Wednesday, June 10, 2015

RBA Governor Glenn Stevens bells the cat on infrastructure policy

Many thanks to Bernard Keane and Glen Dyer of Crikey who neatly summarised the political message in Glenn Stevens speech yesterday.

Having outlined the bank's disappointment about private sector investment not filling the gap left by the collapse of the mining boom, Stevens effectively said the solution was in more effective infrastructure spending.

In particular he said "it would be confidence-enhancing if there was an agreed story about a long-term pipeline of infrastructure projects, surrounded by appropriate governance on project selection, risk-sharing between public and private sectors at varying stages of production and ownership, and appropriate pricing for use of the finished product."

In some ways he was reflecting the earlier criticism of the Productivity Commission that there is too much emphasis on big tendered projects rather than ongoing infrastructure programs.

But a "meta-analysis" of the problem comes down to the move over the last twenty years from having Government Departments that had their own construction capability and instead outsourcing the work to the private sector.

The public sector model was criticised for being inflexible (unable to ramp up and down to deal with priorities) and for high labour costs (through sweet heart deals by managers who don't confront market pressure). Both have proven to be spurious.

The "optionality" that was supposedly created by contracting out ignored the fact that there aren't really other activities that can be turned down and up counter-cyclically to a major contract. So the so-called competitive tendering market just includes the cost of this optionality (the cost to ramp up and then close down) for each project. Maintaining a standing workforce and planning projects around the availability of resources turns out to be a cheaper way to do things.

External contracting has been successful in driving down wages, but that hasn't flowed through to cost. Much of our construction industry is now foreign owned and I'm prepared to take a bet that large scale corporate tax avoidance is rife, and probably occurs at multiple levels in the tiered contracting model. So the country is bleeding money with every contract.

I know Stevens talked about "risk sharing between the public and private sectors" - but this is such a hard concept. The only risk the private sector is potentially best at is managing execution risk on the contract - but the game constructors play is to see how much they can interpret out of scope of the original work and then bill as a variation. The alternative of build-operate-transfer (such as the LCT and CCT) fail because the private sector is least well placed to absorb demand forecast risk.

The nature of the problem is now very clear. The destruction of the public sector construction capability is causing lasting damage to the economy.

Unfortunately it isn't doing lasting damage to the law firms, accountants and banks that generate enormous transaction fees from the private sector model. Together they not only constitute the most effective lobbyists in the country, they are also increasingly the source of Government's contracted advice.

It would be hoped that the left wing Think Tanks like the Chifley Research Centre or McKell Institute might find the time to pursue this. Unfortunately, McKell's recent report on Transport Infrastructure didn't dare touch it. Similarly NBN Co never considered the prospect of a direct employment model for building their network.

It is most frustrating that endless repetition of a mantra about the efficiency of the private sector is supported despite all the evidence to the contrary.

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