FYI on PFI

The collapse of Carillion—the mega-company used by the British government to build and operate things like schools and hospitals under the Private Finance Initiative (PFI)—leaves me conflicted.

The collapse has led to demands from folk like the Opposition leader Jeremy Corbyn that public infrastructure should be built and run by public (i.e. government) employees. And the debate on the subject has also revealed that some of the PFI deals turn out to be a very expensive way of financing such projects.

I’m conflicted because colleagues and I at the Adam Smith Institute had a lot to do with the origination and design of PFI in its early years. But through the 1980s and beyond, the scheme has been a complete dog’s breakfast, and very poor value for money. But let’s not throw the good idea out with the bad prosecution.

The original idea of PFI was this. Public building works were very slow, and therefore costly. In the UK it took an average of 11 years to build a prison that private companies in Australia were building in 11 months. The counter argument was that governments could always borrow more cheaply than private companies, as there was less risk premium with governments. But that was always nonsense. Even if you borrow more cheaply, tying money up for 11 years while a building project lumbers on is clearly going to cost you more. Also, if you are relying on public sector workers, there is no competition to keep down costs and bid up quality and efficiency.

Another thought behind the PFI idea was that the government could pass some risk on to the private sector and encourage market-style decision-making in what infrastructure should be provided. For example, a new motorway could be financed by tolls paid to the builder/operator—who would then have an incentive to keep the road running smoothly and in good repair, and provide any other facility that made road users happier. And it would also encourage firms to come forward with ideas, pointing out where a new road, or new hospital or school, say, was most urgently needed.

But there were three snags. Firstly, the public sector turned out to be very bad purchasers of this kind of deal. Whitehall officials, with very little experience in business negotiation, got totally done over by private companies who negotiated contracts every working day. Is that a failure of the PFI idea? It’s more a failure in the customer. And it is one that could and should have been addressed, but wasn’t.

Secondly, government officials love big stuff. So they looked for big companies who could deliver big projects. Before long, just a few firms like Carillion were completely dominating PFI projects. It’s like the banks—too little competition means companies get too big to be fail without a lot of political fallout. Many of the projects undertaken by Carillion should have been split into smaller contracts with several suppliers, so spreading the risk.

And (thirdly) many of them should not have happened at all. When Gordon Brown came into office, he removed any last vestige of the original idea. Instead, he turned it into a giant mortgage scheme. He could take the credit for getting lots of new schools and hospitals built (regardless of whether the locals thought they were needed) without raising the taxes to pay for them. He simply got private companies like Carillion to put up the cash. Even better for him, that did not even appear as borrowing in the public accounts. But in fact it was merely a disguised form of borrowing. And it would be paid for, not by current taxpayers, but by future taxpayers. That’s a very attractive prospect for politicians, who know they won’t be in office for ever, and paying stuff back will be their successors’ problems.

Most st of the current PFI contracts were signed off by Gordon Brown, a man not known as a radical free-marketeer. That is who we should blame for the dismal outcome.

So I’m against PFI in its present form. It’s a mortgage scheme, not a way of embracing private-sector initiative, talent and finance. And thanks to Whitehall ineptitude, it has turned out a very bad mortgage deal at that. It’s a mortgage deal that we are locked into for a generation, and that future taxpayers will have to continue to finance. 

Could we get back to the idea of private, competitive enterprises financing, building and operating public services? Yes, we could. After all, the government buys its paperclips and computers from private companies. It may not be a very businesslike purchaser, but it could be made a lot better, and contracts could be kept small enough that competition was encouraged. And if we actually got PFI Mark 2 right, it could be very much better value for money than the present mess—and very, very much better value than nationalising everything.