Asia has long suffered with infrastructure inequality, as the region’s poorer nations struggle with constructing essential roads and ports. But the Covid-19 pandemic brought into stark relief the issues in other aspects of infrastructure, as healthcare systems were put under strain and lack of telecommunications systems hampered the move to home-schooling and remote working. As the region emerges from lockdowns, too many countries are still playing catch up in their infrastructure networks.
Jamie Leather, chief of the transport sector group at the Asian Development Bank (ADB), says funding is the answer: “In 2017, we were estimating that Asia needed $1.7tn in infrastructure investment each year. That requirement has not been met. Even then, we estimated it was around half of what was needed to be invested.”
The majority of the investment was coming from government spending.
Sovereign wealth funds
Raising funds to meet long-term infrastructure needs has necessitated some ambitious thinking. The Philippines has stepped forward with plans to develop its infrastructure through attracting foreign funding and permitting foreign ownership of its utilities for the first time. During a visit to London as part of the Philippine Economic Briefing, officials from the administration of the recently elected president Ferdinand Marcos Jr outlined their five-year growth plan. Under the Philippines Development Plan, a significant focus will be modernisation, as 5.6% of gross domestic product (GDP) has been allocated to infrastructure.
At the event, Amenah Pangandaman, secretary of the department of budget and management, said: “There is a focus on physical connectivity and digital infrastructure, along with a push to modernise social infrastructure and healthcare.”
Among these projects are regional specialty hospitals, such as cardiac units and children’s hospitals, as the majority of healthcare services are currently concentrated in Manila.
In order to raise the funds for these projects, the government has looked at creating a sovereign wealth fund (SWF). The Maharlika Investment Fund was proposed in November 2022, with the goal of raising funds for use in infrastructure projects. The fund will launch with $2bn.
Maharlika will use dividends declared by the central bank and government-owned corporations. Further revenues will be raised from the mining sector and the privatisation of assets, including the country’s casinos. At present, the Gaming Commission is running as regulator and operator, with the aim of privatising the operator component. There is also a coal-fired power plant in Mindanao which may be privatised.
[The INA] target investments that deliver not only economic value, but also social value
The SWF is based on the Indonesia Investment Authority (INA) SWF, which launched in February 2021, having received commitments of up to $10bn before launch, with $5bn coming from the government. With the aim of attracting foreign investors, funding came from Singapore’s GIC and Abu Dhabi Investment Authority.
The INA fund focuses on infrastructure and logistics, covering the likes of airports and toll roads; digital infrastructure, covering data centres and broadband services; and healthcare and the energy transition.
Masyita Crystallin, chair of the office of the board at INA, says: “We invest government capital through equity or debt participation alongside leading global and domestic institutional investors, superfunds, and SWFs for optimal risk-adjusted returns.
“The INA can also provide opportunities for global and domestic investors to co-invest alongside it, gain exposure in the Indonesian market, diversify their investments and participate in Indonesia’s strong growth trajectory. We target investments that deliver not only economic value, but also social value; promote environmental, social and governance; and facilitate knowledge transfer,” Ms Crystallin adds.
Financing focus
Even with the advent of new funds, problems remain in enticing investors to add these projects to their portfolios.
Ranjit Lamech, regional director for infrastructure at the World Bank, says: “If you look at a country like Indonesia, there is substantial private commercial financing coming from Singapore-based investors and banks. But the spreads have increased compared to 2021 and early 2022, which makes it more expensive.”
The investment approach is often regionally specific. Research carried out by law firm White and Case in 2021 found that 87% of respondents in the Asia-Pacific region were investing into Asia, while it accounted for only around 20% for respondents in both the Americas and Europe.
In addition, some countries are simply not appealing to investors, while others fail to meet investment-grade standards. There are several challenges to contend with in this space, including infrastructure projects, such as water or rail projects, having revenue streams denominated in local currencies. As Brendan Quinn, partner and head of project finance in Asia-Pacific at White and Case, notes: “This makes it challenging for international banks, which do not have access to local currency deposits, to participate in these deals. This could be addressed through foreign exchange (FX) swaps … or by the granted concessions being adjusted for the debt component not provided in local currency — which justifiably host countries … are cautious about as it exposes them to US dollar currency risk.”
He is cautious of the risks posed by pegging currencies to the US dollar and repeating the same cycle seen with the Asian financial crisis in the late 1990s. At its lowest point in 1998, Indonesia’s GDP dropped by 13.5% and the inflation rate rose to 65%.
The answer may lie in multilateral development banks (MDBs) stepping up. Mr Quinn says: “The multilaterals could look at how to break this cycle and unlock capital. This needs to be looked at in a different way to unlock capital.”
Multilateral response
The MDBs have been modifying their response, but are hitting roadblocks due to how infrastructure debt is categorised. Andrew Cross, chief financial officer of the Asian Infrastructure Investment Bank (AIIB), says: “An ongoing challenge for infrastructure is that it is viewed as a loan product. Much of the savings in the world exist as a bond format within the capital markets. The challenge is how to take the savings from the classic pension funds that are looking for a long-term asset and channel them through a bond rather than a loan.”
Some solutions may come from the MDBs taking a different approach to their position and leveraging their own financial stability.
An ongoing challenge for infrastructure is that it is viewed as a loan product
Domenico Nardelli, treasurer at the AIIB, says: “As a supranational institution, the backbone of our financing is from central banks and other official institutions. But we are trying to expand our investor base. We are seeing good traction with banks given the high quality of our bonds, which are 0% risk weighted and level-1 designated, high-quality liquid assets in most jurisdictions. When it comes to deploying capital, we try to help mobilise private capital through partnerships. We will not shy away from being an anchor investor in specific transactions.”
Mr Cross explains the AIIB has undertaken one project to address specific needs. “The private sector capital mobilisation is a recognition that the pool of savings doesn’t exist for sovereigns. What we have been trying to do is to create instruments. We worked with Bayfront [Infrastructure Management], a vehicle registered in Singapore which buys loans from banks, puts them into a vehicle, and then issues bonds off that.”
Working with Clifford Capital, the AIIB will take a 30% equity split from the platform. Bayfront will facilitate the recycling of capital and liquidity by banks to unlock the required capital, acquire brownfield projects and infrastructure loans from financial institutions, and distribute securitised notes to institutional investors. According to the AIIB, the platform “will benefit existing bank lenders as it relieves their capital constraints by purchasing on-balance-sheet exposures. It also provides global institutional investors with unique access to a diversified project and infrastructure loan portfolio through a new investable asset class that is more accessible.”
Meanwhile, the ADB has the Asia-Pacific Project Preparation Facility, launched in 2016, to target sectors including energy, transport and social infrastructure. Operated as a multi-donor trust fund, finances are distributed by ADB to offer technical assistance to public sector agencies to provide project preparation and structuring, capacity development and project monitoring.
The International Finance Corporation (IFC) operates the Managed Co-lending Portfolio Programme (MCPP), which gives institutional investors the ability to participate in a portfolio of projects in emerging markets. During COP26, the IFC launched a new MCPP facility, ‘MCPP One Planet’, to provide institutional investors with a cross-sector portfolio of emerging market senior loans aligned with the Paris Agreement.
While the IFC operates globally, Asia has seen the largest portion of its investments to date, with the east Asia and the Pacific and south Asia segments accounting for 34% of the overall $60bn portfolio.
Even with greater levels of MDB involvement, Mr Leather cautions they can only have a small impact relative to overall needs. He believes that private investors will need to increase their investments four-fold above current levels in order to meet the overall financing needs of the region.
Mr Quinn says: “What would be good to see emerge is a method where it is possible to tap into alternative sources of domestic debt and equity capital first, in the way Australia or Canada did. Access to superannuation funds was a material driver of Australia’s infrastructure development. [Asian] countries will require further outside funding, which means sourcing US dollar capital without damaging their economies through exposure to US dollar currency fluctuations as against their local currency.”
For projects already in the pipeline, there are considerable pressures now from rising global inflation.
“Costs have gone up on most projects, driven by rising prices of materials and inflation,” Mr Lamech says. “For example, asphalt has increased by 20% and cement by 15% to 20%. Whatever the expectations of costs were in 2021, they’re suddenly much higher. This is leading to a substantial increase to original project costs estimates and plans.”
With the project cost being higher than original estimates, the investors and the project owners are needing to raise additional financing, which can lead to pressure on profit margins, Mr Lamech adds.
Public–private partnerships
Still, the attraction of developing public–private partnerships (PPP) remains, even if not every project has the greatest level of appeal. At the Philippine Economic Briefing, Ms Pangandaman said not all projects in the country will be funded by PPPs and they will be judicious in deciding which projects will be with or without private sector support. “Some may require subsidies if it has a very high internal rate of return, but is not financially viable to investors,” she said.
“If we can identify those projects that would be attractive to the private sector, the government can focus its resources on those that are not attractive at all, such as the social infrastructure developments,” added Ms Pangandaman.
In Vietnam, the renewables space has attracted private investment, although a lot of the funding has been raised domestically from banks and equity investors. Public pension funds are also exploring the opportunities. The country’s first PPP law came into effect in January 2021 — a move that relieves some of the pressure on the country’s finances, with 90% of infrastructure spending having been covered by the government.
The issue of only attracting domestic funding is one that risks being played out across the region. The Philippines will also struggle to meet its goals through local banks, as there is not enough available capital, Mr Quinn believes.
“Accessing alternative debt sources in the Philippines, such as insurance companies or superannuation money or SWFs, could be an option,” Mr Quinn says. “If they could use these funds more like an export credit agency and provide insurance of debt rather than actual debt capital, that may be a more efficient use of this capital.”
One issue holding back developing countries in Asia is the lack of domestic debt capital markets. While markets like the UK, the US and Australia have been able to do a capital markets takeout of bank debt construction financing, it is not an option in these countries. “The only potential options would be 144As or Term Loan Bs, which are in US dollars. This leads back to the cycle of loan currency revenue, and there being no material FX market for dollars in a number of these countries,” Mr Quinn adds.
He points to projects in Taiwan that have tapped into the large domestic insurance companies to raise debt and equity capital. However, there have been issues created by the regulatory framework which strictly regulates the insurance sector.
This is another place where MDBs can go beyond offering purely financial support. The ADB has a dedicated PPP office, which provides support for packaging projects and ensures the required registration and legislation is in place. The office also provides policy and regulatory support.
The AIIB’s Mr Cross says: “Proportionally, the amount of capital that comes from MDBs into emerging markets and infrastructure is much less in absolute terms than the capital that comes from SWFs, asset managers and investors from the private sector seeking yields. PPP is a steady component that has had resonance in some countries. The challenge here is always in the legislative environment in the country.”
Climate impact
A sweet spot for investors and governments alike is renewables. The countries that signed the Paris Agreement have to stand by their pledge, even for developing markets, which puts pressure on the projects they are developing to include both renewable energy capacity and ensure other projects are being conducted to high sustainability standards.
Mr Cross says there has been a fundamental shift in the approach to green projects. “In recent years, there has been a lot of demand placed on sovereign balance sheets away from capital investment into traditional infrastructure, such as road, rail and airports, towards green projects. Renewables are now a core component in infrastructure,” he explains.
Private investors can often deliver on these projects better than the public sector can
Some countries are carving out niche specialties in green infrastructure — as Mr Quinn notes, there has been an uptick in demand for green data centres, which utilise green energy to operate. Singapore has marked itself as a potential hub for such data centres, with demand for offshore facilities increasing as companies look to move their data out of some countries in the region due to security and regulatory concerns.
However, the issue of rising costs have held back some projects. “Private investors are looking for green projects and can often deliver on these projects better than the public sector can,” says the World Bank’s Mr Lamech. “However, key inputs, like solar panels, are becoming more expensive. This leads to questions on how emerging markets might be able to meet their forward-looking green investment plans and commitments.”
Part of the financial process will price in the costs and risk around maintaining a project, as tomorrow’s technologies could make today’s infrastructure obsolete, adding further complications. Factoring this into the project contract can alleviate some of these pressures.
Mr Leather says: “If the returns are not meeting the demands of the investors, then options like annuity contracts can attract private investors. These contracts pay the operator to build and maintain the projects. This helps bring in the investors while spreading the payments and bringing in the private sector efficiencies. The amount of money needed to maintain projects after completion is significant.”
Adopting monitoring systems for renewables schemes may help mitigate some of these issues around maintenance. “Can we apply hi-tech tools and invest in software for a wind farm which can predict maintenance?” Mr Cross asks. “We can use this to accumulate mega data, and use that to predict failures and equipment depreciation in other locations.”
The spectre of climate change is also never far from the minds of those working on long-term infrastructure projects.
“What we’re funding is 25–30-year assets, but with life extensions,” Mr Cross says. “Typically, these assets would face a one-in-a-100-year storm, but now it’s more like one every 30 years. This means the cost of the infrastructure and the maintenance is going up. The work we do is being hugely impacted by climate change.”
