• Demystifying ‘PPP’

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    Ben D. Kritz

    Ben D. Kritz

    My Tuesday column about the dubious handling of a couple of major infrastructure project proposals by President B.S. Aquino 3rd elicited a number of responses from readers which revealed a basic problem: “PPP,” the government’s flagship “Public-Private Partnership” program, is poorly understood by most people. So today’s installment will be what I hope is an easily digestible lesson in developmental economics.

    Public-private partnership is a vague term used mainly because it makes a cute acronym, a quirk of language that appeals to Filipinos generally, and especially to those in the business of politics. There is very little “partnership” actually involved, and the “public” aspect of it simply acknowledges that the projects developed under the scheme are those that are typically institutional in nature—basic infrastructure and facilities that provide public services such as education and health care.

    PPP projects can take many different forms, which are all simply variations of the basic principle of letting private industry build and manage public works that a government can’t or for some reason won’t build and manage on its own. The form that is most often used here in the Philippines is the “build-operate-transfer” (BOT) version, hence the short name of the original enabling law for the concept (The BOT Law, RA 7718).

    The ill-starred Cavite-Laguna Expressway (Calax) project discussed in the last column is a typical example. The government wants to build a highway, but decides it does not have the resources to do so in the conventional way, which would be to pay a contractor to build it under the supervision of the relevant government agency, in this case the Department of Public Works and Highways.

    Instead, it offers a BOT project. Under the scheme, a private enterprise will build the highway according to the government’s specifications, and then take virtual ownership of it for a fixed period of time in order to recover the costs of building it, the costs to operate and maintain it during that time period, and a ‘reasonable rate of return,’ or profit.

    In the case of the Calax, the costs would be recovered by charging tolls to users of the new highway, and the builder would have 35 years in which to do so. After that term expires, the highway would be turned over to government ownership.

    Given that the government is not laying out any funds to build the project—those costs will be borne entirely by the winning contractor—the standard method of selecting the lowest qualifying bid does not apply. Instead, in a BOT contract, the awarding of the bid is based on who is willing to pay the highest “premium” for the privilege of building the project. The planned cost of the Calax is P35.4 billion but the actual cost of constructing the road would likely be different, so that is essentially ignored in the bidding; if the bid was written as a formula, it would look something like “(whatever it costs to build the highway) + premium to be paid to the government = total bid.”

    The benefit of BOT schemes, and the reasons the development model is so strongly advocated by multinational finance organizations like the World Bank and the International Monetary Fund, is that it is a relatively fast track to basic development that would likely not be possible any other way for the governments who follow it. It works around the handicaps of insufficient government financial resources—either low revenue or low creditworthiness—and provides an avenue for outside investment from the domestic or foreign private sectors that might not otherwise be available. And it does work; empirically, the improvements to infrastructure and public services BOT schemes provide do correlate to economic gains for the countries where they are implemented.

    The downside to BOT schemes is their heavy cost to the populations who use the infrastructure and facilities that are created by that form of development. For example, if the government were to build and operate the Calax through conventional means—by obtaining loans for the project, or issuing a construction bond—then the costs that would have to be recovered through tolls charged to users would be the principal and interest for debt incurred to finance the project, plus the costs of operations and maintenance for the highway after it is built. Under the BOT scheme, the recovery from tolls includes those costs plus the bid premium plus a percentage of the total of all of those as a ‘reasonable’ profit.

    Hypothetically, the increase in economic activity facilitated by the upgraded infrastructure should offset the additional costs to the government’s source of revenues—the individuals and businesses that make up the tax base—and result in a net economic gain. That is an easy proof to make with respect to government-funded projects, but becomes problematic when a BOT project is involved.

    A project with a higher overall cost automatically reduces the ‘net economic gain’ unless the project represents infrastructure or services that are of a significantly higher quality or have greater capabilities than comparable government-funded ones. That is obviously not the case for most projects, and certainly would not be with the Calax. A road is a road; no enhancement that a private contractor could provide would change the basic effect of that road’s existence (i.e., “facilitating moving people and goods from point A to point B”). And the studies that attempt to empirically support the benefits of BOT generally tend to overlook indirect, hard-to-define, but very real costs that arise from inevitable problems like regulatory capture—something Filipinos saddled with some of the world’s highest electricity costs, for example, are already keenly aware of.

    For a country like the Philippines, which has achieved a reasonably stable fiscal position, has a healthy level of foreign reserves, and improved sovereign credit ratings, BOT schemes may very well have outlived their usefulness, and are now doing more harm than good. If not a complete failure, the Aquino Administration’s PPP program has certainly been a serious underachiever; perhaps it is time to thank everyone involved for giving it a try, send them home, and hang the “closed” sign on that office.

    ben.kritz@manilatimes.net.

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    4 Comments

    1. Mitigate corruption, get rid of PPP or BOT contracting, borrow money at much lower rate than private investors for building the much needed infrastructures (highways, power generation, water supply, etc.) and hire highly qualified engineers/contractors (local or foreign) and the country’s economy would accelerate not seen before.

      The privatization and deregulation of the electrical industry is the worst culprit in holding the economic growth of the country!

    2. Let me tackle that from the angle of sovereign guarantee. Interest rates should reflect the risk, like if you buy govt bonds then you pay the lowest interest as it carries the lowest risk because the govt guarantees it. But a PPP project is financed by the international banking mafia with the help of their chief bully IMF and charges much higher than govt bond rates, despite the sovereign guarantee! The rip-off of Juan dela Cruz is masked by the circuitous logic that is used to prettify the this anomaly. In other words these syndicates called conglomerates owned by the oligarchs are “venturing” in a risk free investment. Your neighborhood ice cream vendor faces a higher risk than these predators. Even without a sovereign guarantee the 35 years of guaranteed profits is still unacceptable because the “premium” as you call it is borrowed money that Juan dela Cruz will pay for. Si Juan ginigisa sa sarili niyang mantika! There is no public works that the private sector can build or manage more cheaply than the government, if there is show me and I will cut off my middle finger. You hit it on the head when you said the downside is the heavy cost to the populations that use it, but you did not say that the upside is only for the International lenders and their local proxies the oligarchs and absolutely none for Juan dela Cruz who ends up shouldering everything including the oligarchs obscene mega profits.To sum up, PPP is a means to pick the pocket of poor Juan dela Cruz to give to the rich.

    3. We are not a “poor” country. All of these PPP, BOT, graft schemes should be abolished. Let us do business and run government legitimately.

    4. these PPPs like the slex-nlex link would be very expensive for the ordinary pinoys. as you said mr ben, the winning bidder would charge the users the cost of building the road, the repairs and operating expenses while they are still operating the toll road plus the premium they paid the gov’t. and these would translate to higher toll fees. for those who opt not to use the slex-nlex link, they would have to suffer the traffic jams that the elevated road caused, like the shrinkage of the existing road below due to the pylons of the elevated road. just imagine the rizal ave. where lrt1 is and edsa where the infamous mrt3 is. since aquino and his finance men are bragging that we have enough funds, why can’t the govt. build the road to make the toll fees affordable to ordinary pinoys? since gov’t is not well known for operating businesses, the gov’t could bid out the maintenance of the toll road.