Social infrastructure: How to restart private capital investment?
The COVID-19 health crisis has highlighted the chronic underinvestment in social infrastructure around the world. After a long period of neglect, investment needs were already substantial before 2020. Looking at the data available, we find estimates of substantial investment gaps in health and education infrastructure of 0.3-0.6% of GDP in Europe and the USA, about 1.3% in Japan, 0.5% in developing Asia and 1.2% in developing countries worldwide. This is without including long-term care, social housing, disaster management, culture, recreation and other social sectors, and before aiming for the United Nations Sustainable Development Goals.
The global financial crisis and subsequent austerity policies led to a dearth of social investment by the public sector. Over the last decade, private sector investment also declined, with primary transactions in social infrastructure falling from US$19 billion globally in 2010 to less than US$3 billion in 2019, according to the Global Infrastructure Hub’s recently released Infrastructure Monitor 2020. Furthermore, transactions were mostly concentrated in advanced economies, with little private investment in emerging markets.
In future, demographic factors and chronic illnesses will put more pressure on care and health spending. Even with shifting policy priorities post-COVID-19, only limited help can be expected from stretched public budgets. Calls for more private capital investment are increasing, but it is less clear how that can be achieved. Governments worldwide have introduced new infrastructure policy programs and institutions but their focus, so far, has been primarily on economic infrastructure. Institutional investors have also primarily targeted assets in economic infrastructure sectors, particularly transport and energy.
Specifics of social infrastructure assets
Social infrastructure serves different human and social needs and has diverse users, business profiles and contract partners. The assets are typically local and therefore operating under different laws and customs across states and municipalities. For investors, social infrastructure assets can sometimes be too small and complicated, too heterogeneous and illiquid, and subject to political, reputational and renegotiation risks.
What can be done to attract more public and private investors to social infrastructure? The general policy recommendations for catalysing private capital for infrastructure have been well rehearsed. My systematic study looks at the specifics of social infrastructure and provides several key conclusions and recommendations for both policy makers and investors.
How can governments and the financial industry improve?
Firstly, it is clear the public sector will remain the dominant funding and financing source for social infrastructure. However, there is an opportunity to cross-subsidise with connected services, mixing commercial with social housing. Governments need to improve their understanding of what can be funded by users and what needs to be provided by the public sector to support the vulnerable. This clarity in funding will help to facilitate improved financing and investing.
Secondly, much more capital could, in principle, be provided by the private sector for certain segments to alleviate state budgets. The degree of ‘financialisation’ of social infrastructure is a matter of political choice that differs across regions. Asset recycling and value capture can be useful if done in a transparent way. In any case, governments’ infrastructure plans need to be embedded in a proper long-term social policy vision and framework that involves social services experts as well as banks, policymakers and investors.
Thirdly, the global experience shows that matching private capital investors’ expectations with the available assets and projects in social sectors is a bigger challenge than previously thought, even more so in emerging markets. Institutional investors are mostly interested in low-hanging fruit that fit into their mostly low-risk financial objectives and constraints.
Investment strategies to build on
Fourthly, rather than seeking a mythical new financing instrument for social infrastructure, we can investigate what strategies have worked successfully in the past – at least in some place and for some time – and learn from them. In social infrastructure, there are various investment strategies and instruments that can realistically be improved, scaled up and expanded. Here are some examples:
- In today’s low interest rate environment, investors seek real estate like social infrastructure with steady expected income from consumers or hybrid fees, such as student accommodation or other university facilities, care homes, kindergartens, judicial and other public buildings, and affordable housing.
- PPPs/concessions for schools, hospitals and the like, with availability payments, keep emerging in Australia, Canada and other countries, even though they have been discontinued in the UK.
- There is growing interest in corporate investment, for example in health, care and prisons. Arguably, private equity firms’ involvement is controversial, bringing in innovation and efficiency gains but potentially also poor service quality and profiteering. Lessons can surely be learnt, especially now.
- Municipal bonds or other dedicated sub-government debt instruments are well-established in the US and some other countries. The new market for social bonds and sustainability bonds that target social projects is rising fast.
- Increasing numbers of asset owners are trying new funds or direct investment routes into social housing, community projects, city development, etc. Sustainable, impact and SDG investing are gaining traction, opening a new door.
- 'Blended investments' could be used in more ‘difficult’ and higher risk social infrastructure for co-investment with private sector investors (e.g. via some form of state guarantee).
New social infrastructure policy vision
In a nutshell, investors and the financial industry could enhance their capacity in this field, especially now, as they are paying more heed to socially responsible investment. It is worth looking at the full spectrum of possibly cost-efficient investment vehicles, including also listed companies and real estate investment trusts (REITs) that are active in social infrastructure.
The main burden is with governments, and some action could easily get started. For example: strengthen public sector capabilities, not only in central governments but also at the important sub-national levels, where it’s most needed; inspire cross-departmental thinking; include social infrastructure in credible national infrastructure plans, audits and assessments; and work out an investible pipeline for social projects.
Good social infrastructure is critical to the economy and society. Health, education, care, security and public spaces are particularly sensitive areas. The public will insist on more transparency, good governance, clear accountability and visible quality improvements – even more so from private owners and operators of social infrastructure.