Strategy

Infrastructure: Crumble city

As infrastructures fall to pieces, government is waking up to the problem.

Two years ago, the neglect of Quebec’s bridge system came under scrutiny when five people died in the collapse of a Laval overpass. In July, massive rock slides on the Sea-to-Sky Highway in British Columbia had many questioning the road’s safety, and the 2010 Olympics are just around the corner. Among the critics, the Chinese media skewered Premier Gordon Campbell with harsh and legitimate questions during the Beijing Games.

Both mishaps were frightening reminders of how much we take for granted that the bones of our nation — the roads, bridges, water supplies and energy grids — are in safe and working order. Yet recent reports from a variety of sources warn that Canada’s aging infrastructure is showing the strain of delayed maintenance, and it will take hundreds of billions of dollars to fix.

But the true cost of crumbling infrastructure is harder to measure. Potential damage to a region’s reputation, and the impact on economic growth, can be intangible, but just as big a problem to repair. Indeed, failing to care for infrastructure has already made Canada less competitive, says James Brox, an economics professor at the University of Waterloo. In a study released in August, Infrastructure Investment: The Foundation of Canadian Competitiveness , Brox says Canada’s productivity has declined amid an infrastructure growth slump. During the 1990s, productivity in Canada and the United States was equal. By 2006, U.S. productivity was 20% higher, says Brox, noting that the Americans boosted infrastructure spending by 24% between the mid-1990s and 2006, while Canadian spending dropped 3.5%.

Brox estimates $200 billion is needed to repair existing facilities and build badly needed new ones, such as highways, port facilities and sewage treatment sites. “Canadian competitiveness and our status as a developed country depend on a modern, efficient and well-maintained public infrastructure,” says Brox.

Ottawa finally recognizes there is a problem. In the 2007 budget, the Harper government promised $33 billion in infrastructure funding over seven years through a program called Building Canada. But most agree that’s just a drop in the bucket compared with what’s needed to bring the country’s largest assets up to snuff. A study released last fall by the Federation of Canadian Municipalities warns it will take $123 billion to repair existing municipal infrastructure — not including things such as hospitals, schools, military bases and highways that are owned by other levels of government — and calls for another $115 billion in new funding. That report, Danger Ahead: The Coming Collapse of Canada’s Municipal Infrastructure , warns that the bulk of Canada’s infrastructure was built in the 1950s and 1970s and is nearing the end of its useful life. It also notes that years of poor maintenance have taken a toll.

Such studies might seem alarmist, but the concern is widespread. Even Canada’s insurers have weighed in on the issue. In August, the insurance industry reported an increase in water damage claims, which it blamed on the relatively aged state of Canada’s sewer systems, estimated to be between 60 and 65 years old. A useful lifespan of a sewer system is considered 75 years.

The problem, quite simply, is that Canada doesn’t spend what it once did. The adjusted dollar value of all Canada’s infrastructure stock grew until 1996, when it began to fall. Brox attributes the drop to debt-reduction strategies by provincial and federal governments. He also notes that public infrastructure spending, as a percentage of GDP, has fallen to just over half of its average value between 1960 and 1970. But infrastructure deterioration is most tightly linked to a change in how the projects have been funded. The fed’s share of infrastructure has plunged over the past 50 years: from 26.9% in 1955 to 5.3% in 2007. That has left municipal and provincial governments holding 54.9% of infrastructure costs in 2007, up from 26.7% in 1955. Brox argues that while it is sensible to have some infrastructure under local jurisdiction, local revenue sources have not “kept pace with expenditure requirements, and the result has been a tendency to allow existing local infrastructure to deteriorate.”

And as the economy contracts, so has spending. While Keynesian economic theory calls for extra investment in depressed markets to stimulate job growth and boost the economy, that’s a tough strategy for politicians to sell. Roger Gibbins, president and CEO of Canada West Foundation, an independent think-tank based in Calgary, notes that people cut back when times are tough but are slow to invest in good times. For example, Ontario Premier Dalton McGuinty in August was quick to add that his government’s new $1.1-billion injection into infrastructure wouldn’t be repeated: “The economic challenges we’re facing mean I can safely predict I won’t make this kind of announcement 12 months from now,” he said. To the envy of the other provinces, oil-rich Alberta has been pouring billions of its energy windfall into infrastructure, even setting up a capital fund for future projects. But Gibbins points out that the province’s spending is coming when building costs have reached dizzying levels.

Some critics argue that Alberta caused part of its inflationary problem. The province spent little on maintaining its roads, schools and hospitals in the 1990s as it eliminated its deficit and wiped out its debt. But that strategy left a massive backlog of repairs and a list of needs and wants for thousands of people pouring into Alberta seeking a piece of its economic bonanza. Public-spending projects have to compete for skilled workers who are already in high demand, pushing construction costs even higher.

Whatever the reason behind the shortfalls, people want to feel safe going to work in the morning, and businesses don’t want to locate where there are infrastructure problems. The federal government cites research that “inadequate public infrastructure tends to drive away foreign investment more so than quality investment attracts private infrastructure. … Eighty per cent of multinational executives believe that poor infrastructure quality affects Canada as an investment decision.”

The recent closure of the Sea-to-Sky Highway after 16,000 cubic metres of boulders fell on it is negative publicity Canada doesn’t want. Any more infrastructure trouble could cast a blemish on Vancouver as it prepares to host the world in less than 18 months. The Olympics are expected to give Vancouver between $1 billion and $2 billion worth of new infrastructure assets. Gibbins notes that Calgary’s economy was stressed when the city hosted the 1988 Olympics, but the infrastructure investments made on light-rail transit and legacy sports centres are considered valuable assets that are still paying dividends today.

But it will take more than one-off sporting events to turn things around, and there are signs that the senior levels of governments are waking up. Ontario, Quebec and Saskatchewan are among the provinces that have made recent multibillion-dollar infrastructure commitments. The feds are sharing revenue from a gas tax and encouraging public-private partnerships or P3s. Federal Finance Minister Jim Flaherty last November called on private companies to open their pocketbooks and help boost the government’s $33-billion investment up to $100 billion. The use of P3s must now be considered for all projects costing more than $50 million under the Building Canada program. British Columbia and Ontario have also set up organizations to manage P3 projects, and Quebec last year announced it would favour private involvement in its Foundations for Success infrastructure plan.

“It’s a different approach compared to the previous wave of infrastructure investment in the early 20th century,” says Krista Hill, partner at law firm Tory’s LLP and co-head of the infrastructure and energy group. At that time, infrastructure projects were funded and managed by the government.

While some worry that accountability and transparency will be lost with the private sector’s involvement, there’s no question more money would become available. As the private sector scoops up multimillion-dollar contracts, investors are eyeing the sector as a lucrative investment opportunity. The past two years have seen phenomenal growth in infrastructure, says Hill, noting that investment funds have been set up by Goldman Sachs, the Carlyle Group and Morgan Stanley. Infrastructure is also a logical investment for pension plans because of their long-term and inflation-hedge characteristics. Ontario Municipal Employees Retirement System started the Borealis Infrastructure arm in 1999; the Ontario Teachers’ Pension Plan has invested in infrastructure since 2001; and the Canadian Pension Plan Investment Board started an infrastructure group in 2006.

CIBC economist Benjamin Tal says years of under-spending in Canada’s infrastructure assets have created a huge investment opportunity for private companies. “With both public and private money now pouring into the sector at an unprecedented pace, Canadian infrastructure companies are entering a golden era, with growing pricing power largely offsetting any cost pressures,” Tal wrote late in 2007. “Profit margins and valuations will continue to respond accordingly.” A New York Times article in late August emphasized that one of the benefits of P3s was the investment opportunity, and heralded one of Canada’s biggest pension plans, OMERS, for getting an early start and reaping a 12.4% return on its $5-billion infrastructure pool.

But fixing the infrastructure problem also requires money to be set aside for upkeep. Tal says reducing the annual maintenance from 2% of the asset’s original cost to 1% reduces the project’s lifespan by 15 years. He estimates Canada dedicates less than 1% to asset upkeep. That’s just not going to cut it.

The Canadian Urban Transit Association alone says $40.1 billion is needed to fix and build new transit systems to carry commuters through 2012, but also stresses the need for long-term sustainable funding to care for those systems. Quebec’s Foundation for Success plan earmarks $23.4 billion — or 80% — of its investment between 2007 and 2012 for asset maintenance and pledges to establish an annual budget of $5.9 billion to maintain assets within five years. The plan acknowledges that governments have neglected infrastructure for “many years,” and estimates it would take 15 years to “upgrade all public infrastructures to the condition they should have been in had the budgets required for asset maintenance been allocated to them in the past.”

And that’s just for the basics: roads, power grids and water systems. Increasingly, things not traditionally associated with economic development, such as green spaces, easy access to recreational activities, restaurants and arts activities, are being considered part of an infrastructure package, says Karl Seidman, senior lecturer in economic development at the Massachusetts Institute of Technology in Cambridge, Mass. Many companies have recognized they must be in cities that are good to do business in, but also be where employees want to work, and that means having improved social amenities.

A region with the right infrastructure in place will grow, but failing to repair crumbling infrastructure could have dire consequences. At risk? Business with the U.S., our largest trading partner. Each day, $1.8 billion in goods and services crosses the border, relying on functional infrastructure to ensure that 36,000 truck trips, 1,500 airline flights and 300,000 people keep moving.

“Infrastructure is one of these things that if you don’t have it, it will hurt you,” says Kevin Stolarick, research director at the Martin Prosperity Institute at the University of Toronto. It’s difficult for people to get excited about infrastructure, since it’s something you don’t always see and because it’s a big-ticket purchase with a long-term payoff. It fades into the background until something goes awry. Then it’s a scene stealer.