Tuesday, May 12, 2015

Opening Canada's Infrastructure Floodgates?

Bill Curry of the Globe and Mail reports, Liberals would encourage pension funds to invest in infrastructure:
Enticing large pension funds to spend big on Canadian infrastructure projects will form a key part of the Liberal Party’s cities agenda, which is among the next policy planks that Leader Justin Trudeau will announce in the coming weeks.

Mr. Trudeau and his team of advisers are working on the final details of the infrastructure platform, which the party has long said would form a significant part of its pitch to voters in the October election.

But having decided to largely devote future surpluses toward tax cuts and enhanced direct payments to families, there is little room left to promise major additional spending on infrastructure.

Senior Liberals responsible for the party’s economic policies say the infrastructure component will draw inspiration from Australia and Britain, where efforts are being made to plan infrastructure projects so they meet the needs of pension investors looking for large, long-term projects that are open to private investment.

Liberal finance critic Scott Brison said in an interview that the Liberal plan would not interfere with the mandate of large Canadian pension funds such as the Canada Pension Plan, but would aim to address the reasons these funds are more likely to invest in infrastructure abroad than at home.

“You can respect absolutely the independence of Canadian pension funds to do their jobs – and that is maximize long-term pension security and returns for their members – but at the same time you can package projects within Canada that are attractive to not just Canadian pension funds but global pension funds,” he said. Mr. Brison and Liberal MP Chrystia Freeland met Monday with The Globe and Mail’s editorial board.

While no date has yet been set for the release of the party’s infrastructure platform, the annual meeting of the Federation of Canadian Municipalities is scheduled for June 5-8 in Edmonton and the party would like to have details ready by then to discuss with Canada’s mayors and city councillors.

Mr. Trudeau was also in Toronto on Monday where he delivered a speech to the Canadian Club that promoted the tax policies he announced last week. He argued that taxing high-income Canadians to pay for these measures is a better way to raise revenue than the NDP’s proposal of higher corporate tax rates.

The tax proposals were the first of what is expected to be a series of policy announcements in the coming weeks that will include infrastructure, child care and innovation.

Attracting more pension investment in Canadian infrastructure would require selling Canadians on a much larger role for public-private partnerships than is currently the case. It would also mean going further in a direction that is already preferred by the Conservatives. It is the Harper government that created a Crown corporation – PPP Canada Inc. – in 2009 focused on public-private partnerships for infrastructure. The 2015 federal budget promised a new public transit fund that would run through PPP Canada and would receive $1-billion in annual funding starting in 2019-20.

A 2013 analysis by the Organisation of Economic Co-operation and Development looked specifically at pension-fund investment in infrastructure and compared the Australian and Canadian approaches.

It said Canadian pension funds have been dubbed the “Maple revolutionaries” by the Economist magazine for their expertise in infrastructure investing around the world, but that these funds “bemoan the lack of investment opportunities at home.”

The report said these funds view public-private partnerships in Canada as too small. While Mr. Brison and Ms. Freeland said in interviews Monday they are interested in Australia’s approach, the OECD report questioned whether these policies would be popular with Canadians.

“Australia has a history of privatization over the last two decades, especially in large transport items such as airports, ports, toll roads and tunnels. In contrast, only very few privatizations of public infrastructure assets have occurred in Canada,” it said. “According to observers, there is no widespread political will to do so in the foreseeable future.”

Meanwhile, a 2011 program in Britain called the Pensions Infrastructure Platform that was meant to entice pension investment in infrastructure has run into criticism and has so far failed to meet its initial targets.
So what do I think of the Liberals' new infrastructure platform to entice Canada's large pensions to invest in domestic infrastructure? I need to see the details but one infrastructure expert I contacted told me "the key obstacles to having more pension funds participate in the Canadian infrastructure space are at the municipal and provincial level (not federal)."

However, as I recently stated in a comment on how the federal budget is looking at boosting federal pensions, we desperately need to change the rules to create more PPPs in Canada and get our big pensions on board to invest in these projects.

The Caisse's bid to handle some of Quebec's infrastructure projects will be closely scrutinized to see if it can successfully manage large greenfield projects while maintaining its independence from direct government intervention. There are critics who think the Caisse won't make money off these projects, but that remains to be seen.

The truth is infrastructure projects are exorbitantly expensive and even if you get all of Canada's top ten pensions to invest in domestic infrastructure, you still need massive government investment to finance these projects.

Consider high speed trains. Canada has no high speed trains going from coast to coast. But even if you built one going from Toronto to Montreal, it will cost billions and you still need to price the fares competitively or else people will just fly or take the old railway route. In other words, high speed trains are amazing but at $800 or $1,000 a round trip fare from Montreal to Toronto, you're not going to get the critical mass to finance such a project.

That's why the federal and provincial governments need to be involved. Infrastructure projects are very expensive but there's no denying Canada needs to invest billions to modernize our infrastructure and keep up with a growing population.

This is where pensions can play a critical role. Canada's large pensions have been investing directly in infrastructure all around the world for years. They already own a huge chunk of Britain's infrastructure and are continuously looking to invest in high quality infrastructure assets. This is why the Caisse is chunneling into Europe and why its CEO Michael Sabia has stated they are looking to invest in U.S. infrastructure.

And it's not just the Caisse. Last week, CPPIB announced that it has purchased a stake, worth about $1.6 billion, in two U.K. telecommunications companies. In April, CPPIB bought big stakes in the UK's top ports.

Back in December, Ontario Teachers' CEO Ron Mock stated the plan is seeking foreign investments out of necessity, not lack of confidence in Canada:
The strategy has come with challenges. Mr. Mock said one of the biggest difficulties is navigating the legal systems and governance requirements of foreign countries when buying large stakes in their companies.

Mr. Mock cited Asian companies that have not yet gone public among investment opportunities he’s keeping an eye on. He said the pension fund doesn’t typically make venture capital investments in Canadian companies because those types of investments are generally in the tens of thousands of dollars, while he’s looking to invest hundreds of millions at a time.

“As a fiduciary, we really do have to focus on earning the returns on behalf of the teachers,” he said.

Another opportunity he’s keeping his eye on is infrastructure investments in Europe and Canada. He said pension funds have a role to play in helping Canada address its crumbling infrastructure problem over the next 10 years.

“I think that is a vital opportunity in Canada,” he said.
No doubt about it, Canada's large pensions can play an integral role in funding domestic infrastructure but they have to maintain their arms-length approach in making such investments and not be forced to invest in these projects by any government. 

All of Canada's large pensions are shifting huge assets into infrastructure as they look for very long-term investments with steady cash flows offering them returns between equities and bonds. Infrastructure investments are an integral part of asset-liability management at pensions which typically pay out liabilities over the next 75+ years (the duration of infrastructure assets fits better with the duration of the liabilities of these plans).

The problem right now is there aren't enough domestic opportunities so our large pensions are forced to invest in infrastructure projects abroad. This introduces legal, regulatory, political and currency risks (their liabilities are in Canadian dollars). For example, PSP's big stake in Athens airport makes perfect long-term sense but if Greece defaults and exits the euro, all hell can break loose and the leftist or worse, a junta government, might nationalize this airport. Even if they don't nationalize, if they reintroduce the drachma, it will significantly damper PSP's revenues from this project.

As far as incorporating models from Australia and the UK, I think Australia has got it mostly right. They privatized their airports and ports and Canada needs to do the same to fund other projects. The UK's experience with the Pensions Infrastructure Platform has its share of critics but there have been some big deals there too.

Whatever the Liberals decide to do, their initiative needs to entice foreign pension and sovereign wealth funds as well. It won't be enough to have Canada's large pensions on board. And as I stated above, our governments will still need to invest billions in domestic infrastructure.

From an economic policy perspective, massive investments in infrastructure are needed especially now that Canada is on the precipice of a major crisis. We're living in Dreamland up here and I fear the worst as Canadians take on ever more crushing debt. The country desperately needs good paying jobs, the type of jobs massive infrastructure projects can provide.

Below, the CBC reports that Canadian cities say they need $123 billion to update roads, public transit, and water systems and another $100 billion for new projects to meet growing demands (2013 report). Where is that money going to come from? Our big pension funds can provide some but not all of the funds.

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