U.S. Department of Transportation
Office of Public Affairs

PUBLIC PRIVATE PARTNERSHIPS

Jeffrey N. Shane
Under Secretary for Policy
U.S. Department of Transportation

The 3rd Annual Public Private Partnerships USA Summit
February 22, 2007
Washington, DC

I am very pleased to have this opportunity to speak to the Third Annual Public Private Partnerships USA Summit. Under the leadership of Secretary Peters and Secretary Mineta before her, the U.S. Department of Transportation has made the expansion of public-private partnerships a key component in our strategy to reduce the high and growing costs of congestion and improve transportation system performance.

Both today and tomorrow some of my colleagues at DOT will be sharing their views of PPPs and the role that they play within the overall DOT policy framework. Later this morning, Tyler Duvall, our Assistant Secretary for Transportation Policy, will discuss the Department’s congestion initiative and the role PPPs will play within it. This afternoon, David Horner, Chief Counsel at the Federal Transit Administration, will be addressing the potential for PPPs in transit and commuter rail projects. Finally, tomorrow morning, Mark Sullivan from the Federal Highway’s TIFIA office will be discussing his experiences in financing PPP transactions utilizing TIFIA for greenfield highway projects. In these sessions, they will be addressing what has led to the growing interest in PPPs, why PPPs may be an attractive financing option, and the different forms that public private partnerships take.

While leaving these financial and structural issues to my colleagues, I would like to focus this morning on some of the larger public policy issues and risks that have emerged in the transportation PPP debate. It is clear that PPPs are a potentially important tool to help policymakers respond to the growing challenges of transportation system performance and finance. But PPPs represent a novel intersection of public policy objectives and private sector incentives. We’ve seen examples of that intersection before, of course – in municipal bond financing, for example. But the PPPs we’re discussing at this Summit, depending on their terms, can vest in a private entity ongoing operational responsibilities heretofore reserved to the public sector – at least since the Bureau of Public Roads was founded more than a century ago. Not surprisingly, they have engendered no small amount of controversy.

Public Policy Challenges

Any analysis of public-private transportation partnerships is best discussed in comparison with current approaches. The issue isn’t whether PPPs represent some “silver bullet” that will solve our transportation problems. It is whether PPPs have the potential to help address those problems. These challenges include congestion, low investment returns, difficulties in capital budgeting in the public sector, and insufficient incentives for technology deployment and innovation.

First, increased congestion has produced a marked decline in system performance. Between 1983 and 2003, total vehicle miles traveled in the US increased almost 90%. Physical transportation infrastructure increased during the same period only by a few percentage points. Deteriorating performance is the obvious result.

But we are too tolerant of this deterioration. Continued system decline will have real and significant impacts on our economy and quality of life. An increased private sector role can help reverse these negative trends. Because throughput strongly correlates to revenue, private operators have powerful incentives to reduce congestion and increase the number of vehicles served per hour. Related to that, customer service levels are likely to be higher on facilities operated by the private sector. As with other businesses, building “brand” loyalty is a primary objective of many private toll road owners around the world.

Second, the current highway funding model is plagued by declining returns on investment. Highway studies have illustrated that return on highway capital investments have declined from 15 percent in the 1970s to 5 percent in the 1990s. Alternatively, the private sector will focus investment resources on projects that produce the highest returns. Planning processes are intended to balance various competing interests and produce projects that maximize societal benefits. Too often, however, these processes become heavily politicized, leaving the most beneficial projects without a reliable funding source. While the Federal Highway Administration is currently working with States to help measure economic efficiency, more work in this area is needed. The private sector can take a leadership role to help the public sector measure economic costs and benefits to ensure that the public interests are being met.

Third, due to various political and financial constraints at both the State and national levels, highway capitalization has been insufficient. Transportation infrastructure such as pavement and rail generally has long ‘useful’ lives. The original design lives of these assets are now over, and a growing percentage of State and federal resources are being directed towards preventative maintenance rather than recapitalization. Private providers are more likely to make efficient up front facility investments that generate higher returns in the future. These investments include longer lasting pavement and faster deployment of new technologies, among others. This risk of public sector undercapitalization can be expected to grow over time as States face increased competition for transportation funds from other State programs.

Fourth, as with any asset or service provided solely by government agencies, the current policy framework provides insufficiently attractive incentives for innovation and competition. Because the rewards of technology – for example, extended life pavements or more sophisticated traveler information systems – accrue broadly and not to specific firms or shareholders, the current approach is unlikely to deliver the pace of innovation that we are seeing in other infrastructure sectors like telecommunications and energy. Public private partnerships can improve the incentives to innovate, as well as the level of competition in the highway and public transportation sectors.

Public Policy Risks

There are five primary risks that have been identified in recent debates surrounding public private transactions. These risks relate to monopoly, corruption, competition, bankruptcy, and public sector inexperience.

1) Monopoly

The single most important public interest concern with the transactions that took place in Indiana and Chicago is the inherent tension that is created when governments view the leasing of existing transportation assets as a potential income source. If properly structured, these transactions can provide large public benefits. But if poorly structured, they can grant concessionaires substantial monopoly power, ultimately at the cost to the users of the system.

As a result, it is imperative that public agencies gain expertise in understanding a facility's cost and risk profile, as well as the degree to which pricing will be constrained by competing facilities or the threat of competing facilities.

Specific contract provisions that limit the prospect of competition will increase the upfront lease value, but may run counter to the public interest. For example, under the original concession arrangement for California’s SR-91, the State was frustrated by a “no-compete” clause that restricted the government’s ability to improve other highways in the vicinity of SR-91. The emerging trend in this area appears to be the inclusion of either no protection at all for the private sector or limited protections, and a deal today for a facility such as SR-91 would be unlikely to include “no-compete” language.

2) Corruption

In any public-private contractual arrangement, there is always a risk of corruption, and the risks must be particularly managed when the agreement is for a large amount of money and for a lengthy period of time. Public agencies implementing PPP programs are strongly encouraged to run open and transparent processes, to seek input from third parties, and to consult regularly with their legislators and other relevant elected officials. In the case where a contract or concession was inappropriately awarded, the public sector needs to protect itself with provisions that allow for contract termination.

3) Competition

In the past, private capital was a limiting factor in financing PPPs. This raised the risk that the market for investors in such projects was so insufficient that the public authority could not be assured that fair value for the public was being received. To a large extent, this risk has now receded, as the amount of capital flowing into the infrastructure sector has multiplied several fold over the past few years. This has resulted in increased competition among infrastructure investors, reducing the risk that public authorities will not receive fair market value or premiums from PPP transactions.

4) Bankruptcy

Public authorities that use private sector finance will want to ensure that, if a private sector project encounters financial difficulties, the operations of the project will not be interrupted and that unforeseen financial liability does not transfer to the public sector. The public partner will also want to ensure that control of operations on the facility will not be tied up in bankruptcy proceedings.

5) Inexperience

Finally, given the early stages of the public-private market, there is risk that public agencies will lack the capability to successfully administer public-private programs in the public’s interest. There have been recent criticisms directed at public authorities for underestimating the value of their respective assets. It will often be necessary for these agencies to procure legal and financial expertise to assist them. Furthermore, if states continue to pursue PPPs, they may want consider developing more diverse in-house skill sets.

Public Policy Myths

Let me close by addressing myself to the investment bankers among us. I’ve just mentioned some of the real and significant risks that government agencies and private bankers are going to have to address successfully if PPPs are to take their proper place in our transportation infrastructure tool kit.

But there are also a number of other concerns which, while largely misplaced, have wide popular appeal. You see them in editorials and op-eds, you hear them expressed in Congressional hearings, and you can tune in to them nightly on “Lou Dobbs.”

  • “Why does the federal government want to put tolls on all of our highways?”

  • “Why are we allowing our states to sell for cash infrastructure that was built and paid for with taxpayers’ money?”

  • “Why are we allowing foreigners to buy our roads?”

  • “Those bankers are just in it for the fees; who’s looking out for the public interest?”

  • “We already paid for that road. Why should we have to pay for it again?”

  • “Do you mean to tell me that some guy in Australia is going to decide how much I have to pay to drive to work every day?”

I can’t tell you how often I’ve had to respond to questions like that. You may chuckle and tell yourself that they reflect a serious misunderstanding of how PPPs work. But the fact is that there is a lot of skepticism out there about the wisdom of bringing the private sector into a realm of activity that Americans have come to believe is the job of government. It’s clear that we need to do a much better job of educating the public about the potential value of public-private partnerships in addressing our transportation challenges.

Conclusion

That’s a job that shouldn’t be government’s alone. Contrary to what you may believe, public policy is not the exclusive province of the public sector. The investment banking community has an important responsibility to explain these approaches more clearly, more frequently, and in terms that are comprehensible to the public at large. You need to come to Washington and meet with Congressional members and staff. You need to do your own op-eds. You need to get involved in the public debate and demonstrate more effectively the potential value that PPPs can bring to a community, or a state, or a region.

We think we’re doing our part. The Federal Highway Administration’s website now serves up draft PPP legislation as a starting point, together with other very helpful materials. Secretary Peters has made system performance one of DOT’s central themes, and speaks frequently in her appearances about the importance of non-traditional forms of infrastructure financing. But the investment banking community needs to step up to the plate too, and it needs to do so now.

Thank you for allowing me to share these thoughts with you this morning.

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Briefing Room