Sovereign debt is always cheaper than finance borrowed privately for individual investment projects ('project finance'). Successive governments have argued that the high cost of private finance compared with government borrowing reflects risk transfer, especially the risk of construction coming in over budget or being completed late.2 (There are no substantial risks after the construction period). According to this argument, when the private sector takes on financial risk it has an incentive to generate savings that outweigh the extra cost.
Neither the government nor official auditors have provided compelling evidence to support this claim. On the contrary, as we show below ('Bias in favour of PFI - value for money tests') cost comparisons between PFI and the public sector alternative have been systematically biased in favour of PFI and there is extensive evidence of poor value for contracted-out services. More fundamental, however, is the absence of any evaluation by government of private finance as a risk transfer mechanism. Construction risks can be transferred to the private sector by using fixed price contracts and public borrowing instead of private finance. This alternative, which would avoid the higher financing costs of private borrowing, has never been weighed against PFI.
The general lack of evidence explains why governments are usually thought to adopt PFI policy for fiscal not efficiency reasons.3 Most PFIs are not included on the public balance sheet and do not count as part of public borrowing totals. New investment can therefore be undertaken without any immediate increase in government spending or debt. In effect, the repayment programme for publicly borne debt is manipulated so as to avoid high up-front costs. PFI simply alters the timing of payments to creditors; it does not eliminate them. There is no economic case for this approach. The advantage is entirely presentational
Even in the UK, which has a deficit, government borrowing could be substituted for PFI debt without affecting fiscal balances, according to the House of Commons Treasury Committee in 2011: "An increase in government borrowing to replace PFI investment should not make it harder for the Government to meet the fiscal mandate which the Office for Budget Responsibility (OBR) monitor. As the borrowing is for capital investment it will not increase the cyclically adjusted current balance which the OBR measure."4
Exclusion of PFIs from the government's spending and debt totals has given rise to claims that PFIs generate additional resources. They do not. PFI debt is public whether or not it is on the government's balance sheet. All PFI debt is borne by the public either through tax-financing or through user charges such as tolls that directly or indirectly reduce government revenues.
Local or provincial governments may use PFIs to evade central government capital spending controls but resources generated in this way are only additional in the sense that a budgetary constraint has been evaded. In 2010, the National Audit Office concluded that off-balance sheet treatment was a significant factor in the adoption of PFI: "Public authorities often have no alternative source of funding and feel pressured to use private finance because its treatment in financial accounts and budgets make it seem more affordable from the public authority's perspective."5 The NAO found this not only affected how a project was funded but often led public bodies to "shape the project to ensure it is off-balance sheet"
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2 HM Treasury (2003), PFI: Meeting the Investment Challenge (HM Treasury, London).
3 Mark Hellowell and Allyson M. Pollock. The private financing of NHS hopsitals: policy, politics and practice. Economic Affairs, March 2009.
4 House of Commons Treasury Committee. The Private Finance Initiative. 18 July 2011.
5 House of Lords Select Committee on Economic Affairs. Private Finance Projects and off balance sheet debt. February 2010.