Download Infrastructure holds Europe`s untapped potential

FINANCING EUROPE’S FUTURE
Infrastructure holds
Europe’s untapped
potential
Not all were convinced by the Juncker Plan, recalls
Linda Yueh, but patterns are showing that infrastructure
may indeed be the best place to put your money
T
he European Fund for Strategic Investments (EFSI),
commonly referred to as the Juncker Plan, is off to a good
start, stimulating pledges from not only European but also
non-EU countries like China.
The plan is to raise a considerable sum of €315bn over three
years by working with the European Investment Bank (EIB), which
will issue bonds to finance projects that develop energy and other
infrastructure projects, as well as improve funding for SMEs. This
is indeed the right way to leverage a relatively small sum into an
ambitious pool of money. In detail, the EU has itself invested €8bn
on top of an existing €8bn budget as well as a further €5bn put
in by the EIB. The top AAA-rated EIB can then issue bonds, taking
advantage of record-low interest rates, to leverage the initial €21bn
into a fund large enough to make a difference in jump-starting
European growth.
The EFSI ambitiously seeks to encourage private companies to
make the investment, thereby largely reducing the impact of the
plan on government fiscal positions. But that means a reliance on
public-private partnerships, which have a mixed record when it
comes to maintaining long-term infrastructure projects such as
railways. Nevertheless, the debate over whether governments
should be borrowing so as to invest is a separate one.
Linda Yueh
is Adjunct
Professor of
Economics
at London
Business School,
and Fellow at
St Edmund
Hall, Oxford
University
The focus on investment, with the usual caveats, should be
welcome in Europe. After all, it’s well established that rich
countries could use a rejuvenation of their infrastructure. During
the last recession, it was public investment that was slashed as a
part of austerity programmes, bringing large hits to infrastructure.
Investment in the eurozone is still around 15% below its pre-crisis
level. Yet ratings agency S&P have estimated that a 1%-of-GDP
increase in government spending on infrastructure would translate
FINANCING EUROPE’S FUTURE
into a bigger bang, increasing the eurozone economy by 1.4%.
Their estimate is even bigger for rich countries like Britain, where
GDP would expand by 2.5%. The OECD goes further to stress that
increases in public investment would boost economic growth and
thus cut government debt.
So why has it been so difficult to raise investment since the crisis?
The main constraint has been the imposition of fiscal austerity by
governments that have been too focused on the budget deficit.
It’s only in the very recent past that economic growth has come
back into focus. That largely explains the public side, but private
investment has also dropped sharply since the recession. German
companies, for instance, have doubled their retained cash in the
past decade, and others have followed suit. The puzzle as to why
these companies don’t invest is key to understanding how one of
the pillars of growth hasn’t delivered during the recovery.
Government and consumer spending were hit hard and slow
to recover, leaving deficient demand, both public and private,
that hasn’t given companies the impetus to invest. The sharpness
and the duration of the Great Recession also created uncertainty
over whether or not to commit funds for investment stretching
well into the future. European economies are now largely back on
their feet. And the recent focus on growth not just by the European
Commission but also national governments offers more opportunity.
The opening up of strategic sectors like energy to private investors
could offer stable returns at a time when it’s challenging to put your
money to work.
The low returns of the post-crisis environment affected
infrastructure investments because there were other, more enticing,
places to put your cash. Stocks, for instance, were pushed to sky
high levels by cheap money and zero interest rates across major
markets such as Germany’s Dax. But global stock markets are
now deflating from their heady heights while interest rates are still
rock bottom in Europe, so fixed income investments continue to
generate low returns.
And there’s now an uncertainty from the divergence between
the tightening, or normalisation, of rates in America while the
European Central Bank continues to inject cheap cash and has
even set negative deposit rates for the banking system. This makes
an investment with fixed returns, such as in infrastructure, relatively
more attractive. Traditionally, investing in roads or energy doesn’t
reward a high return though does tend to be stable. Usually set by
regulators, yields from infrastructure such as utilities and toll roads
Europe’s World
Summer 2016
|33
FINANCING EUROPE’S FUTURE
range from 3-4%. In the current low-rate environment, that’s not a
bad return.
Indeed, BlackRock estimates that insurers are putting 15%
of their investment portfolios, double the pre-crisis figure, into
infrastructure. And they’re not the only ones. Chinese businesses
have also recently invested in European utilities such as water for
a predictable long-term return. There are, then, good reasons
to have confidence in the Juncker Plan. Aside from China, other
countries such as those in the Middle East as well as private
companies sitting on cash may well consider putting some of their
funds into Europe.
There’s no shortage of projects being proposed by EU member
states for investors to choose from. The potential gains from the
investment may well outweigh the downsides of public-private
partnerships at present. Another upside is how much the European
economy could be boosted by greater investment. Growth in the
world’s largest economic entity would undoubtedly be welcome to
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the rest of the world.
34| Summer
Europe’s World
2016