Hearing on Infrastructure Banks

Good morning Chairman Neal, Ranking Member Tiberi, and members of the Committee. I am pleased to appear before you this morning and very much appreciate the invitation.

From time to time, collapsed bridges, failed dams, and ruptured water pipes remind us of the need for increased investment in the maintenance of U.S. infrastructure. Overall, we know that the condition of our infrastructure is generally declining, especially in metropolitan areas. There is also growing concern that the infrastructure that exists today is woefully obsolete, geared more for a prior generation than for the challenges of the 21st century.

The federal government spends about $65 billion each year on infrastructure—transportation, energy, water and environmental protection [1]. While the figure is not negligible, the investment in infrastructure is only 2.2 percent of total federal spending. More than three-quarters of this spending consists of transportation grants to state and local governments ($50.4 billion) [2].

While most of the attention has been on increasing funding for projects, there are also renewed calls to improve the way the federal government invests in infrastructure. Today, the federal government generally does not select projects on a merit basis, is biased against maintenance, and involves little long term planning. In this context, there is interest in a new federal entity for funding and financing infrastructure projects through a national infrastructure bank.

Mr. Chairman, I believe that while a national infrastructure bank is not a panacea, if appropriately designed and with sufficient political autonomy, it could improve both the efficiency and effectiveness of future federal infrastructure projects of national and regional importance [3].

Background

A national infrastructure bank (NIB) is a targeted mechanism of financing infrastructure. A development bank in essence, an NIB would have to balance the rate-of-return priorities of a bank with the policy goals of a federal agency. The creation of such a special financing entity for infrastructure has been discussed in policy circles for at least 20 years.

Across the Atlantic, the European Investment Bank (EIB) has been functioning successfully for the last 50 years, playing a major role in connecting the European Union across national borders. The EIB has nearly $300 billion in subscribed capital by all the 27 European Union member countries. In 2009, the EIB disbursed over $70 billion, mainly on transportation, energy and global loans [4]. While not trying to maximize profit, EIB functions as a bank, not as a grant-making mechanism. The EIB raises funds from capital markets and lends them at higher rates, keeping its operations financially sustainable. It offers debt instruments, such as loans and debt guarantees, and technical assistance.

While it may take different forms, NIB proposals in the U.S. generally envisage an entity that improves the federal investment process in infrastructure assets that meet some measure of significance and accelerates the investments in such projects [5]. The focus is on multi-jurisdictional or multi-modal projects with regional or national impact.

Yet despite this general agreement about the purpose of an NIB some outstanding questions remain. For one, it is unclear whether it would be limited to certain sectors, such as transportation, or if it would allow for applications from a variety of infrastructure areas. Another is its governance structure, upon which the budgetary impact of federal investment through an NIB depends heavily. Here there are myriad options. It could be housed within a federal agency, established as a government-owned corporation (like Amtrak), or as a shareholder–owned corporation (like government sponsored enterprises) [6]. The precise structure, then, influences what types of funding and financing it would provide.

The Potential of a National Infrastructure Bank

If correctly structured, an NIB may introduce a federal investment process that requires and rewards performance, with clear accountability from both recipients and the federal government. There are several advantages:

Better selection process.
At its heart, an NIB is about better decisionmaking of infrastructure projects. The bank would lend or grant money on a project basis, after some type of benefit/cost analysis. In addition, the projects would be of national or regional significance, transcending state and local boundaries. The bank would consider different types of infrastructure projects, breaking down the modal barriers. This would be a giant step from the current federal funding for infrastructure, most of which is disbursed as federal aid transportation grants to states in a siloed manner.

Multi-jurisdictional projects are largely neglected in the current federal investment process in surface transportation, due to the insufficient institutional coordination among state and local governments that are the main decisionmakers in transportation. The NIB would provide a mechanism to catalyze intergovernmental cooperation and could result in higher rates of return compared to the localized infrastructure projects.

An NIB would need to articulate a clear set of metropolitan and national impact criteria for project selection. Impact may be assessed based on estimated metropolitan multipliers of the project. This criterion would allow the bank to focus on the outcomes of the projects and not get entangled in sector specific standards. Clear evaluation criteria would go a long way, forcing the applicants, be it states, metros or other entities, to have a baseline of performance. This change, by itself, would be a major improvement for the federal investment process, given that a major share of the federal infrastructure money goes to the states on a formula basis, without performance criteria.

Keeping recipients accountable. An NIB would have more control over the selection and execution of projects than the current broad transportation grants. It would be able to enforce its selection criteria, make sure that the projects are more in line with its objectives, and have oversight of the outcomes of the projects.

The new infrastructure entity should require repayment of principal and interest from applicants. This would bring more fiscal discipline and commitment from the recipients to the outcomes of the project.

The extensive use of loans by an NIB contributes to the distinction between a bank and another federal agency. The interest rates charged to the state and local recipients of NIB loans might be set to slowly repay the initial injections of federal capital, while still maintaining a sufficient capital base.

Correcting the maintenance bias. The mere establishment of an NIB would not correct for the problem of deferred maintenance. However, through the selection process, it could address the current bias by imposing maintenance requirements to recipients including adequately funded maintenance reserve accounts and periodic inspections of asset integrity.

Better delivery of infrastructure projects.
An NIB could require that projects be delivered via the mechanism offering best-value to the taxpayer and end user. The design-bid-build public finance model has been the most commonly used project delivery method in the transportation sector in the United States. Until very recently, there has been little experimentation with other delivery contracting types.

Evidence from other federal states, such as Australia, shows that private delivery saves money on infrastructure projects.

Filling the capital structure of infrastructure projects.
Although the United States has the deepest capital markets in the world, those markets are not always providing the full array of investment capital needed—especially for large infrastructure projects with certain credit profiles. This has been even more obvious during the current recession, with the disruptions in the capital markets. An NIB could help by providing more flexible subordinate debt for big infrastructure projects. Generally bonds get investment-grade ratings, and have ready market access, only if they are senior obligations with secure repayment sources. For more complicated project financings that go beyond senior debt, there is a need for additional capital, such as equity capital or subordinated debt.

Other Considerations

As currently proposed, an NIB would receive annual appropriations from Congress and its board would have to submit a report to the President and the Congress at the end of each fiscal year. Establishing an NIB as a shareholder-owned entity would help shield it from political influence. However, there is also a trade-off between independence and the cost of borrowing. If an NIB is a federal agency, it may draw upon the Treasury’s low interest rates to finance its activities. If it is a shareholder–owned entity, it would incur higher costs of borrowing than the Treasury, so the loans going to recipients would have to be at higher interest rates [7].

Therefore, the budgetary and debt impact of federal investment through an NIB depends heavily on its governance structure. Unless the NIB is a shareholder-owned corporation its investment would be included in the federal budget. If it has the power to issue its own bonds and it is not a shareholder-owned corporation, its debt would be on the federal books. In any other case, it would be treated like other federal agencies, funded through appropriations and included in the federal budget. The federal government would have to pay for increased spending which is likely to add to the federal debt.

The mandate of an NIB in practice would also overlap with the mandates of other existing programs. There are two major issues arising from this problem: how would an NIB use the existing agency expertise and how would other federal agencies relate to this new entity? If the sharing-of-expertise is accomplished through detailing personnel from other agencies, the other federal agencies may have indirect control over NIB.

One example is the Transportation Infrastructure Finance and Innovation Act program. TIFIA, which dates from 1998, was created to help finance transportation projects of national or regional significance. The program is managed by the Federal Highway Administration and provides three forms of credit assistance – secured (direct) loans, loan guarantees, and standby lines of credit to a wide range of public and private entities. TIFIA has proven very popular this year with a record 39 loan applications, requesting $13 billion in finance assistance—far more than the program’s $1.5 billion dollar annual budget [8]. The recently-announced National Infrastructure Investments program (also known as the TIGER II Discretionary Grant Program) recognizes demand for the federal finance assistance, allowing up to $150 million of its funds to be used for TIFIA payments [9].

TIFIA is illustrative because it highlights the significant demand for this type of financing tool for infrastructure projects. There are, however, three important differences between TIFIA and the general concept of an NIB. One is that TIFIA is only available for transportation projects and other infrastructure sectors such as water are not eligible. The second related point is that TIFIA is run out of the Department of Transportation and not a stand-alone entity or housed in the Treasury Department, as some have proposed an alternative for an NIB. Third is that an NIB is generally expected to also provide grants to uniquely eligible projects whereas TIFIA is only a credit program.

Lastly, there has been some discussion of an NIB using tax-preferred bonds or federal bonds in order to capitalize the bank. Here there is some overlap with a new federal program known as Build America Bonds (BABs). This committee recently supported a bill to extend that program through 2013. Started up in the stimulus package with issuance expectations of $4 to $5 billion, uptake of this new lower-cost borrowing tool now exceeds $97 billion [10]. While the BABs are very popular they are largely funding local improvements such as school and sewer improvements, many of which would not meet an NIB’s criteria for regionally or nationally significant projects.

Conclusion

A more competitive U.S. economy needs a better infrastructure system. In a time of limited resources, improving the federal investment process should be a priority over finding ways to merely increase the amount of funding for infrastructure.

If designed and implemented appropriately, a national infrastructure bank would be a targeted mechanism to deal with new federal infrastructure spending. An NIB would provide a better project selection process for neglected federal investment in infrastructure, such as capital projects across jurisdictions and state borders, but also there would be more rigorous evaluation of projects across different types of infrastructure.

Yet an NIB is not a silver bullet for dealing with infrastructure reform, either. It would not overhaul the current federal investment, but be limited only to new projects funded through its mechanism. In the end, an NIB should be thought of as a precision tool and not a blunt instrument.

[1] Office of Management and Budget, 2010: Analytical Perspectives, 2009, pp. 36, table 6-2. This does not include spending on community and regional development, because this spending requires finer separation of expenses.

[2] Congressional Budget Office, “Issues and Options in Infrastructure Investment,” 2008.

[3] Emilia Istrate and Robert Puentes, “Investing for Success: Examining a Federal Capital Budget and a National Infrastructure Bank,” Brookings, 2009.

[4] European Investment Bank, “EIB Group: Key Statutory Figures,” 2009.

[5] See e.g.,: National Surface Transportation Infrastructure Financing Commission, “Paying our Way,” 2009.

[6] Congressional Budget Office, “Issues and Options in Infrastructure Investment,” 2008.

[7] The issue of the relative cost-effectiveness to borrowers of the NIB loans being funded through direct federal credit—subject to the Fair Credit Reporting Act—instead of through external sources of debt capital is a more complicated technical issue, outside of the scope of these remarks.

[8] American Association of State Highway and Transportation Officials Journal, “TIFIA Loan Applications Total $13 Billion,” Washington, April 2, 2010.

[9] They are so-named because of their similarity to a program created in the American Recovery and Reinvestment Act of 2009: the Transportation Investment Generating Economic Recovery, or “TIGER Discretionary Grant.”

[10] U.S. Department of the Treasury, “Treasury Releases New Build America Bonds Data,” TG-692, May 6, 2010.