Not Your Father’s Infrastructure (Part 2) — Implications for Policy Makers

Not Your Father’s Infrastructure (Part 2)
Implications for Policy Makers

The world of infrastructure is changing more rapidly than ever before, as discussed in Infrastructure Ideas’ previous post (Not Your Father’s Infrastructure, Part 1). This is the result of the penetration of disruptive technology into sectors which had previously been insulated from it, and the changes observed so far – mainly in energy markets – are only the beginning. These changes have major implications, both positive and negative, for all infrastructure actors. This post will explore some of the implications for policy-makers; subsequent posts will explore the implications for companies, and for infrastructure investors and lenders.

For policy-makers, rapid change affecting infrastructure services carries a wide range of benefits and challenges.

The overarching big benefit for policy makers is that infrastructure services – at least those affected by new disruptive technologies – are getting cheaper. Much cheaper. It is difficult to understate how much this is worth. With the ability to add new electricity generation capacity at 3-4 cents per kilowatt hour (the end of result of the large majority of all renewable power auctions in the last year) with greenfield solar or wind, compared to 7-8 cents for greenfield coal plants, countries can dramatically reduce power costs. This quite new (and still growing) generation cost advantage comes on top of already known advantages: solar farms can be brought online in less than half the time of thermal or hydropower plants, they can be located more flexibly close to load centers, even small decentralized demand areas, and they pollute less. Cheaper and more accessible natural gas is also allowing countries to reduce cost volatility associated with oil-fired generation, and to reduce local pollution from coal-fired generation as seen in China.

Newly emerging energy technologies – battery storage, better distributed generation, smart grid or Internet of Things tools – have similar positive implications for policy makers: the ability to deliver energy cheaper, more flexibly, and with fewer negative externalities than before. The attendant benefits to users – whether retail consumers who get cheaper and more reliable energy, or industrial customers who become more cost-competitive – are the kind of benefits which get incumbents re-elected. And now newly emerging transport technologies stand to offer the same type of benefit to policy-makers in the coming years: better delivery on the demand of constituents for quality infrastructure services. The lack of good services – too high costs, insufficient accessibility and inconsistent quality — have played important roles in recent elections in Mexico, Indonesia, Nigeria and India, among other places. Along with fiscal advantages of reduced fuel imports, and political advantages from enhanced energy independence or reduced unrest from air quality problems.

There is no free lunch, however. All of these upsides are real. But for policy-makers, there are attendant downsides from the arrival of these disruptive technologies. A small catalogue would include:
• How to do this? By definition, disruptive technologies are new. Understanding options for a country, and how to implement chosen options, is all new. It requires significant learning for policy-makers. And the newly emerging technologies, while still promising enormous benefits, are progressively more complex than were wind and solar to properly assess. Energy storage, for example, adds value in multiple different applications, and deployment presents a much wider set of options than do solar panels.
• Getting it wrong. An obvious corollary of complexities in decision-making is that it is easier to make the wrong decisions. Paying too much and locking in the wrong costs can quickly open all sorts of new headaches, as several countries – Spain, Germany, Bulgaria among others – discovered with renewable energy.
• Getting left behind. With rapidly declining energy costs for successful adopters, failure to engage with the new technologies risks declines in cost competitiveness – and from there job creation. Opportunity costs get big quickly. This dynamic was already highly visible in the 2012 Mexican election, where reduced natural gas prices in the US – largely driven by technology improvements — had begun to affect Mexico’s cost competitiveness and employment levels. As more and more countries adopt cheap power sources, the risks of the laggards falling behind competitively increases.
• Getting stuck. Like all large-scale changes, declining infrastructure costs will create losers. Given the outsized importance of infrastructure and energy costs in all economies, the entrenched interests and beneficiaries from high-cost infrastructure are politically powerful actors everywhere. Their ability to block reforms, distort perceptions, and sidetrack deployment of new technologies, is a major execution risk for all policy-makers.
• Getting stuck at stage two. It is clear that the cheapest sources of new generation capacity in the future will be wind and solar. So there is, or will be soon, an incentive for all countries to have as great a share as possible of generation in these low cost technologies. Yet their intermittency poses obvious problems. Analysis varies as to how much intermittency a grid can support, and in turn this varies country by country, but at some point every country will face the issue of being unable to absorb more cheap intermittent power. Solutions seem to be growing – grid enhancements, and new energy storage technologies at the forefront. But this is a clear issue, whether present or future, for policy-makers.

What should policy-makers do, to win from the benefits of disruptive infrastructure technologies, and not lose to the obstacles they face? The situation will clearly differ from country to country, in many cases from city to city, and from technology to technology. But some elements will consistently matter, if policy-makers are to help countries get better access, faster access, and cheaper access to infrastructure through the new technologies. Here are a few recommendations:

1. Engage. Engagement with new technologies will be imperative for all countries, as argued above. The complexities may look overwhelming, the risks high, but the opportunity costs – and the risks of getting left behind – are higher.
2. Learn fast. There is a lot to learn – ever more so as new technologies emerge and mature – but political cycles are short. A new government which spends an entire term getting up to speed is a government that will have nothing to show at the next election. There are sources of expertise: consultants such as McKinsey and PWC, among others, and specialized firms; the Multilateral Banks, like the World Bank Group, are good neutral sources of advice. Workshop formats can help policy-makers gain understanding and key inputs into decision-making. Learning from others who have already engaged successfully is another time-honored approach – copying is generally far cheaper than inventing — and one we can see being used effectively in particular in a number of city networks. But engage quickly. When it works, as in the case of the Macri administration in Argentina with its rapidly designed and executed renewable auctions, the political benefits come quickly.
3. Procurement matters. It’s not just getting the new technologies that matters, it’s also how you get them. In the case of wind and solar, analysis by Bloomberg New Energy Finance and others indicates that the gains from competitive auctions have contributed as much to rapid cost declines of new deployment in the past few years as have technology advances. In some emerging markets, one can observe offers to deliver solar power, for example, at anywhere from 30% to 100% above the prices a country could expect to get the same power for through a well-designed competitive auction. Buying at high prices in negotiated transactions is a visible risk.
4. Communicate. There are important asymmetries between losers and winners here. The losers tend to be large, politically entrenched actors. In a number of countries these are State-Owned Enterprises, with strong political connections. The beneficiaries of lower costs and better access tend to be much more dispersed. While the case for deploying new technologies may be overwhelming in aggregate, those who gain from the status quo may have the political power to block change. Mobilizing decentralized actors – industries across many parts of the economy, retail consumers who vote – requires their understanding what a government is trying to do, and why they should support it. This is first of all about communications. Governments need to talk – frequently and loudly – about what voters and companies stand to gain from access to new technologies, and how a government is trying to help them get that access.
5. Go private. The discussion here has stressed the importance of time, and acting quickly. This stems from the effects of continuing rapid technological change – don’t act, and you fall behind; act slowly, and risk being out of office before the benefits show up. Acting quickly is not the culture of government departments or State-Owned Companies. Analysis has consistently shown what common sense indicates – infrastructure delivered through the public sector takes longer to deliver, with more frequent and extensive delays. This downside is magnified in sectors affected by new technologies. In the 1960s, governments delivered the bulk of telecommunications services; today, good luck finding more than a handful of state-owned phone companies. Same with renewable energy – excluding China, less than 5% of wind and solar generation globally is delivered by the public sector. Private companies have better incentives to learn fast, to master the complexity of new technologies, and develop the associated capacities to deliver; state-owned companies will take much longer to do so. And there is the small matter of financing.
6. Don’t worry about funding. Of course, capital is important. A lot of capital is being spent on deploying these new and emerging technologies. But focusing upfront on how to get the capital needed is putting the cart before the horse. Worse, focusing on capital sources distracts from the far more important issues of understanding policy options, and executing well on deployment, and heightens the risks of being left behind by competing countries who execute faster. In a decade of financing infrastructure projects at the IFC, I never encountered a well-designed project which failed to get financing. For government-executed projects, conversely, finding financing is generally a protracted exercise. Bringing in the private sector to deliver will eliminate this issue.

In coming posts, we’ll further explore implications of the new world of infrastructure, for the companies involved, and for those who provide capital to it. We’ll also subsequently expand on some of the issues for policy-makers.