The state may maintain the PPP procurement model in its present form and assume the role of an arms' length lender to projects. This financing option may be feasible in several situations:
1. When capital markets cannot supply the consortium's project finance requirement (a form of market failure)
2. When borrowers cannot raise the credit insurance necessary to secure credit ratings that reduce the cost of debt capital
3. When the cost of private capital is sufficiently high to adversely affect value for money outcomes.
State bonds attract a lower risk premium (spread) than non-government securities of the same maturity and credit rating. At 31st January 2009, the spread between AA rated corporate bonds and Commonwealth bonds stood at 270 basis points (bp), for A rated securities, 409bp and for BBB rated securities, 443bp.71 Critics of PPPs regularly point to the lower borrowing costs of government compared with the private sector. Indeed, at 31 May 2008, AAA rated corporate bonds with maturities of 1-5 years offered yields of 8.52% pa. Australian Government 3 year (AAA rated) bond yields were 6.73% and 5 year bond yields were 6.59% pa.72 The spread between state and corporate bond yields is dynamic and moves on a daily basis. However, the average spread for the 11 months to June 2008 is 1.27% pa. If the cost of capital was the only element of the value for money outcome, the lower cost of state debt is a decided advantage. However, value for money is both a quantitative and qualitative test. The quantitative test compares competitive private bids against a public sector comparator which is a risk-weighted lifecycle costed model of traditional procurement that takes into account those risks retained by the state and those transferred to bidders. The qualitative test requires critical examination of a proposal with a view to the public interest, sustainability, design amenity, user benefits and improved service delivery.73
The State as Lender at the Project Level
In the United Kingdom, HM Treasury sought to improve the value for money performance of PPPs by creating a credit guarantee fund (CGF). The fund was created by Treasury capital market borrowings and on-lent to successful PPP consortia with the aim of reducing the cost of capital of the project.74 The loan takes the form of senior debt guaranteed by consortium bankers and significantly, it is structured in such a way that the incentives attaching to the consortium's lenders, contractors and facility managers remains intact. A variation of the CGF is presently being used with the South East Queensland Schools project by the Queensland Government. However, these models do present several conceptual problems and the CGF approach was shelved in the United Kingdom after two pilot projects.75
There are two precedents for this, the United Kingdom credit guarantee finance program and a variant employed in Queensland to support the South East Queensland Schools PPP project, the supported debt model. Both approaches require the state to select, evaluate and put to market the PPP project and then to provide debt capital to the successful consortium to construct and/or assume a long term investment position with the undertaking. An important feature of both these arrangements is that the state assumes responsibility for both loan and contract administration.
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71 RBA 2009.
72 RBA 2008. New South Wales Treasury Corporation bond yields were 7.2% (3 years) and 7.04% (5 years) at 31 May 2008.
73 Partnerships Victoria 2001b.
74 Standard and Poor's 2004.
75 McKenzie 2008; Regan 2008a.