I note that the House held similar hearings in 1996 and covered many of the issues that our Commission had looked at as well, particularly the matters surrounding the decline in infrastructure spending in this country. Our conclusions were as follows:
There is a wide gap in the level of current public infrastructure finance and projected needs. Capital-intensive, long-term projects with histories of federal and state grant financing--particularly environmental projects--face immediate financial shortfalls.
[In the aggregate, federal spending devoted to infrastructure investment as a percentage of gross national product has declined steadily for a quarter of a century.]
Current infrastructure finance programs--government grant programs, the tax-exempt bond market, government tax programs--can be strengthened and made more effective.
The relative complexity, tax status and other factors currently make infrastructure investment unattractive to certain institutional investors, including pension funds.
New financial structures and federal leadership will be vital in any new, sustainable effort to fund the nation's infrastructure needs.
New communities of interest among various levels of government and the private sector are necessary to raise the priority of meeting the infrastructure challenge and to facilitate the flow of new sources of capital into infrastructure development.
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Our Commission held seven public hearings in the Fall of 1992 with 46 witnesses from various financial institutions, development firms, pension funds, project sponsors, and public officials. Our report was submitted to the President and Congress on February 23, 1993. We have briefed the leadership of Congress and the Chairmen and Ranking Members of the appropriate committees. We are excited that our recommendations will be considered in-depth during the course of the review of the ISTEA legislation this year.
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Public sector spending on infrastructure in America amounts to more than $140 billion annually. Projections of the shortfall range from another $40 to $80 billion annually to meet critical infrastructure needs. The U.S. Environmental Protection Agency alone projects the need for $200 billion in new finance over the next decade to bring communities into compliance with existing federal mandates for clean water and clean air.
Traditional sources of infrastructure finance--government grant programs, tax-exempt bonds and private capital--all face serious impediments in filling the gap. Grants do not leverage enough project activity and the Commission found little indication that general tax increases of a magnitude sufficient to meet forecasted infrastructure development needs are likely to be forthcoming from federal, state and local sources.
Current provisions of the tax code discourage private capital flows into infrastructure development. State and local governments seeking to expand issuance of tax-exempt bonds for new infrastructure are hampered by federal laws, difficulties in finding new revenue sources, obtaining satisfactory credit ratings and limited enhancement alternatives. Project developers face procedural impediments ranging from extended permitting periods to a tight construction lending market.
Current infrastructure finance programs can be strengthened and made more effective. But as federal monies for grant programs become increasingly inadequate, states and localities will require self-renewing sources of finance built on access to large pools of capital, such as the six trillion dollars offered by institutional investors, including pension funds. For many projects, however, particularly projects with the potential to be self sustaining, but which fall into lower credit categories in the early years, access to these large pools of capital will require application of new financing techniques.
The Commission to Promote Investment in America's Infrastructure has three major recommendations to develop new financing options to facilitate access of these projects to large pools of capital:
1) Establish a new, federally-chartered financing entity, a national infrastructure corporation.
2) Crate new investment options for institutional investors, including securities issued or guaranteed by the corporation.
3) More consistent, uniform federal policy treatment for private investment in infrastructure development.
These three recommendations are outlined more fully in Addendum A.
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The new national infrastructure corporation would offer credit enhancement through a guarantor subsidiary, subordinate loans and other financial assistance through a lender subsidiary and development phase assistance through insurance-type arrangements. The Commission estimates that each new one billion dollars of federal capital in the corporation has the immediate potential to prompt $10 billion in infrastructure project activity.
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In the second phase, when the Corporation has established an operating history and begins issuing infrastructure securities to pension fund and other investors, each one billion dollars of federal infrastructure money would have the potential to leverage $18 billion or more in new infrastructure project activity. If Congress devotes one billion dollars annually to this vehicle for five years, the federal government would build a self-renewing source of finance with the potential to leverage up to $100 billion of infrastructure projects.
These estimates build on the recommendations adopted by the Commission after reviewing a decade of studies on infrastructure needs and hearing testimony in public hearings in 1992. The alternate financing mechanisms that emerge will supplement existing grant and tax-exempt bond finance programs and attract the tens of billions of new dollars annually needed to finance the future infrastructure of America. While the actual leverage ratios will vary according to assumptions on minimum capital criteria and other factors, the Commission found a clear possibility to leverage federal dollars in a self-sustaining program.
As the six trillion dollars in assets held by institutional investors continue to grow. the Commission found that investors will seek additional investment options. New investment opportunities in infrastructure projects, where pension funds now do not invest, can further diversify the investments that currently make up their portfolios.
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It was pointed out that, the United States was the only nation in the world to provide for a municipal bond/tax exempt approach - with a federal tax subsidy--for infrastructure. Through this historical devotion to grant programs and municipal bond finance - which moves exclusively through the political process - we have inadvertently prevented the private sector from playing a role. What is that role? It is taking risk, it is introducing new technology, and it is providing alternative innovative financing. Most importantly, there is private capital available with a willingness to invest in suitable infrastructure product if available.
Our over arching goal is to "grow the pie". This is not an either/or but rather an additional outlet on the financing artery of infrastructure. One of the reasons that American pension funds can invest in products overseas in China and elsewhere is that there is a global tradition of project finance. What we need in this country today, is that same product deriving from that same discipline. Since we have never taken the time to design an infrastructure product for this vast resource of capital, it has looked for its investment opportunities elsewhere.
American institutional investors want to invest in their own nation's infrastructure; but they are limited in that option because we have not, to date, responded to that interest. Colorado's public employee retirement system testified as to their trustees desire to have 20% of their assets invested in Colorado--but they were only at 7% and had exhausted what intra-state infrastructure opportunities existed. They heartily endorsed our recommendations as a way to increase the supply of infrastructure investment opportunities in Colorado. The same story occurs in every state in America. That is my underlying message here today.
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The issue is not on the pension fund side, it is on the product side. What is needed in terms of the federal and state government activity is to address the availability of development risk insurance and user fee (project revenue) re-insurance as a credit enhancement through the National Infrastructure Corporation to get the product to the marketplace prior to actual construction. The financial institutions will do their own due diligence and will make the investments accordingly stimulating over time the creation of a new, liquid market in security instruments that are also attractive to pension fund investors. These would be at non tax-exempt yields sufficient to attract such investment since pension funds are already tax-exempt and will not purchase municipal bonds. We provide risk insurance for American investment abroad through the Overseas Private Investment Corporation, and now through the Export-Import Bank, it is time to do the same in our own country.
While transportation might be the leading edge for our proposals--they do incorporate other infrastructure usages and legislation should not be generically exclusive but rather focus on the marketplace and new ideas that can evolve throughout the infrastructure finance spectrum.
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During the course of our hearings, I was struck by the fact that one witness, Bill Chew from Standard and Poor--a nationally recognized expert on bond ratings made the comment that what we were doing reminded him of PURPA, which stands for the 1978 Public Utilities Regulatory Policy Act. The Act spawned the independent power/cogeneration industry at a time when virtually all power plants were "built" by utilities. The perception was that no one else could do it. Today we find that the bulk of our power plants will be built and owned by independents injecting new technology and private capital. It is an interesting analogy and one I am personally familiar with having led the 1992 Energy Policy Act reform effort.
Private capital has the attribute of encouraging entrepreneurs, now strangers to our nation's regulated infrastructure. While the best at infrastructure systems management, the United States is falling behind in infrastructure technology according to recent studies. There has been this discussion of public/private partnerships which emanate from our report. Real benefits will come from a marketplace approach that will provide intrinsic competition to the existing infrastructure networks and, in the long run, elevate infrastructure finance to a higher standard of fiscal integrity, i.e., you will not be able to finance the project with private/public investment if the deal doesn't make sense.
Our recommendations have no real opposition. We have put together suggestions that have been very well received. Additionally, there is nothing--but lack of market experience--that precludes the private sector from pooling their resources and developing similar tools to these recommended here for the federal government. The private sector can eventually follow suit and form private development risk insurance companies, credit enhancement facilities, etc. And they will, supplementing the federal effort which could then be privatized. The federal government, as a result, should take the initiative here in the context of leveraging the federal dollar. A modest stipend for this activity on the federal side will multiply to a significant extent what the federal dollar can do through the State Infrastructure Banks (SIBs). In truth, you can more readily address the needs of the inner city and rural America by bringing on this additional capacity of user fee application. You do grow the pie.
Years ago, I had the pleasure of knowing Mr. Ray Lapin, a fellow San Franciscan, who had been the head of Federal National Mortgage Association (FNMA) in the Johnson Administration and while there, established the GNMA program. At the time I had just returned from Naval service in Vietnam and was a young investment consultant working with pension funds around the country. Ray and I were talking about this activity back in our own home town; and he noted that GNMA's would be the perfect investment opportunity for pension funds. Mind you this was in 1971. No one knew what a GNMA was in those days and of course the rest is history. I have explained many times, that what Ray lapin had in mind with GNMA for housing--we must find something similar for infrastructure.
There are numerous public-private partnership possibilities across the land, e.g., rebuilding bridges, that can stand the test of a time-certain user fee and/or enjoy a funding scheme allocated over a 30 year depreciation period based on "sale/lease"/techniques. The point, as always, is that we must do more. We cannot afford, as a nation, to freeze out the vast resources contained in America's institutionally managed accounts, particularly the pension funds. The Infrastructure Investment Commission was created with this challenge in mind.
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National Highway System Designation Act of 1995
Innovative Finance Provisions
A number of the innovative financing provisions have become available to States as part of the regular Federal-aid program. These changes in Federal-aid financing are the result of the Innovative Finance provisions of The National Highway System Designation Act of 1995 (Public Law 104-59).
State Infrastructure Bank (SIB) Pilot Program
Through the SIB Pilot Program, up to 10 States may test the use of SIBs as a means of increasing and improving both public and private investment in transportation. Pilot SIBs will be able to provide loans, enhance credit, serve as capital reserves, subsidize interest rates, ensure letters of credit, finance purchase and lease agreements for transit projects, provide bond or other debt financing security, and provide other forms of assistance that leverage funds.
The U.S. Department of Transportation can approve an application for advance construction for reimbursement after the final year of an authorization period provided the project is on the State's transportation improvement program (STIP). This change also provides greater flexibility to States to engage in advance construction using their anticipated apportionments.
Bonds and Other Debt Instruments Eligible for Reimbursement as Construction Expenses
States can be reimbursed with Federal-aid funds for bond principal, interest costs, issuance costs, and insurance on Title 23 projects. To date, Federal-aid funds have been limited to bond retirement costs on certain categories of projects, and interest costs were only eligible on some interstate projects.
Federal Share on Toll Projects
This provision sets the Federal share for toll projects on highways, tunnels, and bridges at a maximum of 80% of eligible costs. Up until now, the Federal share for toll projects has varied from 50% to 80%, based on activity and system designation.
ISTEA Section 1012 Loans
States can loan Federal-aid funds to tool and non-toll projects with dedicated revenue streams. A loan can be made for any phase of a project including engineering and right-of-way work. A loan is not required to be subordinated to any other debt financing. Interest rates on loans may be at or below market rates. Loan repayments can be used for various credit enhancements.
Matching Credit for Materials or Services Donated to Federally Assisted Projects
This provision allows private funds, material, or assets to be donated to a specific Federal-aid project and permits the State to apply the value to the State's matching share. To date, States could only receive credit for State and local funds or for donations of private property incorporated into a Federal project.