Opinion: How Public-Private Partnerships Could Make China’s Greater Bay Area More Efficient

A 2016 Oxford University study found that, of sampled infrastructure investments in China, less than one-third were economically productive and that average infrastructure construction costs exceeded estimates by one-third. The study also reported that over half of national infrastructure investments, since the 1990s, have achieved negative net present value.

Such findings may be cause for public concern, given that it is their monies — via taxes and other public revenue raising avenues — which ultimately fund many infrastructure investments. Such concern may be particularly high when the scale and diversity of infrastructure necessitates large financial commitments over multiple decades, as is the case for the much-anticipated Guangdong-Hong Kong-Macao Bay Area (GBA) project.

The GBA is a priority regional initiative clustered around Hong Kong, Macao and nine cities in Guangdong province. The cluster already contributes 12% of China’s GDP and aims to rival major global innovation hubs, such as the San Francisco Bay Area. The GBA’s 2017 framework agreement can be commended for embedding principles of innovation, globalization and sustainability — an evolutionary approach for “special economic zones” in China. With regard to financing however, the agreement does not explicitly contain compatibly progressive mechanisms and instead seems to follow conventional wisdom, which places fiscal responsibility on individual member municipal governments.

Given the unpredictability of future macroeconomic conditions, and to help secure world-leading innovation and sustainability practices, we argue that creating capacity for private capital to complement public capital for infrastructure investment could provide critical support to the GBA’s ambitious objectives. More specifically, we believe that public-private partnerships (PPPs) could help de-risk the GBA’s infrastructure investment future.

Public-private partnerships … for China?

PPPs involve public- and private-sector entity collaborations, where partners jointly plan and execute activities with an aim to achieve agreed objectives, while sharing any incurred costs, risks, and benefits. PPPs draw on the efficiency, flexibility, and capability of the private sector and the accountability, long-term perspective, and social goods interests of the public sector. While President Xi stated in 2017 that "China will let the market play a decisive role in resource allocation in the economy," engagement in PPPs remains nascent.

Successful PPP examples have been observed internationally. For example, India promotes collective schemes where individual and institutional investors directly invest in infrastructure projects and earn an income share (called Infrastructure Investment Trusts). Additionally, Canada’s Infrastructure Bank (CIB) works with public and private sector partners to attract institutional investors to support strategic projects at scales similar to the proposed GBA investments. Integrating PPPs into the GBA could help turn the Chinese government’s market vision into reality.

Potential PPP benefits — beyond just finance?

In addition to the potential economic benefits of PPPs, social (including governance) and environmental outcomes may also be enhanced for the GBA.

Economically, PPPs could help transform Chinese infrastructure investment projects towards economic productivity and positive net present value. By serving as a test case for the improvement of longer-term capital engagement partnerships with domestic and international private investors, the GBA could enhance private sector participation, increase the range of investible products and enrich regional capital markets. PPPs could also serve as an avenue for innovative financial products (e.g. green and social impact bonds) and spur investments and products in offshore yuan to support national capital account liberalization efforts.

To match investors with investments of acceptable project scale, risk and return period, the GBA could explore collaborations with:

*Pension funds — Favorable market conditions, savings gaps and a regulatory focus on asset-liability management are increasing interest in real assets. Using the example of the Guangdong local authority pension fund (which transferred assets to the National Social Security Fund for centralized professional fund management), mandates could be introduced to permit investment of social security proceeds in regional infrastructure and to broaden the scope of investible asset classes.

*Insurance companies — The low-risk tolerance and long duration needs of life and annuity insurance providers often match PPP needs where (provisional) government concessions are clear and moderate- and steady-income stream demands can be met by relatively predictable cash flows from infrastructure returns. Encouragingly, 2016 saw the China Insurance Regulatory Commission publish a set of insurance company investment rules in infrastructure projects, signaling a potential market shift.

*Foreign investors — Sovereign wealth funds, multilateral development banks and other government-backed funds (such as Hong Kong's own Future Fund) may find GBA infrastructure investment financing attractive. For example, the $280 billion Canada Pension Plan Investment Board (CPPIB) aims to more than double emerging market assets (in countries such as China) and across many GBA asset types.

Curiously, despite the generally low status of PPPs in China today, provinces with weaker fiscal positions have the greatest PPP deal participation. Hence, enhanced PPP publicity could benefit those poorer provinces and municipalities.

Socially, the engagement of institutional investors in major infrastructure investments ultimately empowers citizens (e.g. pensioners for social security funds, policy-holders for insurance companies). A vested public interest in capital allocation could improve accountability, monitoring and infrastructure quality. Furthermore, international private investors, accountable to their own national standards and laws and their shareholders, may help raise social and governance standards in GBA decision-making and practices.

With regard to governance, a shift away from implicit guarantees for local governments and state-owned enterprises could transition them towards greater transparency and accountability. Additionally, the strong institutional and legal systems in Hong Kong and Macau, coupled with their international private sector experience, could help delineate the role of public and private stakeholders in joint infrastructure provision. Such collaborations could enhance government access to technology, data and industry best-practices. For example, the CIB (in Canada) uses data analytics to inform infrastructure policies and promote evidence-based dialogue between government stakeholders.

Finally, environmental impacts — from pollution through to climate change — are becoming higher profile topics in China. PPPs may help uphold and promote environmentally sound principles via investors insisting on industry best-practices (e.g. Equator Banking principles) and via increasing access to new sources of finance (e.g. climate finance) and asset classes (e.g. renewables markets) when certain environmental standards are satisfied.

A more sustainable infrastructure future?

The high-profile GBA represents an opportunity to enhance China’s thrust forward in modern infrastructure development and to utilize public monies more efficiently and effectively. Reinvigorated PPP models represent one option to achieve potentially enhanced economic, social and environmental benefits. Successful PPP integration into the GBA could serve as a green light for wider consideration across China, particularly in provinces and municipalities most critically seeking sustainable development stimulation.

Wallace Yu is Portfolio Manager and Director at China Investment Corporation, and committee member of Beijing Youth Federation. He is lead author of the book “Exploring the Frontier in Asset Management” (CITIC Publishing 2018).

Dr Bradley Hiller consults on sustainable development to the World Bank and Asian Development Bank and is a Visiting Fellow at the Global Sustainability Institute, UK.

Both were 2018 AsiaGlobal Fellows at the University of Hong Kong.