The economic impact of infrastructure reform

Publication Date
15 June 2018

Good afternoon, and thank you for having me, it is a pleasure to be here.

I would like to thank our hosts Infrastructure Partnerships Australia, and their CEO Adrian Dwyer, for his introduction, and for again bringing us together to discuss the economic impact of infrastructure.

I also wanted to acknowledge my fellow speaker Luci Ellis, Assistant Governor of the Reserve Bank.

Australia is in an enviable position. We have experienced more than a quarter of a century of uninterrupted and unprecedented growth.

This is in part thanks to significant microeconomic reforms pursued during the 1980s, 90s and 2000s, which opened up our economy and helped to create advanced infrastructure markets.

These reforms, coupled with favourable trade and demographic conditions, positioned Australia to weather recent global financial volatility and maintain our economic prosperity and liveability.

However, we now live in a time of profound change:

  • Our economy is transitioning and diversifying away from resource extraction towards service and knowledge-based sectors.
  • Our population is set to grow to 30 million over the next 15 years, with the bulk of this growth to occur in our largest cities.
  • Technology, the great disrupter, is changing the way we live our lives, particularly the way we do business and communicate with each other.

At the same time, our productivity growth is slowing and our governments are increasingly fiscally restrained.

This means we can no longer rely on the reforms of the past and the favourable conditions that enhanced their impact.

It is vital that our economic infrastructure can adapt to these changes so we can meet the challenges of the future and make the most of the opportunities available to us.

We need infrastructure and services that enhance the liveability of our cities and regions, strengthen our role as a global exporter and support the transition to a more diversified economy.

But if we are to deliver all this and seize on the historic opportunities in front of us, we must improve upon the current pace of reform.

As a nation, we need to reignite a new phase of microeconomic and market reform that recaptures the momentum of previous decades.

Making Reform Happen

There is broad agreement on the reforms Australia requires to boost our stalled productivity growth, and deliver better infrastructure for our growing cities and regions

The challenge of course lies in how to achieve meaningful reform.

To this end, we made the case in our recent paper, Making Reform Happen, for the Federal Government to work with its state counterparts to implement an incentive-based program which drives nationally significant infrastructure reform.

This approach would see additional infrastructure funding for states and territories tied directly to the delivery of key infrastructure reforms across the sector.

We see this as a catalyst for many of the 78 reform recommendations we proposed in the Australian Infrastructure Plan.

In its response to the Australian Infrastructure Plan, the Australian Government supported our recommendation to implement an incentive-based approach to infrastructure reform, noting the need to identify an appropriate reform agenda and funding capacity.

Our paper addresses this reform agenda, as well as the funding issues.

Using incentive payments to drive reform is not a new approach for Australia. Governments have successfully delivered change using incentives in the past.

While creatures of the their time, the National Asset Recycling Initiative and the National Competition Policy payments program are examples of incentive-based approaches which proved to be highly effective in achieving targeted reform outcomes.

The present situation

At present, much of the funding for infrastructure from the Federal Government to states is tied to specific projects, services or programs.

We believe that there are significant productivity and liveability gains to be made if additional funding were to be linked to reform outcomes.

Much of the reform task for Australia's infrastructure lies at the state and territory level. This means that states and territories also wear many of the costs, risks and political pain from reform processes.

We think that the fairer way, the better way, is for the chief beneficiaries of reform to put a financial incentive in place to encourage these nationally-significant outcomes.

A national incentive-based approach aims to overcome these obstacles at the state level in order to achieve coordinated reforms which provide national benefits.

The Vertical Fiscal Imbalance

The Federal Government has a clear role to play in driving the national reform agenda across all governments.

Australia's federated structure means that the Federal Government collects the bulk of our tax revenue and reaps much of the benefits of productivity growth, while states are responsible for the delivery and maintenance of most of our infrastructure.

This vertical imbalance creates a significant opportunity for the Federal Government to work with states and territories to progress reform opportunities and use its fiscal advantage to drive positive national change.

This would also provide additional certainly to state and territory governments in guaranteeing a share of additional funding, which unlike existing grants, is assured on the progression of agreed reforms.

Past examples, like the National Competition Policy payments, showed that incentive payments positively contributed to state or territory government willingness and ability to deliver against challenging reform agendas.

Importantly, this also promoted better cooperation and showed ownership over reform actions between governments.

We have also identified that additional funding should be free of constraints of existing allocations, including from GST calculations. This would allow us to realise wide ranging reforms, unconstrained by state and territory borders.

The economic benefits of robust reforms

So what could an incentive-based reform agenda actually achieve?

To demonstrate the potential impact of this approach, Infrastructure Australia has modelled 5 indicative reforms which are well suited to an incentive based funding approach. They are:

  • Introducing road user charging
  • Reforming the urban water sector
  • Reforming the electricity market
  • Reforming land tax and
  • Franchising public transport services.

These reforms are well suited to an incentive approach because they can deliver cross-jurisdictional benefits and enhance national efficiency and productivity.

These reforms we modelled are of course not a complete list—they are a suggestion and only starting point.

Broadly we recommend that the reform agenda aims to drive efficiency, accessibility and affordability of infrastructure services for all Australians.

The potential benefits for these 5 reforms alone are substantial: our modelling shows that using introducing incentive payments could boost GDP by $66 billion by 2047, representing almost 2% of GDP by that time.

This approach could also deliver a $19 billion ongoing increase in national tax revenue—additional funding which could be reinvested in new and improved infrastructure.

For example, reform in the electricity market remains incomplete on a national scale. The Australian Infrastructure Plan identifies that both private and publicly held assets remain inefficient.

Reform in this sector must go beyond the existing moves some states have taken towards privatisation: it must be broadened to allow the market to dictate more efficient use through a broad range of generation sources. It must also allow for price deregulation to create more competitive retail markets for the consumer.

Infrastructure Australia's modelling indicates that electricity reform would generate an additional boost to GDP in the order of $1.7 billion by 2031, rising to $2.1 billion by 2047.

Land tax is another example of a difficult, yet long overdue reform that could deliver significant efficiency gains under an incentive-based approach.

In our Reform Series paper, Capturing Value, we recommended that a broad-based land tax is not only the most efficient mechanism for capturing value uplift from infrastructure investment, but would also help to remove inefficient land and property taxes, like stamp duties, which discourage the productive use of land, particularly in our cities.

States and territories may require the fiscal and political support of the Federal Government to embark on this difficult, yet beneficial reform.

We have modelled the impacts of a transition of stamp duty to a broad-based land tax, identifying an estimated $20.8 billion increase to GDP, rising to $24.3 billion by 2047.

This is not an insignificant reform. It is one of the most impactful reforms proposed by Infrastructure Australia, and would see a growth in taxation revenue of $7 billion by 2031, increasing to $11.2 billion in 2047.

While these potential benefits are significant, we recommend that the Australian Government work alongside states and territories, who are best placed to identify appropriate reforms, and to further develop the details of a reform agenda.

Concluding remarks

Clearly, these reforms are ambitious, politically challenging and will require a national consensus.

But they are vital if we are to deliver affordable, innovative and competitive services across transport, energy, water, land use and telecommunications.

We will continue to call on the Federal Government to embrace the ambitious spirit of reform, and to embrace the opportunities that come with this approach.

Through our paper Making Reform Happen, we have provided a starting point—it is now up to the Federal Government to begin the conversation with states and territories and outline the nuances of an incentive-based approach.

We encourage all governments to step up to the challenge and put the right incentives in place to deliver necessary change.