It is now widely accepted that infrastructure investments have been one of the main drivers of China’s rapid economic growth. What have been its financing sources? Who have been the major infrastructure developers?
A macro-level explanation points to the savings and investment rate in the mid-forties as a share of GDP for a long period of time, and a repressed financial system where directed credit flows have been the norm. In fact, the recent reduction in infrastructure investments in an effort to rebalance growth and slow down debt accumulation is often raised as a reason for the recent slowdown in the country’s growth rates.
The financing has come from a combination of budgetary support, directed lending by public sector banks, off-balance-sheet bond issuance by local government financing vehicles (LGFVs), and long-term land leasing by provincial and local governments. The major share, over three-fourths, of resources, have come from self-raised funds of local governments through retained earnings from local government’s state-owned enterprises (SOEs), land leases, and LGFV debt. The shares of both private and foreign capital have been negligible.
Further, most of the infrastructure contractors have been large state-owned companies. The land has been central to the Chinese infrastructure investments. It has formed 30-50% of the total revenues of local governments, besides being used as the main collateral to raise debt through LGFVs.
Interestingly, despite its scale and long duration, the infrastructure investments, while undoubtedly a contributor to the debt bulge, have not been accompanied by defaulting projects, or bad bank loans or fiscally strapped governments. It can be partly traced to the pattern of financing – 16% of which is estimated to have come from budgetary grants, 54% from equity provided by local governments and their agencies and state-owned enterprises,
and the remaining 30% from debt offered by domestic banks and bonds issued by LGFVs.
The retained earnings of SOEs, many local government-owned, has formed over half the gross domestic savings, at more than 20 per cent of GDP. Land leases have been another major source of finances. Finally, extra-budgetary resources in the form of user-charges, levies and surcharges have been another source of equity capital. Most often the debt is raised through land lease proceeds as the collateral.
The combination of all these sources enables a form of blending that ends up appropriately distributing the burden of financing infrastructure among the governments, SOEs, banks, and private investors. It ensures that the banks and investors get their money back, equity holders, The combination of all these sources enable a form of blending that ends up appropriately distributing the burden of financing infrastructure among the governments, SOEs, banks, and private investors. It ensures that the banks and investors get their money back, equity holders, especially the local governments, get some but less than commercial returns, and the consumers are not over-burdened with too onerous user charges.
However, in recent years, the build-up of debt among the LGFVs is a matter of big concern. Further, real estate’s critical role as a direct (long-term leases) and indirect (collateral for loans) source of capital for local governments has meant that efforts to deflate the property bubble risk triggering local government financing troubles.
The public sector driven nature of the infrastructure investments naturally raises questions about their cost-effectiveness and relevance, besides the associated surge in off-balance-sheet public debt.
While for a country of its size and growing at that pace, there will always be the build-it-and-they’ll-come share of investments. But studies now appear to indicate that these investments have been associated with inefficiency and waste.
One study has found that “for over half of the infrastructure investments in China made in the last three decades the costs are larger than the benefits they generate, which means the projects destroy economic value instead of generating it”. It also found that “there was a 31% overspend on these projects on average”, and “three-quarters of the projects in the study suffered cost overruns”. This points to the Chinese infrastructure investments being no less immune from the problems that afflict large projects.
Gulzar Natarajan is an IAS Officer. Views expressed are personal.