What is the government's job in infrastructure?

The government’s job in infrastructure is to ensure the right infrastructure is delivered by the right party at the lowest cost.

I chose each of the underlined words quite carefully, so in the rest of the article I'm going to explain what I mean by each. 

The right infrastructure

The right infrastructure means that it is the right stuff in the right places and built to the right design standards. By right, I don’t mean some sort of “international best practice” right, I mean right according to the society that the government represents. 

If the society wants a road, and they want it enough to forgo the other things that they might otherwise spend the money on, then the government should give them a road that meets their needs (subject to their budget constraint).

While the road should meet society’s needs, it’s also important that it’s not over-engineered, or “gold plated.” In Australia that might mean the seats on a bus will be padded, and wide enough for an average Australian rear end, while in Indonesia, it might mean they are hard plastic and wide enough for an average Indonesian rear end. Giving everyone first-class aeroplane seats on a commuter bus might be comfortable for the passengers, but it most likely wouldn’t represent the best use of society’s resources.

 

Societies are made of up people with different preferences, and some might want fancy chairs, while others would prefer a cheaper solution and are happy for everyone to ride on hard wooden benches to get it. Picking a level of service is always going to upset someone, but generally, when governments do it, they are trying to achieve some sort of middle ground that makes the least number of people (or the least number of people they care about) unhappy*. That’s generally as close as you can get to the ideal of the right infrastructure.

The right party

In a modern, open economy, people get their services through a range of delivery modalities, including:

  • fully government, in which the government is wholly responsible for the delivery of the service. Imagine a government building a road with equipment and materials it owns directly using its own employees. A more common example would be the core functions of the military.
  • government contracted, in which the government contracts for the delivery of the services. This could be a government hiring a contractor to improve a road on a 6 month contract (a common type is an EPC contract), or one to build, operate then transfer a port as part of a PPP on a 50 year concession.
  • government regulated, in which the government doesn’t own or contract anything directly, but generally oversees the provider, or providers of the service. This encompasses a huge range of models. Some examples are below:
    • Heavily regulated: A fairly closely regulated example is in the New Zealand power sector where the Electricity Authority creates the market rules, enforces them, and monitors performance. 
    • Loosely regulated: Businesses like management consulting firms are generally quite loosely regulated. They still need to comply with laws and regulations surrounding the general practice of business, hiring, firing, workplace health and safety, taxes and so on, but there aren’t many specific regulations targeting the industry. Note that this can vary depending on the kind of advice being provided, for example, tax and financial advisers have more stringent guidelines than strategy advisors (or economists).
    • (almost) no regulation: Businesses like kaki lima (roaming street food vendors) in countries like Indonesia. In Indonesia, technically they’re meant to have licenses issued by the local Camat, but many don’t. Even if they do get licenses, they’re still exempt from many other regulations by virtue of their size. And, even if they’re not exempt, in practice, no one is going to check whether a kaki lima vendor is paying her employees properly**. Even so, it's not strictly accurate to say that they are not regulated.
 A lightly regulated industry  Image source:  Wikimedia

A lightly regulated industry

Image source: Wikimedia

These delivery mechanisms are not mutually exclusive. There are plenty of industries where the government uses all three delivery mechanisms. In Australia, local councils own childcare centres, contract private parties to deliver childcare services, and oversee compliance with regulations for fully private providers. In Indonesia the government owns and operates hotels, and regulates private providers within the hotel industry.

What I’m getting at by describing all of these delivery mechanisms is that, in most cases, it shouldn’t matter who it is that provides the service, as long as it gets provided well. Governments should look at all the pros and cons of all of the different delivery models for the service they need and make a choice on that basis.

The lowest cost

By “the lowest cost” I mean that I don’t want to pay any more than I absolutely have to for my right infrastructure***. When I talk about paying, I mean either directly through user charges, or indirectly through government spending money that they might spend on other things that I want for society.

If the government is operating a water network and the private sector could do it to the same or better standards at a lower cost, then I want government to either match that cost, beat it, or hand the project on to the private sector and act as regulator.

Similarly, if a private operator of an airport is abusing their market power to charge exorbitant parking fees, then I want the government to step in to penalise them for it.

When contemplating engaging the private sector in the delivery of infrastructure services, it’s generally considered good practice to develop what’s called a public sector comparator (PSC). A PSC compares the cost of public provision with the cost of private provision, taking into account the upfront and ongoing direct financial costs, economic costs or benefits, risks that could be transferred or retained, and competitive neutrality (which I’ll come back to in a later post). If a private option is cheaper than the government provision, then you go ahead with the private option, if not, stick with government.

Conclusion

So, the governments job is to give us the right services, cheaply, by whatever means creates the most value to society. 

The process that governments go through to determine that they are ensuring the delivery of the right infrastructure at the lowest cost is not a linear one. You can’t just go through and try to answer the question of who should be delivering in isolation of the design and cost, and vice versa. In the delivery of a major project, there are typically years of work going through multiple cost estimates, evaluating different delivery mechanisms and engineering solutions, all feeding in to the coordination process that, ideally, produces an outcome in line with what we want from our governments.

An interesting approach to making the process of delivering infrastructure is more transparent has been pioneered by the Department of Treasury and Finance in the State of Victoria, Australia and is called the Investment Management Standard. If you’re interested, you can read about it more here.


*Considerations of access are an example where it's generally considered good practice to not weight all individuals' preferences equally. Ensuring wheelchair accessibility for things like public transport is a significant additional cost and is only required by a tiny minority of the population. However, as societies get richer, they increasingly feel like this is an appropriate cost burden for society to carry for the sake of this minority.

**It’s not all good by any means. The lack of regulation is accompanied by a lack of protections as well. Informal sector actors have little recourse if they are shaken down by local criminals (or government representatives), or if they get hit by a car, etc.

***My desire for low costs is, of course, in direct conflict with my desire for good services. The best outcome will be an optimisation of both.