Public-private Risk Transfer: Public-private Partnerships, Long-term Contracts and Price Discovery

by Frédéric Blanc-Brude
Abstract:
This thesis is about risk sharing between public and private sectors for the delivery of public infrastructure services. It focuses on the so-called Public-Private Partnership contracts (PPPs), through which the public sector contracts out for several decades the construction, financing and operations of public infrastructure projects. I examine three main questions: 1 The efficiency of risk transfer in PPPs 2 The impact of the of source of finance on efficiency 3 The determinants of the price of risk transfer. I show theoretically and empirically that the cost of risk transfer in public projects is likely to be more than just the `individual rational’ cost of risk bearing of the firm but also includes an information rent for the `efficient’ firm. Long-term risk transfer contracts like PPPs are thus a case of ex ante efficiency achieved at the cost of ex post inefficiency. I also show that private finance plays a role in such contracts insofar as the financial structure of firm influences incentives. PPPs are `project finance’ transactions in which banks play a key role; as such, they are a case of multi-principal agency and debt financing partly determines the effort and rent of the firm. I show empirically that the public sector pays a price for risk transfer reflecting the actuarially fair price of insurance of its own risk in public projects rather than the cost of risk of the firm, which suggests that the state is `risk-averse.’ The difference between the firm’s cost of risk and the public sector’s willingness to pay to transfer risk is a rent for the firm. When this information rent is significant, I also show that the public benefits received from long-term public-private risk transfer contracts are more likely to accrue at the portfolio level than at the project level.
Reference:
Public-private Risk Transfer: Public-private Partnerships, Long-term Contracts and Price Discovery (Frédéric Blanc-Brude), PhD thesis, King’s College London, 2008.