The reasons for the adoption and expansion of PPP under devolution stem from an accounting regime that does not reflect the underlying economic reality. Using PPP allows the scoring of investment to be postponed against the Assigned Budget, creating an incentive to pursue this model even when the long run cost to taxpayers will be higher. It is clear that the NI Executive and the NI Office were responding to this when formulating capital expenditure policy in the late 1990s.
Under direct rule, PPP was seen as a way of "rebalancing" the economy through transferring services from the public to the private sector, shrinking the former and expanding the latter. However, the argument that the public sector is "crowding out" the private sector is poorly evidenced, and the fundamental characteristics of PPP are actually likely to reduce the capacity of government action to stimulate expansion in the private sector. The notion that any value is added to the economy simply through transferring services from public to private is a misconception: the only way such a transfer can be beneficial if it brings about improvements in productive efficiency, or "value for money".
The final section of this report looks at the evidence on PPP's economic credentials. While PPP in NI is due to be radically expanded between now and 2012, there is no credible evidence base that supports this policy. It would appear that the capacity for any improvements in efficiency is eroded due to the excessive profitability of contracts for investors. The evidence shows that rates of return are well in excess of market norms, suggesting the price being paid for risk transfer is too high.
At the current time, the cost of private relative to public funding is rising significantly due to the current financial crisis. This has eliminated the bond finance market - previously the cheapest source of private finance - and curtailed the availability of bank finance. In turn, this has further reduced the degree of competition in the market for finance, and allowed banks to double their credit margins.
The change from British to international accounting standards will remove the NI Executive's reason for using PPP - its superficial 'additionality' advantage. At the same time, the economic slowdown means that NI will receive lower increases in funding from the Treasury than has been the case in the last decade. In this context, the high (and increasing) costs of PPP are likely to put pressure on the NI Executive to increase regional taxation and user charges in areas such as water.
We suggest that the time is right for an independent review of capital investment policy in NI, and we recommend a moratorium on the further use of PPP until this is completed.