Better Understanding Local Government Financing Tools

New research from the New Zealand Infrastructure Commission, Te Waihanga, examines the tools local government uses to finance infrastructure investment and how these are being used.

Local government owns and operates over one-quarter of New Zealand’s infrastructure assets. It provides local roads, water supplies and wastewater, and public transport networks. It also provides social infrastructure like parks and libraries.

A range of financing options, but at a cost

"Councils have three main ways to borrow for new investment: borrowing through the Local Government Funding Agency, issuing debt directly to investors and banks, or special-purpose vehicle financing under the 2020 Infrastructure Funding and Financing Act," says Peter Nunns, the Commission’s Director of Economics.

"These financing tools are complementary and, together, offer councils the ability and flexibility to take on additional debt to pay for infrastructure. However, options tend to get costlier as council debt levels increase.

Debt is about spreading costs but in an equitable way

"It’s important to look carefully at what we’re using debt for. Debt may be appropriate to smooth out the cost of large, lumpy renewal projects. However, pay-as-you-go finance is likely to be more appropriate for predictable, ongoing renewal programmes," says Nunns.

"We found that in the past, local government frequently used debt to pay for new infrastructure, which tended to create new sources of revenue. Prior to the 1970s, New Zealand councils were in the business of building infrastructure networks from scratch, unlocking a step change in urbanisation and economic growth.

"Today, councils need to invest much more in renewing and replacing the infrastructure they’ve already got. While essential, this work doesn’t tend to generate new economic activity or new revenue for councils.

"Even with many councils currently raising rates, however, debt is currently rising faster than revenues. If this trend continues, councils will eventually need to cut back future infrastructure investment to service their debt," says Nunns.

Good asset management planning and investment prioritisation is needed

Better asset management and infrastructure planning practices are needed regardless of how public infrastructure providers pay for their investment programmes.

Recommendation 39 in Rautaki Hanganga o Aotearoa, the New Zealand Infrastructure Strategy, emphasises the need to lift the standard of asset management planning and long-term investment planning. This is essential for understanding our investment needs and budgeting for them.

Recommendation 43 in the Infrastructure Strategy recommends rigorous cost-benefit analysis to help maximise the value of new infrastructure to society. This is essential for ensuring that we get the best ‘bang for buck’ from the money that we are investing.

"When we invest in infrastructure, we must think carefully about how we use debt. Debt is most appropriate for new investment that will deliver long-term benefits. Where possible, we should match debt-financed infrastructure with new revenue streams to avoid constraining future investment opportunities," says Nunns.

Key points:

-The costs of building, renewing, and maintaining infrastructure are significant. Since 2002, for every $100 invested in infrastructure, about $24 comes from local government, an average of $3.8 billion per year.

-Local government undertook sustained periods of infrastructure investment from 1920 to 1936 and 1950 to 1970. During these periods, their revenues grew in line with debt, which prevented debt-to-revenue ratios from rising and preserved their ability to make future investments.

-Our current investment cycle - from the mid-1990s on - appears to be the first where local government has significantly increased debt to fund investment without increasing revenues at a similar rate. From 2009 to 2022, inflation-adjusted local government debt grew 226%, but inflation-adjusted rate revenues increased only 42%.

-The difference in how councils invest may be due to a change in our mix of investment over time. Between the 1920s and 1970s, local government was building new infrastructure networks from scratch to serve rapidly growing urban populations. Today, a much larger share of investment is directed towards renewal of existing infrastructure than to growth infrastructure. Investment to incrementally improve existing infrastructure networks is unlikely to drive the same level of economic uplift as building those networks in the first place.

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