Paying for Infrastructure

A recent New York Times story reported on the complexity of privatizing a city’s water system, describing costs along with the benefits. Their story begins with the reconstruction of the water system in Bayonne, New Jersey, by a private investment firm, and the rapid increase in water rates that followed. Privatization is seen by some as a way of rebuilding America’s infrastructure more efficiently than public sector reconstruction, but experience with privatization is mixed. Sometimes it works well; sometimes it doesn’t.

The underlying problem with water, electrical, waste, sewage and transportation infrastructure is that everyone wants the benefits and no one wants to pay the price. While Americans feel beleaguered by high taxes, the costs of social security and Medicare are growing as health care technology improves; we live longer and healthier lives. With birthrates declining, only immigration can relieve the burden on the young to support the old. Not only is our population aging, but so is our infrastructure. The interstate highways are approaching the half-century mark, our water and sewer systems are older than that, our public passenger rail system was destroyed by subsidies to roads, and we find ourselves faced with the choice of paying either government or private parties for critical, long-deferred infrastructure. One way or the other, we are going to pay.

It is true that many large-scale public infrastructure projects are poorly managed. The heart of the management problem is in poor quality public management. And for the most part I am referring to terrible contract management. The political leadership is often motivated by their goal of quick, visible benefits and their attraction to quick results means that sometimes government doesn’t pay enough attention to long-term costs. The professional managers working for these ambitious politicos often do not know enough about the details of the contracted project to effectively manage it. The deal they’ve cut with the private firm may be lopsided, or government’s capacity to manage the firm has evaporated, and the private company keeps increasing costs along with the fees that pay them.

Back in 2008 my friend and colleague Bill Eimicke and I published a book with Georgetown University Press about this problem, The Responsible Contract Manager: Protecting the Public Interest in an Outsourced World. We examined contracting and privatization as a management issue rather than an ideological one. We don’t favor one over the other, but believe that both have a role to play. In our view, the issue is the classic “make or buy” decision that managers make every day: “Do we make this ourselves, or do we buy it from someone else?” If you buy it from someone else, you better make sure it works well and the cost is what you expected.

There is nothing wrong with buying or contracting out. The university I work for has a contract with Barnes & Noble to run our bookstore. Columbia is world class at a lot of things, but Barnes and Noble really knows how to run a bookstore. In the modern world, we see more and more specialization of tasks. You can hire a full-time webmaster, or hire a consultant to do it instead. Modern communication, transportation and information makes it possible to manage a large network of suppliers that allows you to exert great control over the quality and quantity of what you produce. But you must maintain the capacity to manage all those contractors. And you need to make sure you don’t contract something so essential that you either leave yourself vulnerable to nonperformance or you give away your business to a new competitor.

Hiring the private sector to finance, build and manage your water infrastructure can be a good idea—if the contract protects the public and the price is right. But there will be a price. Nothing is for free. Perhaps the private firm can get the town a better deal on financing than they can get on their own. One would think that a city could sell tax-free municipal bonds and find investors with the help of a financial advisor rather than a water firm, but some towns like Bayonne have been in decline, suffering from weak financial management and having difficulty entering the capital markets.

The issue will always come back to, who pays? We also need to closely examine the cost structure. A private firm is motivated to build a project by the money it makes. That form of motivation can work, but there are no guarantees. In the United States, private mismanagement is actually more common than public mismanagement. A quick look at bankruptcy data provides evidence of unwarranted private risk-taking and mismanagement. Mission and a sense of public purpose motivate a public organization, but its goals may be distorted by political meddling. The Port Authority of NY and NJ is an excellent example. It was once a paragon of nonpartisan, professional public administration. Now it is a political piggy bank for New Jersey Governor Chris Christie and New York Governor Andrew Cuomo. And nothing is purely public since even public agencies like the Port Authority hire private contractors to build all of their major projects. It is essential for a public infrastructure agency like the Port Authority to have expertise in contract management. The distinction between public and private infrastructure is not as clear as some may think.

The structure of the public-private deal or partnership is critical, but again, the central issue remains, who pays? People resist paying for resources that once were free. Before this country became modern and urban, many people were able to get water for free from their own wells. They managed their waste in septic fields and compost heaps, and the occasional garbage fire. Now they pay for water, sewage treatment and waste removal. They used to get their TV for free with antennas, now they pay monthly Internet and cable bills. Life has become more complicated and more expensive and our incomes have not kept pace with the increased cost of everything. It’s easy to understand why people resist paying for the modernization of infrastructure. But it can’t be avoided for much longer. A progressive fee system for privatized infrastructure needs to be considered as part of the way to help the working poor and people on fixed incomes to bear the cost of infrastructure upgrades.

A realistic financial analysis must be conducted as part of the process of developing a contract to engage the private sector in managing a public resource. The term privatization should be avoided, because the resource and the responsibility for its management remain with the government. Just because the water system is outsourced doesn’t mean that government abrogates its responsibility for ensuring it is safely and effectively delivered at an agreed-to price. The financial analysis should assess utilization, probable levels of fee generation, and cross-subsidization to ensure that water does not become too expensive for people of limited means. The profit that the company makes should be explicit and understood, along with the expenses it is permitted to charge. There may be some charges that require specific government authorization during the course of the contract. The point is that the private firm is managing a public good, but the government must retain its authority over the resource to ensure accountability.

The Trump Administration will be attracted to the drama and flash of lots of new construction, many “great, fantastic” projects, built in a hurry to “make America great again.” America didn’t get great by being snookered on poor deals quickly negotiated with private businesses. The new president should apply his deal-making skills to ensure that private companies deliver projects that remain under public control at a reasonable price. Then we need to pay close attention to subsidizing user fees. Tolls, water bills, and other user fees are really just different ways to collect taxes. Like the sales tax, they are not progressive: poor people pay at the same rate as rich people, they just tend to use less. For some resources, like the express lane of the toll road, you can argue that its use is a luxury. For access to the Internet or mass transit, the argument is weaker; you can’t participate in the modern economy without those resources. For access to water, it is a biological necessity that should be subsidized to ensure access. The issue is not who builds and manages the infrastructure. The issue is how payment for the infrastructure is set up and how the government maintains control to ensure accountability if the private firm does a lousy job.