months, and examine how the rise of Chancellor of the Exchequer George Osborne will affect the sector for the rest of this parliament.
First, we’ll look at the spread of Osborne’s allies across government and his role at the heart of government policy making; second, the impact that the new National Infrastructure Commission will have on policy making; then the implications of the upcoming Spending Review; and finally the ongoing spectre of the European Union (EU) referendum hanging over investors.
The Conservative Party has enjoyed a good summer. It has ridden the wave of its victory while watching Labour take a sharp left turn. Osborne has perhaps enjoyed the warmest summer of all. As the man driving major infrastructure projects, his rise is good news for the investment community. He is now almost universally acknowledged as the frontrunner in the upcoming leadership contest to succeed David Cameron.
His allies are installed across government, with characters such as Greg Clark and Amber Rudd heading up the Department for Communities and Local Government and the Department of Energy and Climate Change respectively. The Chancellor is at the heart of the government’s most significant agendas: taking a prominent role in the tricky EU renegotiation process, announcing major devolution agreements, and overseeing the upcoming Spending Review.
LEAVING A LEGACY
The Chancellor’s party conference speech confirmed his desire to leave a legacy: transforming the UK economy and altering the long-term perception of the Conservative Party. Infrastructure is key to this vision of a high-skilled, high-pay economy with increased productivity. Whether this can be achieved will depend to a significant extent on the success of the newly announced National Infrastructure Commission (NIC).
The concept of a NIC, as proposed by Sir John Armitt, was perceived as being one of the most popular aspects of the Labour manifesto with business. By adopting wholesale one of Labour’s headline policies, and announcing that the new body will be chaired by the former Labour Cabinet Minister, Lord Adonis, the Chancellor demonstrated his usual tactical deftness. This allows Osborne to paint himself as a pragmatic moderate pursuing a one-nation agenda.
On a practical level, the NIC is designed to depoliticise the decision-making process around key infrastructure projects and is intended to create a more certain infrastructure investment pipeline. It will have a remit to look at infrastructure needs on a 30-year basis, and to produce a long-term plan and assessment of national infrastructure needs early in each parliament, setting out what a government is expected to do over the next five years.
The original Armitt proposals set out clear requirements for a number of Commissioners to be appointed, with the body reporting to parliament and requiring ‘Sector Infrastructure Plans’ to be developed. It is unclear whether the Chancellor’s implementation of the NIC will include the details that will guarantee its effectiveness.
While the Commission usefully demonstrates that infrastructure renewal is a key government priority, there remain deeper questions about what impact it will have. Will it significantly speed up the development of new projects? Will it do anything to remove the barriers that prevent progress, and will it be able to take any of the politics out of infrastructure investment?
One other risk is the potential opposition to the work of the NIC by elements of the Conservative Party. High-profile quangos that remove decisions from politicians are disliked by many in the party. There are also likely to be concerns that a powerful central body that drives through specific projects could risk undermining local democratic processes. There will be others still who fear that this will encourage significant capital expenditure on infrastructure projects, undermining the government’s record for fiscal responsibility.
There are clear tests for the NIC ahead with major infrastructure decisions on the horizon that could prove challenging for the government.
As ever, the most pressing issue is that of airport capacity in the south-east. The government’s expected response is complicated by political ramifications. Justine Greening, the Secretary of State for International Development, could depart from the Cabinet if Heathrow is the preferred option, given the impact of expansion on her constituency. Other Cabinet ministers, including Theresa May and Philip Hammond, are understood to be opposed to the idea. All the currently declared candidates for the London mayoral elections are staunch opponents of a third runway at Heathrow.
One ever-present issue facing infrastructure is financing. The government develops initiatives to encourage insurers and pension funds to invest in infrastructure with little success. Osborne’s latest proposal to merge local authority pension funds to increase their ability to invest in infrastructure sounds promising, but only time will tell.
Two further political risks have the potential to impact on infrastructure investment.
The first is the Spending Review which will be announced in late November and see very significant cuts made to departmental spending. The initial phase of the Review, which concluded in early September, saw departments asked to model cuts of 25 and 40 per cent to their budgets. The target of achieving a budget surplus by 2019/2020, which Osborne has set himself, requires £37 billion of consolidation of which £20 billion must come from savings in departmental expenditure.
While some government spending has been ring-fenced, and Lord Adonis will put pressure on the Chancellor for further capital spending on infrastructure, this does not extend to the main infrastructure spending departments, such as the Department for Transport and the Department for Energy and Climate Change. Specific spending programmes and subsidies will have to be scaled back as a result.
PRIVATE CAPITAL WELCOME
The opportunity for investors is that with public spending at a premium, one consequence will be a continuing focus on attracting private capital – in particular patient long-term institutional investors – to infrastructure and other investment.
The second macro risk on the horizon is the spectre of negotiations on the future of Britain’s European Union membership. There is little clarity on what is up for negotiation, with much speculation that the final settlement presented ahead of the referendum will include few concessions. As it stands, the establishment of the ‘Out’ campaign appears more advanced and research has indicated that a majority of Conservative MPs are leaning towards supporting exit.
The prospect of ‘Brexit’ itself creates significant uncertainty for investors. It has the potential to lead to a lengthy process of further negotiations on the UK’s role in the world outside the EU and its terms of trade with the bloc. Investors are likely to come under significant pressure to publicly highlight the impact that an exit will have on their business.
While a focus on infrastructure is welcome for investors, there remain question marks over the implementation and delivery of these pledges. It will be important to ensure that the government’s strategy on infrastructure is aligned with the realities of what is financeable.
Governments, including the previous Coalition government, have a history of making high-profile announcements about how infrastructure planning and decision making processes will be radically transformed in order to speed up development. Too often these turn out to be false dawns. Only time will tell as to whether this Commission will have a significant practical impact, or is merely a demonstration of political commitment to this agenda.