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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The writer is the founder of Credit Capital Advisory
In the summer of 1858, Britain’s parliamentarians soaked the curtains in the Palace of Westminster with lime chloride in an attempt to counter the “Great Stink” emanating from the river Thames. It failed. The prime minister demanded the Metropolitan Board of Works construct a sewerage system, legislating to allow the board to raise £3mn. This was to be repaid by a three-penny levy on all London households for 40 years.
By 1900, the municipal bond market in England was about 50 per cent of the market for UK government debt. Today it is just 4.7 per cent. Back then, most infrastructure projects were not only financed by the private sector but also backed by hypothecated cash flows from money raised locally. For example, the debt for the 1892 Elan Valley Aqueduct to pipe water into Birmingham was funded by an increase in water rates on businesses and households there. So the residents of, say, Manchester were not funding infrastructure elsewhere.
After 1945, governments pioneered a series of development corporations to build new towns; debt was largely funded by the sale of land. The government also used the Public Works Loan Board, financed through issuing extra gilts — an option not realistically available today.
But then across Europe, projects started to borrow money directly. The Maastricht Criteria, designed to impose fiscal discipline on Eurozone countries, did not prevent governments from adding to the debt of public corporations — so long as the debt was paid back from private sources not taxation. This is one reason why infrastructure stock as a percentage of GDP is so much higher in Eurozone countries than the UK.
So this model, which places less pressure on central government debt while boosting growth, is ripe for revival by Keir Starmer’s government. It would be a corrective to the last 40 years, during which the UK has moved towards a highly centralised approach to financing and funding infrastructure, creating a number of significant barriers to growth along the way.
The successful funding mechanisms which enabled past glories like the garden cities of the building boom of the early 20th century, ensured that the same body was responsible for delivery and for funding. But the Treasury now allocates funds to departments instead, on the basis that their investments will lift economic growth and hence future tax receipts. But hoping for higher tax receipts is far riskier than using identified future cash flows. And the downside of not making delivery bodies responsible for funding has been amply demonstrated by the snarl ups of HS2.
Another problem is that there is insufficient integration of departmental budgets on specific projects. This worsens outcomes. For example, why isn’t the HS2 link in west London between Euston and Old Oak Common properly integrated with local housing so that the uplift in land values could help fund the tunnelling? The £15bn transport investment announced in the run-up to the spending review shows a worrying lack of detail on new housing integrated with the projects.
And we often start from the wrong place. Rather than figuring out which projects need to be delivered and then assessing how they can be financed, the Treasury allocates a fixed budget and then addresses what it might be able to fund. But sub-scale infrastructure investment rarely boosts growth. The value of half a railway is inherently limited.
The way we do things places far greater pressure on the fiscal sustainability of the UK, and hence gilt yields, which then increases the cost of servicing the debt.
Chancellor Rachel Reeves has announced billions of extra investment over the next five years. But while funding is broadly positive for housing and transport, the substantial deficit on infrastructure, coupled with what’s needed for the next wave of new towns, leaves a considerable funding gap.
Reeves argues that public investment will crowd in private investment. This approach may be successful for small-scale housing developments or specific projects such as the Lower Thames Crossing. But it won’t support the investment the UK needs — for new towns, say, and all the infrastructure they require.
Her approach is doubly curious given that in 2023, Michael Gove’s Levelling Up and Regeneration Act made reviving the development corporation model possible by enabling land value capture — where the uplift in value due to planning permissions can be clawed back to fund projects.
Continuing to centralise infrastructure investment will not only curtail growth but will also place greater pressure on the public finances. The chancellor could unleash additional billions in investment for new towns and more by doing it the Victorian way.