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An elevated train line is under construction in Bangkok in this photo dated March 8.   © Reuters
Economy

ADB economist looks to PPP for infrastructure needs

Governments should woo investors with tax reform, other incentives

| China

TOKYO -- Yasuyuki Sawada is the first Japanese national appointed as chief economist at the Asian Development Bank. In an interview with the Nikkei Asian Review, he called for private-sector funding to meet the huge demand for infrastructure in Asia. This could be achieved through public-private partnerships (PPP) and creating frameworks that would facilitate entry of businesses into infrastructure projects. An ADB report released in February estimates that infrastructure needs of developing economies in the Asia-Pacific region between 2016 and 2030 will reach $26 trillion. The challenge is how to finance them. Excerpts from the interview follow.

Yasuyuki Sawada, chief economist of the Asian Development Bank

Q. How should developing countries fund their infrastructure?

A. Our estimate covers 45 countries and regions, including China, India and Indonesia. Their annual needs will exceed $1.7 trillion, including costs to mitigate the impact of climate change. Of the 45 economies, 25 major countries account for 96% of the total population. Together they invest $881 billion per year for infrastructure. That's only about 65% of their combined needs of $1.34 trillion for the 2016-2020 period.

There are several ways to fill the shortfall. Governments could implement tax reforms, such as rationalizing tax incentives and improving tax administration to increase revenues while redirecting budget expenditures toward public investments by cutting wasteful spending. Or governments and state-owned companies could borrow prudently while keeping debt levels manageable. Another way would be to expand private-sector investments in infrastructure. Currently, a majority of investment in this area comes from the public sector, leaving much room for private funding.

Q. Companies don't invest in marginally profitable projects. What's needed to attract them?

A. Project sponsors and investors will invest in infrastructure projects if the risk return profile is in line with their risk appetite. The objective of governments is to develop an enabling framework that enhances project bankabillity and feasibility and improves the business case of infrastructure PPP projects. Our estimates show that there is huge demand for infrastructure development. The private sector is quite interested in investing in power generation, telecommunications and many types of transport infrastructure, including airports, seaports, highways and even railway infrastructure.

Let's say a country embarks on a PPP railway project, in which the government guarantees a minimum revenue. In this scenario, the government will see its debt increase if the project does not generate a higher than guaranteed revenue. To avoid this situation, developing economies need to create favorable investment environments in a broad sense, including a robust project development process that includes stringent feasibility studies. In addition, it is not enough to have legal frameworks in place, such as those to settle disputes between the government and its private partners. Rules for financing and bidding also must be established. The ADB can provide members with investment funds, help them plan promising projects, and offer expertise to improve administrative capabilities.

Q. Can't the ADB extend more loans for infrastructure projects?

A. The ADB has been implementing a plan that increases its loan and grants approval by 50% between 2014 and 2020, and we are significantly boosting infrastructure operations. However, direct support from the ADB and other multilateral development banks (MDBs) account for only about 2.5% of infrastructure investment in Asia. Even with the advent of the Asian Infrastructure Investment Bank, there will remain a large gap between total investment needs and what the public sector and MDBs can finance. Therefore, a new financing framework is needed to channel the world's private-sector funds -- including its massive savings in Asia -- to regional infrastructure.

Many Asian economies have been working to nurture a regional bond market so they can build infrastructure through private-sector projects and issue bonds to privately finance them. We must work harder to create regulations and bond-rating systems to expand Asia's stock and other capital markets. The ADB has furthered this by establishing the Credit Guarantee and Investment Facility to guarantee corporate bonds issued by businesses from ASEAN+3 -- the 10 members of the Association of Southeast Asian Nations plus Japan, China and South Korea.

Q. Will the Asian economy lose momentum if it fails to build infrastructure in line with ADB estimates?

A. Our estimates of future infrastructure investment needs rely on projections of GDP per capita from 2016 to 2030, among othe factors. Lower economic growth will therefore imply lower infrastructure needs according to our model. However, these infrastructure needs reflect both a "casual" relationship between infrastructure and economic growth, as well as the fact that at higher income levels, citizens demand better infrastructure services. What this means is that it is likely that economies will lose at least some growth momentum if they do not build infrastructure. When the ADB released a similar report in 2009, Asian infrastructure needs between 2010 and 2020 were projected at $750 billion a year. Our latest estimate is more than double that due to a number of factors. One, the new estimates have increased because GDP per capita levels up to 2030 will be higher than those projected up to 2020 by the earlier study, thereby requiring more infrastructure. Also, costs have risen to account for the impact of climate change. Prices have also risen. Lastly, the economies covered by the estimate have expanded from 32 to all 45 developing members of the ADB.

Q. Termed "factories of the world," China and Southeast Asian countries have been incorporated into global supply chains and prospered thanks to expanding free trade. But protectionism is rising in the United States and some European nations. Is this worrying for Asian economies?

A. Policy uncertainties in advanced economies may affect Asia, but they're not as worrying as before. China's growth has slowed, but it's still over 6% and stabilizing. Growth will continue in the long term for the entire region. This means infrastructure projects will be highly profitable. The private sector has a great deal to gain.

Asia is already the center of the world's manufacturing industry and also has an expanding consumer market. An economist at the Brookings Institution estimates that about half the world's middle class -- people who spend between $11 and $110 per day -- live in Asia. Asia's economy will become more autonomous once the cycle of producing and consuming regionally takes root. What it lacks is global brands. Many European and U.S. apparel brands have factories in Asia, but there are few global brands based in the region. There are, however, signs of change. Lately, for example, we've seen retail and hamburger-shop chains from the Philippines opening outlets in other parts of Asia and the West.

Interviewed by Nikkei senior staff writer Kazuki Kagaya

Yasuyuki Sawada assumed chief economist of ADB on March 1. He is also the chief spokesperson for ADB on economic and development trends. Prior to that, he was a professor at the University of Tokyo's Graduate School of Economics. He has worked at the ADB Institute in Tokyo and served as consultant for various projects at the World Bank Group. He holds a Ph.D. in economics and a master's degree in international development policy from Stanford University.

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