No Free Lunch
The ABCs of PPPs 

By Cielito Habito
Philippine Daily Inquirer
First Posted 05:16:00 11/23/2010

Filed Under: Government Contracts, Investments,Infrastructure

ASKED BY my wife what PPPs were and what the fuss about it was about, I thought a column to help demystify the topic to those among us who don’t even know what the acronym stands for (the great majority, I suspect) would help.The acronym stands for public-private partnerships, now the generic term used to refer to what we know through more familiar names like BOT (build-operate-transfer), BOO (build-own-operate), BLT (build-lease-transfer), and so on. In its narrow sense, PPP refers to the way public infrastructure facilities are provided by government without spending its own money up front, especially when it is strapped for cash as it is now. It does this by having a private firm build the facility, and then charge users for its use in order to recoup the firm’s investment and earn it (it is hoped)a reasonable profit.Under BOT, the private builder operates the facility once built, but must eventually transfer it to the government after recovering its investment plus reasonable profit, usually within a contract period of about 25 years. Under the BOO variant, the eventual turnover to the government need not even happen. Either way, government regulates the firm to protect the public interest and prevent it from charging excessive fees. The best known among the BOTs are the independent power producers (IPPs), private electric power generation companies that sold power to the National Power Corp. (Napocor) when the latter had nomoney to build its own power plants in the 1990s.

The EDSA MRT line is under a BLT arrangement, another variant wherein the private builder leases the facility to the government after its completion. Government thus operates the facility through a government corporation set up for the purpose. It pays the private builder a fixed lease (rental) every year throughout the contract period, by which the latter recovers its investment and due return. But here’s the catch: That fixed lease payment is guaranteed, whether or not the facility makes enough money (collects enough passenger fares and other revenues) to pay that lease. Alas, EDSA MRT does not—far from it, in fact. Thus, all of us taxpayers, whether or not we ride the MRT or live nowhere near it, end up helping pay that rent. But that is inevitably what happens when fares are kept too low to recover costs, left behind by years of rising prices everywhere else.

This is a current hot issue that merits a small digression. The government now faces the dilemma between implementing a substantial fare increase that is necessary but highly unpopular (to the MRT riders, at least)—or continuing to force non-MRT-riding taxpayers (including those living as far as Mindanao!) to pay a major part of the costs of running the facility. While the choice may be clear to many, it is a public policy decision that requires political will either way, and is more complex than meets the eye. Very much related to the issue is the management of buses plying EDSA, which the Metro Manila Development Authority (MMDA) now seeks to regulate more tightly after many years of lax enforcement of franchise rules. To the extent that too many of these buses have been allowed to congest EDSA traffic (with its attendant economic costs), demand for MRT rides is also reduced, affecting the facility’s financial viability.

In the BLT scheme governing the EDSA MRT, the fixed lease payment to the private firm eliminates all market risk, or the risk that there may not be enough demand in the market for its product—a standard risk any firm would normally face. The BOT scheme for the IPPs had a different way of guaranteeing such fixed return to the investors: through the controversial “take or pay” provision in their contracts. Here, government (through Napocor) guaranteed to pay the IPPs for an agreed amount of electric power, whether or not such power is produced given actual consumption in the market. Because of this guarantee, the private investors again face no market risk.

Herein lies a key policy question: Can one justify the government’s full assumption of market risk—a risk normally faced by any private investor—on top of the other risks it has already assumed (more on this below)? The answer is by no means obvious. One might argue that assuming market risk is the only way we could attract private investors to come in—a claim subject to debate, to be sure. One can also justify passing the burden to all taxpayers if the good or service involved has the characteristics of a public good. And so on.

Yet it is not guarantees against market risk that President Aquino is now being taken to task for. Rather, it is his recent public statement assuring potential PPP investors that the government will guarantee covered projects against all political, regulatory and judicial risk. This is the kind of risk involved when government reverses itself on an earlier contract commitment (as in the infamous case of Terminal 3 of the Ninoy Aquino International Airport). Indeed, incidents such as this could discourage a potential investor from getting into a PPP project at all. And these are risks that government should rightly assume, as forcing them on the private investor is decidedly unfair. In the end, the issue boils down to whether

P-Noy can rightfully guarantee against such risks, especially if projects are later proven to be anomalous.

The ultimate solution, then, should strike at the root: Let’s make sure all PPP projects are transparent and properly evaluated, so no such irregularities will ever arise. And I believe this government has the capability to ensure that.

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