Governments worldwide are looking at investment in infrastructure as an effective fiscal response to stimulate growth. Infrastructure stock that was established in advanced economies in the post-WWII Marshall Plan environment, is ageing and at end-of-life. Governments are today accelerating “shovel ready” projects and legislation is being driven through to enable easing of red and green tape. In advanced and developing economies alike, as the pressure to act increases on governments, a small window of opportunity exists to stimulate economies in a way that rebuilds the core infrastructure through renewing ageing assets while building for the future.

Impact of pandemic on capital structures

COVID-19 has had a significant impact on the infrastructure sector in both developed and developing markets. Although faced with a broadly different set of challenges, advanced economy governments may generate insights from how Development Finance Institutions (DFIs) are reacting to issues in infrastructure finance in Emerging Markets and Developing Economies (EMDEs). Across the East Asia and Pacific our interviews with multi-lateral development banks and institutional investors have identified that this is not just greenfield projects in the process of raising finance that have been impacted, the pandemic is also affecting existing assets. Issues are not limited to transport sector assets, lenders and investors are also concerned with financial risks to businesses operating in energy, water and waste concessions.

Bloomberg Finance has identified that, at the point 90 days from the start of the pandemic, the capital outflow from emerging markets is almost twice that of outflows in the Global Financial Crisis. As the private sector, including commercial financing and private capital investors, withdraws from emerging markets, capital structures are left with local government partners exposed to large foreign currency debt and reductions in project revenues of up to 90%.  There is a clear market sentiment that the worst is yet to come. Although there are concerns, it is likely that water and energy utilities, as well as telecommunications may sustain through the economic cycle with the support of public subsidy and some inherent resilience to economic downturn, although revenue collection risk will increase and potentially increase short- and medium-term borrowing costs.

Globally the financing mix for infrastructure investments in EMDEs incorporates blends of international and local debt, which can give rise to volatility in foreign exchange. Analysis of ratios based on a World Bank study in 2019 across 159 projects globally, amounting to approximately 74 percent of private participation in infrastructure projects by investment value (US$50.1 billion of US$67.5 billion) have revealed a generalised capital structure for infrastructure projects.

Breakdown of an indicative capital stack across Infrastructure projects in EMDEs

Despite the maturity term and overall suitability of infrastructure for bond financing, most privately financed projects in Asia rely heavily on commercial debt from local lenders (Torsten Ehlers, 2014). The traditional capital mix has exposed projects to volatility in the commercial lending market. Demand-side shock is impacting financial covenant provisions such as debt service cover ratio (DSCR) and the triggers for default and drawing of debt service reserve facilities. Investors need to consider the portfolio impact of ongoing debt service obligations on stressed projects, as well as material adverse effect provisions and the potential impact on financial covenants. Governments considering new ways to stimulate private infrastructure investment may give this consideration.

What actions can governments take to catalyse private sector investment?

In developed economies infrastructure finance can include senior debt from institutions, as well as public debt. A strong private equity market can be catalysed by government backed institutions willing to take mezzanine positions in the capital stack – and governments have started to drive blended finance innovations to support increased capital flows. Blended finance certainly has the potential to influence on a range of desired non-financial outcomes.

The Australian Government Department of Foreign Affairs and Trade says that “blended finance, including by using loans, guarantees and equity, and working in partnership with impact investors, is playing an increasingly important role in supporting inclusive economic growth in Australia’s region.” For example, the Australian government’s Emerging Markets Impact Investment Fund (EMIIF) is an innovative $40m fund of funds, seeking to drive investment into a wide range of small and medium sized enterprises and crowd in other co-investors. This fund is proactively targeting advancement of women’s economic empowerment through women-led enterprise, promotion of gender equality in workplaces, or development of products or services that benefit women. The same approach can be applied to infrastructure finance.

How can blended finance influence environmental outcomes?

When it comes to larger infrastructure investments, governments will need to access the full spectrum of measures available to mobilise private capital at scale. From fiscal to process incentives, and it will mean ensuring that public and private sector risk is apportioned appropriately in transactions. For example, shifting development approval risk to a private enterprise is an expensive way to do business when that risk is better managed on the public sector side. It will also mean using all available convening power that the public sector has at its disposal, ensuring a joined up approach to create maximum advantage from infrastructure assets, and bringing in multiple parties around transactions – something Inclusive Growth Finance strongly advocates for.

As convener, Government has the opportunity to create incentives towards decarbonisation of the economy. Establishing a relatively low-cost mezzanine position in airport infrastructure could be a means to tie the operator to reducing the asset’s carbon footprint; improving energy efficiencies in parking bays comes to mind. Green opportunities exist across all sectors, for example incentives and positions in water infrastructure could drive investments in improving waste and non-revenue water use.

COVID-19 has no doubt created substantial impact on the infrastructure sector and on how it is financed, from the disruption of capital formation through to its deployment. However, while the evidence mounts for the down-side, it does present opportunities for public capital to catalyse and incentivise towards inclusive growth outcomes, and areas of public policy previously at the fringes of private infrastructure investment.

Asian Infrastructure Investment Bank. (2019). Bridging Borders: Infrastructure to Connect Asia and Beyond. AIIB.

Carlsson-Szlezak, R. a. (2020). Understanding the Economic Shock of Coronavirus. Harvard Business Review.

Torsten Ehlers, F. P. (2014). Infrastructure and Corporate Bond Markets in Asia. Reserave Bank of Australia.

World Bank. (2019). Private Participation in Infrastructure 2019 Annual Report. World Bank.

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