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The EFSI is a force for good – but cannot cure infrastructure’s biggest blockage

The European Commission’s “Juncker Plan” to boost investment by €315bn ($356.14bn) is welcome. Scepticism that it cannot work because it only has €21bn of capital is unwarranted. The European Investment Bank is putting its shoulder to the wheel and should not be underestimated. But do not expect this to solve Europe’s infrastructure investment problems. Money is not the problem. The real obstacles is are governments' indecision about what infrastructure they want and how investors will make a return.

The energy and determination of EC president Jean-Claude Juncker is impressive. In his first speech after being nominated last July, he outlined a €315bn plan to kickstart investment, which has been languishing well below its trend rate in Europe since the financial crisis.

This problem is much wider than infrastructure — it affects government and corporate investment of all kinds. But infrastructure is an important missing piece, with PricewaterhouseCoopers estimating that spending will not regain its former level in western Europe until 2018.

Already, the EIB’s scouts are out trying to drum up business for the European Fund for Strategic Investments (EFSI).

Multiplier effect

The EFSI is a new vehicle — to be enshrined in legislation by the summer — which will implement the Juncker plan under the EIB’s management. Some €5bn of surplus EIB capital and €16bn of capital and guarantees from the EC will be deployed.

It is true that some of the money comes from existing budgets, and to that extent it should not be seen as additional spending. But there is no need to scoff at claims that the money can be multiplied 15 times.

Like any bank, the EIB leverages its capital — lending perhaps seven times the equity allocated. Because the EFSI will be used for riskier investments than usual, the rule-of-thumb leverage multiple has been cut to five. That means €21bn of capital could become €105bn of EFSI investments.

Then, to triple the investment again, the EIB will need to find private sector partners to lend alongside it, roughly €2 for every €1 it puts in. Co-investing in this way is how the EIB normally operates.

Cracking the whip

A fair criticism is that if the EIB can find €315bn worth of projects to invest in within the next two and a half years, some of those would have happened anyway without its help — or perhaps with its help, under its normal lending programmes. 

But that allegation can be levelled against almost any activity by a development bank. More important is the political drive to get things done, which the EFSI project seems to be enjoying.

Some of the most important things the EIB can do are offering technical expertise for projects that are moseying through the planning process – banging heads together, if necessary, to get local and national governments and the private sector to resolve disputes and sign deals.

A finance official at one energy company says the EIB is like a bureaucracy – much more stringent and painstaking over its investments than a commercial lender. Nevertheless, he believes the EIB is feeling real pressure to make investments; is looking to write large tickets of €100m or €1bn if it can find them; and will be very flexible on structure.

Diving deep

An important point is that the aim is not for the EFSI to lend to riskier projects than the EIB would normally. It will finance the same high quality projects, but take more financial risk by investing lower down in the capital structure.

To maximise the multiplier effects, the EIB will therefore be keen to make subordinated loans and guarantees. This could be an important sweet spot, as taking pure equity positions would be very capital intensive — though the EIB may also do that.

But subordinated loans must not be priced too expensively, or they can lower the equity return on a project below the double digits many sponsors are looking for.

EIB insiders admit the €315bn target is a challenge — but point out that the bank’s target for ordinary commitments in 2014 was €67bn, and it managed to exceed that by €10bn. Forty percent of the commitments were to new clients.

Already the bank is starting to work on some potential EFSI projects, and it expects to be able to warehouse about €4bn-€5bn of commitments this year, without needing to wait until the legislation is passed.

Planning is the key

Pushing from the financial side — especially by a player with the EIB’s clout — will undoubtedly help investment in Europe, including in infrastructure.

But no one should make the mistake of thinking this will solve Europe’s investment problems. By and large, the private sector is ready to invest, wherever it can see a good prospect of return. But with Europe’s economy stumbling, chief executives are reluctant to splash the cash.

That problem will cure itself once growth picks up — indeed, there are already signs of this. The stock of eurozone corporate bank loans ticked up in November, after many months of decline.

When it comes to infrastructure, especially big and challenging projects in energy, transport and telecoms, by far the most important requirement is a favourable, clear and reliable regulatory framework.

Here, the picture is far from encouraging. As a finance executive at a German utility puts it, “we are drenched in liquidity”, so neither the EFSI nor the ECB’s quantitative easing are going to help.

What he would like is “a regulatory framework that allowed energy companies to operate”.

That means making the incentives and return prospects for power stations — whether renewable, gas or nuclear — attractive, and not moving the goalposts every few years.

Policy wobbles in recent years have include the UK vacillating about its commitment to renewables and flirting with shale fracking; Germany’s abrupt abandonment of nuclear power; Spain tinkering with payments to amortise its massive electricity tariff deficit; and France’s battle with toll road concessionaires over what it sees as overly generous contracts.

Having the private sector replace the state as the builder, operator and financier of public infrastructure has many advantages. But it does mean it is even more important to make long term plans, and stick to them.

Without that, you can have all the money and investment knowhow in the world, and not be able to build a thing.

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