Y Pwyllgor Cyllid - Y Bumed Senedd
Finance Committee - Fifth Senedd05/06/2019
Aelodau'r Pwyllgor a oedd yn bresennol
Committee Members in Attendance
|Alun Davies AM|
|Llyr Gruffydd AM||Cadeirydd y Pwyllgor|
|Mike Hedges AM|
|Nick Ramsay AM|
|Rhianon Passmore AM|
|Rhun ap Iorwerth AM|
Y rhai eraill a oedd yn bresennol
Others in Attendance
|Alan Bermingham||Rheolwr Polisi, Llywodraethau, Sefydliad Siartredig Cyllid Cyhoeddus a Chyfrifyddiaeth|
|Policy Manager, Governments, Chartered Institute for Public Finance and Accountancy|
|Chris Moore||Cyfarwyddwr Gwasanaethau Corfforaethol, Cyngor Sir Caerfyrddin|
|Director of Corporate Services, Carmarthenshire County Council|
|Jon Rae||Cyfarwyddwr Adnoddau, Cymdeithas Llywodraeth Leol Cymru|
|Director of Resources, Welsh Local Government Association|
|Tim Jones||Cyfarwyddwr, Cynghorwr Ariannol, Deloitte LLP|
|Director, Financial Advisory, Deloitte LLP|
Swyddogion y Senedd a oedd yn bresennol
Senedd Officials in Attendance
|Samantha Williams||Dirprwy Glerc|
Cofnodir y trafodion yn yr iaith y llefarwyd hwy ynddi yn y pwyllgor. Yn ogystal, cynhwysir trawsgrifiad o’r cyfieithu ar y pryd. Lle mae cyfranwyr wedi darparu cywiriadau i’w tystiolaeth, nodir y rheini yn y trawsgrifiad.
The proceedings are reported in the language in which they were spoken in the committee. In addition, a transcription of the simultaneous interpretation is included. Where contributors have supplied corrections to their evidence, these are noted in the transcript.
Dechreuodd rhan gyhoeddus y cyfarfod am 10:16.
The public part of the meeting began at 10:16.
Bore da, croeso i bawb i Bwyllgor Cyllid y Cynulliad bore yma. Gaf i nodi bod clustffonau ar gael ar gyfer y cyfieithu ar sianel 1, ac fe allwch chi addasu lefel y sain ar sianel 0? Gaf i hefyd atgoffa Aelodau i ddiffodd y sain ar unrhyw declynnau electronig? A gaf i ofyn a oes gan unrhyw Aelod fuddiannau i'w datgan? Nac oes, iawn.
Good morning, and welcome all to the Finance Committee at the Assembly this morning. Could I note that headsets are available for the interpretation on channel 1, and you can adjust the sound on channel 0? And could I also remind Members to put any electronic devices on silent? And could I ask whether Members have any interests to declare? No.
Awn ni ymlaen at yr eitem nesaf, felly, sef papurau i'w nodi. Fe welwch chi fod yna nifer o bapurau. Yn gyntaf, llythyr gan y Gweinidog Cyllid a'r Trefnydd ar y Papur Gwyn ar wella trafnidiaeth gyhoeddus; yr ail bapur yn un gan Jim Harra o Gyllid a Thollau Ei Mawrhydi ynglŷn â chyfraddau treth incwm Cymru a'r codau treth, wrth gwrs. Roedd hwn yn fater rŷn ni wedi'i godi yn flaenorol. Mae'r trydydd papur yn llythyr gan y Gweinidog cyllid ar yr un mater, ac mi wnaf i atgoffa i Aelodau, wrth gwrs, ein bod ni wedi cytuno i gynnal sesiwn dystiolaeth ffurfiol gyda Chyllid a Thollau Ei Mawrhydi er mwyn iddyn nhw allu esbonio i ni beth sydd wedi digwydd, yn nhermau y cam godio, ac mi fydd y sesiwn honno yn debygol o ddigwydd ym mis Medi pan fyddan nhw wedi cael amser i ddadansoddi ychydig ar beth oedd achos y broblem a beth oedd hyd a lled y broblem hefyd. Y pedwerydd papur i'w nodi yw ymateb y Cwnsler Cyffredinol i argymhellion y pwyllgor ynghylch Bil Deddfwriaeth (Cymru). Os cofiwch chi, doedd yna ddim eglurder o ran derbyn neu wrthod yr argymhellion yn benodol. Mae hynny wedi cael ei ddarparu erbyn hyn, ynghyd â dwy set o gofnodion y cyfarfodydd ar 15 a 23 Mai. Felly, ydy Aelodau yn hapus i nodi'r rheini gyda'i gilydd?
Therefore, we'll move on to the next item, which is papers to note. You will see that there are a number of papers. First, a letter from the Minister for Finance and Trefnydd on the White Paper on improving public transport; the second, a letter from Jim Harra from HM Revenue and Customs on Welsh rates of income tax and the Welsh tax codes. That was an issue that we raised previously. The third paper is a letter from the Minister for finance on the same issue, and I'll remind Members that we have agreed to have a formal evidence session with HMRC in order for them to explain to us what has happened, in terms of the mis-coding, and that session will likely be in September when they will have had time to analyse the cause of the problem and the magnitude of the problem as well. The fourth paper to note is a reply from the Counsel General to the recommendations by the committee on the Legislation (Wales) Bill. If you remember, there was no clarity in terms of accepting or rejecting the recommendations. That has been provided by now, as well as two sets of minutes of the meetings held on 15 and 23 May. Are Members content to note those papers together?
Ie, dyna ni. Diolch yn fawr iawn.
Yes, there we are. Thank you very much.
Awn ni ymlaen at yr eitem nesaf, felly, y bore yma, sef parhad o'n hymchwiliad ni i ffynonellau cyllid cyfalaf Llywodraeth Cymru. Ac rŷn ni'n croesawu atom ni bore yma Jon Rae, cyfarwyddwr adnoddau, Cymdeithas Llywodraeth Leol Cymru, a Chris Moore, cyfarwyddwr gwasanaethau corfforaethol gyda Chyngor Sir Caerfyrddin. Croeso i'r ddau ohonoch chi. Os ydyw e'n iawn gyda chi, awn ni'n syth mewn i gwestiynau. A gwnaf i efallai gychwyn drwy ofyn, o ystyried bod pwerau cyllidol newydd wedi'u datganoli i Gymru, wrth gwrs, ydych chi'n credu bellach fod gan Lywodraeth Cymru y gymysgedd angenrheidiol o ffynonellau cyllid cyfalaf i allu cyflwyno strategaeth gynllunio gynhwysfawr?
We'll move on now, therefore, to the next item this morning, which is a continuation of our inquiry into Welsh Government's capital funding sources. And we welcome John Rae, director of resources, Welsh Local Government Association, and Chris Moore, director of corporate services with Carmarthenshire County Council. Welcome to both of you. If it's okay with you, we'll go straight into questions. And I'll start by asking, given that new fiscal powers have been devolved to Wales, do you believe that the Welsh Government now has the necessary mix of capital funding sources to deliver a comprehensive planning strategy?
Shall I go first on that? I think it's certainly helped from where we sit as local government. We don't discuss a lot in local government the capital funding sources of Welsh Government and how appropriate they are. I had to go back quite far to look at our submission to the Silk commission, which actually supported at least the kind of flexibilities that local government has, in terms of capital funding and access to borrowing et cetera. So, we were fully supportive of additional flexibilities. So, I think from a position way back in the 2000s, where capital strategy was all about what you could do with a large amount of capital grant—obviously, no borrowing, but a large sector like local government, which did have borrowing powers—. So, from a standing start, there's been quite a lot of progress. So, if you look at the infrastructure investment plan now, you can see quite a wide variety of funding sources that aren't just the traditional capital grants. So, you've got European Union funding in there, you've got certain types of innovative finance—some still see it as funny money—the financial transactions resource, capital funding for city deals, the mutual investment model, of course, and the borrowing that's now set out in the fiscal framework.
Do you have anything to add, or is that—[Inaudible.]?
I think the only comment I'd make a bit further is, whilst, actually, all these innovative funding options come forward, one of the challenges, I think, for local government is that, generally, there is a revenue challenge to the local government. And it's all right to have all these different sources, but it's actually how you match that against the ongoing commitment, in terms of the ongoing revenue challenges, and the demand on services.
And I'm sure we'll come on to some of that in a minute, as well as maybe looking in more detail at some of the sources that have been mentioned. You mentioned the capital strategy, so how effective do you think the Welsh Government's capital strategy has been in addressing Wales's infrastructure needs?
I think it's getting better. And, again, from a standing start, I think we're involved most through the infrastructure investment plan, which sets out—you know, we provide quite a lot of data from local government about what's in our investment pipeline. I still think we need to move from a list of projects and stuff to something that's more strategic—something like what the Scottish Government has just published, literally only days ago: a medium-term financial plan. And I think that's quite an interesting development, really, because, going back years, it used to be—and, again, speaking from a local government experience, before 2003, we were quite constrained with our own capital financing; everything was controlled from the centre. And then, when we had the introduction of the prudential code—I think it was 2003-4—we had more flexibility to borrow, to borrow what was affordable, what we assessed as local government to be affordable, without limits. And what we needed to do alongside that was think more about the medium and longer term, and that's when local government started producing medium-term financial plans. So, I think what we need to do in Wales is start to move towards that kind of outlook. It's certainly consistent, for example, with the Well-being of Future Generations (Wales) Act 2015.
Okay. Alun wants to come in.
Yes. I agree with you about prudential borrowing—I think that's an important element of the powers available to local government. And there'll always be a balance, of course, between borrowing and expenditure—that's just the way life is, isn't it? I'm interested in what you say, Mr Rae, about the Scottish Government's planning. And I wonder how you see that comparing with the work that the Welsh Government has published—the pipeline in terms of the infrastructure planning—and why you would differentiate between the Scottish Government's planning and the Welsh Government's planning.
I think that, whilst the infrastructure investment plan has been moving in the right direction—and you have to read it in conjunction with the budget publication that comes out in the winter—. And I haven't looked in detail, it was only, actually, doing a bit of last-minute research last night that I came across what the Scottish Government had published, literally days ago. It was starting to identify the source of funding for a lot of these projects. As local government, we send back loads of data about—it's almost a kind of wish list of what we think is there, but, actually, the funding for it, in many cases, isn't actually secured. It will be around programmes like twenty-first century schools, but for some of those local programmes that may be funded through prudential borrowing and, as Chris, said before, we have to be—. We’re reliant on whatever the outlook is on our revenue funding to make sure that these things are affordable in the medium to long term.
The other good thing about what the Scottish Government published is that a lot of what they’re financing there up in Scotland is still grant funded—a large proportion is grant funded—but they start to list, then, all these quite innovative—some of them still need to be tested out—schemes. Many may be just borrowing based, but there’s their accelerator stuff and their hub stuff and MIM, which they acknowledge is a Welsh innovation, but it starts to draw out these funding streams as well. They’re small in comparison to the overall grant and borrowing, but at least they’re setting them out in their medium-term financial strategy.
It may be useful, Chair, if we saw that before we have our meetings in Scotland next week.
Yes, maybe we can have a link to that.
That would be very useful, Mr Rae. So, what you're saying, if I could just, for my own clarity, if nothing else—the reason you would differentiate between Welsh Government planning and Scottish Government planning and the reason why you think that Scottish Government planning is a good example to follow is because it identifies the source of funding for projects and not simply the pipeline for projects.
Yes, I think that's key.
So, just for clarity, then, because I was going to ask about the use of—. How can we best use conventional capital funding to maximise capital investment for infrastructure projects? So, would you see this doing that in terms of that prioritisation?
I think it helps—. You need to look at things over the medium to long term, for obvious reasons, when you're borrowing, say, over a 25-year period. The past couple of years, or at least since—. It's not Welsh Government's fault, let's just say. The approach to annual incremental budgeting doesn't really help us. I know there's always been a very strong local government line that we want multi-year financial settlements, but this kind of planning brings it into sharp relief, really. And, as I said, once local government had to start doing this, in terms of prudential borrowing and planning around capital, we had to strengthen our own arrangements, and they've taken a long time, you know. You've taken 15 years to put in robust arrangements around medium-term financial planning. Some may not even be there, some are way ahead, but it takes time.
Okay. Rhianon, did you want to come in?
No, it was just clarity around the differences in terms of the infrastructure investment plan, which you've clarified for me.
Okay, thank you. Mike.
Of course, prudential borrowing is a double-edge sword, isn't it? Because you used to have supplementary credit approval where you actually had the money into your budget to pay for it; now you have to pay for it from within your own budgets.
Yes. So, 2004-05 was probably the first year that local government had the flexibility to borrow. I was looking over evidence that we submitted way back in 2012 when there was a similar inquiry to this. Mike Hedges was probably the only person on the committee at that time. But when I looked back, and in the evidence that we submitted—and I'll send the clerk a link to that if the clerk doesn't have it already—we showed a profile of how prudential borrowing grew over the first couple of years. So, in the first couple of years, I think the profile was that it was maybe £25 million or £26 million in 2004-05. It steadily rises, it doubles and then it goes up to £90 million. And I think for the latest year for which we have outturn data available, I think it's around about £300 million. So, that all has a revenue consequence, and the fear is that, with aggregate external finance or revenue support grant, or whatever you want to call it, having a trajectory that in cash terms is like that, and in real terms it's like that, then the financing starts for capital finance and charges start to silt up revenue budgets.
I think prudential borrowing has given a fantastic advantage to local authorities and allowed quite a lot of flexibility. Things are getting tighter now; there's not so much scope in terms of the revenue funding element that's there. But, certainly, in the first couple of rounds of the education school provision—and I'm going back prior to band A—there was substantial funding moved from the education budget in some authorities to support some of the developments of schools. And that did allow that to happen. But you've got to allow the flexibility around that in terms of Jon talking about the longer term strategy. Yes, we've got a five-year capital strategy—a lot of authorities have got that—but I guarantee that that funding profile that's there at the moment won't be there over the five years. It will move. And in moving, it does allow further flexibility when you consider that sometimes part of the prudential borrowing code is about the sustainability, affordability and prudence of that actual funding source. But, generally, you don't get a capital programme off the ground so quickly, so, therefore, that gives scope then to use some of the revenue money in that one year towards buffering some of the capital programme. And that has certainly advanced in many authorities some of the programmes.
What I would actually emphasise is the terminology of prudential borrowing. Prudential borrowing is the whole borrowing. The key in terms of the problem to local authorities is the unsupported borrowing element of that, because you've got supported borrowing and unsupported within that, and the unsupported is the element. Substantial money has gone into that over the years; it is getting tighter now, and it is a challenge for individuals like me and the other directors across Wales in the fact that the call is ultimately their call—can they afford it? And the more information that we've got in terms of longer term strategies and longer term funding, both revenue and capital, helps that decision making and that planning.
Alun just wants to come in briefly, if that's okay.
I'm interested in that point, Mr Moore. I think it raises a number of different issues. If I understand it correctly, the point that you're both making in different ways—yes, it's a point that's self-evidently the case, of course—is that the totality of revenue expenditure has an impact on the amount you're able to borrow, both in absolute terms and your ability to pay back that borrowing in real terms. And I'm just interested to understand whether you are able to put a number or a figure on the sort of quantum you're looking at, so that if, for example, revenue income declines by, say, 2 or 3 per cent per annum, which is reasonably likely over the coming, say, five years, what impact would that have on your ability to borrow, both in terms of absolute borrowings and the impact on your ability to repay borrowings, and so, therefore, your ability to make use of the borrowing available to you? Do you have a number or could you have a number available to us on that?
We could evaluate that type of information. I think the point to recognise, and perhaps this would be the starting point, is how much prudential borrowing or unsupported borrowing has gone on in the authority. That value is within your base budget. It's within your base budget for x number of years. If we quantify that, then, that means that that's a top slice coming out of any revenue grant. So, therefore, if we've taken a 2 per cent slice of that, it's going to have the 2 per cent slice on the actual capital commitment, which means then that, actually, you're going to actually have to cut other services that are within your scope to do, because you can't cut that borrowing to accommodate it.
Absolutely, but that's as you are today.
But looking forward into the next, say, five years, you know, and you've got a fairly good idea, that the numbers are going to go south, in terms of income, unless you do something, which is your right, to raise tax and what have you, but you also know that that is limited in real terms as well. So, you know that, in 2024, you will have less funding available to you in real terms than what you've got in 2019. You know that. So, that is going to have an impact on—well, I anticipate that it would have an impact—how much you expect to be able to borrow, for the reasons you've given, in 2019-20, 2020-21, 2021-22 and so on. I'm interested as to whether in terms of your financial planning you're able to give us a number or an estimate of the impact that reduction in revenue would have on your future ability to borrow. I know where you are today; it's the future I'm concerned about.
I don't think we've got a national assessment—
I was wondering if you could provide one. I'm assuming—. I know you don't have it off the top of your head this morning—this is evidence rather than examination—but if the WLGA could perhaps do an assessment of some of that and come back to us, I think that would be very interesting for us.
Well, let's see if we can provide that, Chair, yes.
Yes, okay, thank you very much.
Sorry, I didn't want to catch you out.
Some fairly quick questions. Do you share my concern at the amount of money coming in as financial transactions capital, which can only be used as a loan to the private sector as opposed to being able to be used for public good?
Short answer: yes. I think the financial transactions money, the usage of it is a challenge because it's got to be paid back in 15 years' time, but having said that, if it could be used within the local authority area, it could give us some scope. As a very easy example, we are borrowing for 15 years for the city deal money. That financial transactions money could help us and reduce the interest cost there in terms of that challenge that actually is in every authority that is involved in the city deal.
This is the Treasury in action, isn't it? They like financial transactions capital because it doesn't count against the public sector borrowing requirements, whereas if they give it to the local authority it does count against the public sector borrowing requirements. So, it's an off-book transaction. Wouldn't you, if you wanted to do a city deal, you'd have to have a sort of city deal company that would be sort of outside of that? Now, that creates difficulties in its own right, but it also means that companies in part of the city deal can bid for financial transactions capital.
It may well do, but having said that, the question that I've actually asked civil servants, actually, is whether there's any scope around being a bit innovative there in terms of the way that it's used, and is there scope for consideration of wholly owned subsidiary companies of the county councils or local authorities to enable that to happen. You know, it seems that there is a big pocket of money there that actually we can't get out the door as local/Welsh Government. Is there scope around that?
Well, I think the Welsh Government could get it out of the door because they can give it to either housing associations or to the Welsh bank of Wales—whatever they call it. They can get it out through the door; whether they can get it out through the door to use it efficiently is a different answer.
Rhianon just wants to come in on this.
So, briefly, then, in that regard, the answer from the civil servants was what? Because, it sounds eminently sensible, what Mike Hedges has stated.
It's still being considered. The dialogue hasn't gone that far forward yet.
Okay, because obviously that would be an appropriate lever for you to utilise.
City deals are in various stages at the moment, but this—
How diplomatic of you. [Laughter.]
It's a statement of fact, isn't it, in fairness?
I've been at the brunt of the front end. But, yes, working these innovative ideas for the benefit of the public sector, really, is the thing, and there's probably more work to be done on it.
So, do you anticipate any responses shortly in this regard?
I anticipate me talking further to civil servants.
So, that's ongoing. Jon Rae, did you—?
Yes, I just wanted to say, nationally, obviously, it's taken us a couple of years, I think, to figure out how you can use this source of finance innovatively. I know as the WLGA in that same area around regeneration, where it's apt for using this kind of investment there, we're currently having discussions with the development bank about how this source of funding can be used around that kind of area really.
Okay, thank you.
Can I move on to something slightly—?
Oh yes, sorry, very briefly then.
Can I just come back in about the point on civil servants? I've got to admit, I've done a lot of work with the civil servants around some of the city deal funding and the mechanisms, and they have been very flexible and really tried to enable some opportunities to help, certainly in the Swansea city region area where there was no revenue funding coming for some of the schemes, and it was capital only. We have actually structured opportunities that, actually, on the face of it, weren't there, but, actually, we have got there now. Their work and our work on the city deal has been very useful there in terms of that approach. And this is the key thing, really. I suppose the message out of it is that we've got to work closely to get to those opportunities that are around.
That's an important point to make. Okay, thank you. Very briefly now then, Mike, because we need to make progress.
I'm on my next bit.
Yes, I know.
The Welsh Government announced it is in discussions with local government to take forward a new housing investment fund to unlock large-scale sites for development. What is local government's view on it as a project, and are your discussions taking it forward?
I did ask my housing colleague about this. He's on leave at the minute. But other people I asked weren't sure whether this actually referred to the affordable housing supply review, so I'm not sure what announcement about discussions there has been. But if you could send us more detail on that, we could send you some kind of written response. It could be about the affordable housing supply review, it could be about work going on up in the Valleys. And, actually, going back to the financial transactions money and using transactional capital, it could be about, I think, again, something that's been—. We're working with the Development Bank of Wales, it could be something about—. I think there's a fund for unlocking stalled sites for small and medium-sized enterprise housing. So, yes.
If we clarify that with you, maybe you could send us a little note in response.
Yes. I'm quite happy to do that, Chair.
Can I also clarify whether you're talking about the innovative housing programme money?
You are talking about that. Right, okay. Well, personally, I think there's a great opportunity there in terms of that IHP money, and I know that in the next phase they are talking about that coming to local authorities, as opposed to necessarily just to housing associations. That is, I think, a significant opportunity that will unlock a lot of affordable housing.
Speaking from experience, we're having some challenges with a 32-property development at the moment. That had to go to a third-party organisation. If that could have gone to the local authority, because it's our land, because it's ultimately going to be social housing coming into our stock, it could have been more effectively delivered if we'd actually had that scope. So, the moving forward into the opportunity of that coming to local authorities is quite a positive element of flexibility.
Sorry, I should say as well, in terms of high-level discussions around finance, the local government and housing Minister raised this at the last meeting of the finance sub-group, especially about affordable housing in authorities that don't have their own housing stock, or are not landlords.
And finally, we know that the Welsh Government's capital limits are going to be reviewed this year. Do you agree with me that what we really should have is prudential borrowing for Welsh Government? And if we don't have that, wouldn't it be easier for Welsh Government to support the prudential borrowing of local authorities, rather than going through its own borrowing from the private sector at a much higher rate?
I said at the outset that in the evidence the WLGA put to the Silk commission way back six years ago we were fully supportive of the Welsh Government having the same kind of flexibilities that local government has. That has paid dividends, I think, for us in local government over the 15 years that it's been in place.
Thank you. Nick. Thanks, Mike.
Some of these questions have been asked, but in terms of your written evidence and capital planning, on the one hand you're required to approve long-term capital strategies, but on the other hand, the way that the Welsh Government funds you it's very difficult, according to your evidence, to actually make that long-term planning work. So, how do you square that circle? Is there a way that the support that you're offered could be improved so that you're more able to make those long-term planning decisions?
If you look at the dynamic—how do we support it? We support it by actually pulling our own estimates together. If Welsh Government were able to support us in that context that would be substantially better. If you take last year, we had a one-year revenue settlement and a one-year capital settlement. We've got a five-year capital strategy in place and a three-year medium-term financial plan. Obviously, that in itself is a challenge because the bigger components come from Welsh Government, both revenue and capital, and the more informed we are the better the planning can be.
I recognise totally Welsh Government's position and the challenges around the fact that Welsh Government have not got necessarily an informed position from Westminster, and that is a challenge. It's something that we did raise with our colleagues the other day, that there would be benefit in us guesstimating the future together as opposed to guesstimating it independently of each other. So, why don't the 22 authorities all work to one agenda with Welsh Government? Whilst recognising that Welsh Government have got no idea what's coming down from Westminster, at least we're all on the same planning path and we're actually moving in the same direction. That was a consensus that was actually raised the other day.
Because you're all subject to the same problems in terms of the funding for capital projects and trying to make those long-term financial decisions.
That's right, yes. It's like the comment that was made earlier by your colleague regarding the revenue funding: we don't know what the revenue streams are; if we had some idea of where they're going to go over the next five years, that would give us confidence in possibly committing a bit more to unsupported borrowing and capital.
You do know—you don't know in absolute terms, but you know within certain parameters where it's going, and Mr Rae has already indicated that. I'm not sure how that's a very convincing argument.
The point being made is, if you all sat down together and came to some sort of consensus, then everybody would be singing from the same hymn sheet. That's the point, isn't it?
That's right, yes. But it's no more than you don't know what's coming down from Westminster and how much it changes.
Well, the financial planning we know, but, anyway—.
I think the local dynamics that I suffer is the movement between what you're forecasting at the early part of the year, around about July, and what you actually end up with at the end of the year, and getting the engagement of departments when you're saying that, naturally, we've got to streamline services and we've got to do this, and then there's a move in parameters. So, the more accurate we can get the better.
Just to respond to that point, predicting the future is a dangerous game and the WLGA tries to stay out of it as much as possible. We rely on the expertise of Wales fiscal analysis. They look at different kind of options and scenarios for the future. So, we're reliant at the minute on their estimates that tell us Welsh Government budget increases based on the most recent OBR forecasts. The Welsh Government budget increases by about 3 per cent in cash terms, 3.1 per cent over the medium term, which is very similar to what the Scottish Government have in their own medium-term financial plan. But their capital in their—. Going back to that plan, they've got their allocations and their funding over a seven-year period. I think the Welsh Government budget—you know, there's progress there, you can clearly see it; there are three-year indications, I think, for capital and that's useful.
To have a closer discussion once all the authorities and the Welsh Government—
And the Welsh Government. We do have—
Definitely the Welsh Government involved, yes.
And getting the Welsh Government to get an idea across different departments as well. Just looking at our own capital settlement, local government gets about £0.5 billion in terms of its capital settlement, announced annually. There are many, many capital grants. There are large blocks of funding, for example. General capital funding is £170-odd million. There are grants going down to, if I've read this right, about £45,000. So, trying to get an idea across the whole of the Welsh Government of how certain some of these funding streams are over the medium term is tricky and it's something we've raised. We do have a working group with a number of directors of finance and local government finance officials called the capital finance and investment group, and one of the last discussions we had in that group was trying to get a more strategic understanding, I think, of capital funding that's available in the future.
And just going back to how you supplement this with borrowing. I know that other Members have asked you quite extensively on this, but can you elaborate how local authorities can utilise the borrowing powers for funding for structural projects in future? There's obviously going to be more weight on borrowing because of the funds being tight elsewhere.
I've just talked about £0.5 billion worth of funding. If we just talk in broad figures, that's about half of local government's capital spend. So, on top of that funding coming in from Welsh Government, there's funding coming in from capital receipts; maybe it's about £200-odd million. There's the housing revenue account, which is quite separate; it's a separate fund from the general fund. And then, the remainder is prudential borrowing. So, that is subject to the kind of risks that we've already discussed in terms of how sure are we about future revenue funding, and the fact that, sometimes, we're not sure how much prudential borrowing gets—. There may be discussions going on, sometimes even away from finance directors, about schemes where there has to be match funding for Welsh Government schemes—the coastal scheme, for example—and all of a sudden, you'll get a head of service arriving, maybe he's knocking on my colleague's door there, saying 'We need a bit of borrowing to go in with—.' And it's difficult to refuse that. You're getting 75 per cent of your funding from Welsh Government, and you only have to—. On the face of it, it looks like a small amount, but this suffers from the fallacy of composition because my friend here is looking across the whole board, the totality of his borrowing across the authority and thinking 'Well, is this the straw that breaks the camel's back? What do I cut? What proposals do I put to my cabinet to fund?'
And I think the other thing I would say from a local level, from an authority point of view, is don't underestimate the other sources of funding that come in to the capital programme, over and above borrowing—the things like receipts and the usage of reserves, and the other grant funding opportunities, because they're all part of a package that allows you to optimise the spend. And there's always an avenue where you're looking at what are the reserves and why are councils carrying reserves. Part of the reason is to allow the flexibility within capital so that we can actually manage the slippage, and we can manage grant opportunities—and, dare I say, grant opportunities that come through in March that have got to be spent by the end of March. But we are trying our best to manage those through the flexibility of those fundings. Those components—some of the other components like receipts—are quite big funding opportunities within the capital programme over a longer-term strategy.
Okay. Thank you. Rhianon.
Thank you. I don't particularly want to cover ground that we've already gone over. So, for clarity's sake, you've mentioned the medium-term financial planning and Scotland around capital investment strategies. But how do you feel then that local government engages with Welsh Government around these matters? I think you've slightly addressed this earlier. What would you like to see change, or are you comfortable in terms of the current arrangements?
I think, in terms of finance, we have sometimes robust discussions with Welsh Government, but in terms of the overarching central local architecture, under the partnership council for Wales, we have a finance sub-group. So, that's chaired by the Minister and currently the deputy Minister goes along; the Finance Minister is also there. We just had a meeting a couple of weeks ago. And these have always been part of the—
Structurally, then—you don't need to go into how you engage in that sort of fashion. You mentioned earlier about a more 'main menu' approach in terms of the 22 local authorities and, potentially, Welsh Government looking at forward planning. Is there anything you'd want to add further to that? I don't know if you were in complete agreement around that, but—. In terms of your positioning.
I think we are. I think the relationships and the engagement I can't fault. I've got a very good relationship from a practitioner point of view with the senior civil servants, and we are able to engage and talk through the opportunities, the ideas et cetera without any problem. I think the only bit that I was probably alluding to earlier is probably sometimes their scope to take things forward after that dialogue has taken place. But the engagement, I would say, you can't really fault. The 22 treasurers have the opportunity to meet civil servants. We meet as an executive. I've generally met on a one-to-one basis on various issues. I referred to the city deal area—I had a number of meetings on a one-to-one basis to enable some of those things to happen. So, there's plenty of engagement and positive engagement. Sometimes, their hands are slightly tied in what they can do, and that's not their fault as such, and that may just be the fault of the establishment as such, as opposed to anything—. We've got to recognise, whatever we're talking about, is that we're working in local government as a whole, we're working in Welsh Government, and some things—your hands are tied slightly behind your back.
So, you would like to see more alignment in terms of future budgets. Bearing in mind the OBR one year issue.
I think the bit I was alluding to earlier when I was responding over there is that I think there is opportunity for those civil servants in some cases being allowed to engage a bit more in terms of forecasting into the future, which is a challenge because—
It's a huge challenge, isn't it, and you recognise that challenge, but whilst recognising it from a local government perspective—and I want to ask what the WLGA formal position is on what you've just said or if there isn't one—would you like to see more alignment in terms of that medium-term financial plan?
Yes, definitely. Again, from our perspective, and in the particular context of what we're talking about here—capital funding—we have conversations about revenue funding until the cows come home; some will know that. But there are different skills, I think, required around capital planning and forecasting. There might be a handful of people in the Welsh Treasury who have those skills, which is great. That's a lot better than it used to be, if you think way back to—I can't even remember when—there was a strategic capital investment fund, but it was over a decade ago. I think it was maybe one person in the central finance team. Now, there are more people with better skills, but I think they need more and we need that kind of capacity in local government itself, because I think we don't necessarily have it, and that helps with the medium-term financial planning, which is not just about revenue; it actually is about capital as well.
Thank you. So, in regard to what you've already stated in regard to local government borrowing powers and the funding of local infrastructure, you've mentioned that more can be done or more could be made of local government borrowing powers. Is there anything you want to add further to what you've already stated?
I think that we've been very grateful as the local government sector for some of the capital initiatives that there have been in the past—the local government borrowing initiative, for example, was very useful for getting investment in roads. I think we always have to—. If capital is rationed for Welsh Government and there's more flexibility in local government, we're certainly willing to sit down and have that conversation, but it has to be discussed within the—. There are operational limits on how much authorities can borrow. Authorities make their own assessments about those operational limits. So, we have to make those decisions in terms of limits and what's affordable as well, and obviously, what's there in the future is also a major consideration. Twenty-first century schools—we've used that, and, as I said, in the local government borrowing initiative for roads, it's been very helpful.
Okay. So, in terms of that previous agenda—and obviously, you're coming into the next phase now of twenty-first century schools—what lessons do you think have been learnt with regard to that?
I'm not sure whether there is anything as such that—
Generally speaking, you feel that it's been positive.
Yes. Generally, I think, within the local government sector, there's an acceptance that we're working around parameters of Welsh Government, Westminster et cetera, and we do our utmost to actually enable these things to happen and enable the funding to go into places. I can't say that the local government borrowing initiative is, from a finance point of view, the best opportunity, because once the funding goes into the settlement, then as time passes and you amend the settlement, there's going to be an erosion away to a certain extent, depending where the settlement goes, of that value that's in there, because it's not an identified capital funding source in terms of the borrowing element, so—
So, with regard to what Welsh Government, in terms of the levers that it has in terms of being able to improve what's available in terms of the vehicles that are available to local government, is there anything that you can say, from your perspective and your positions—obviously, from the WLGA's perspective also—that could be more enabling in terms of what you have available to you in terms of borrowing?
I think it's more about the planning; the long-term strategy of knowing—
So, you'd go back to that same issue, bearing in mind the constraints—
Yes, that is the only—. I think, generally, Welsh Government do what they can do within the parameters that they're in—
There's no holy grail that you can see that's not being utilised?
No, not really, because the basics of all of what we're talking about in terms of capital funding and borrowing, whatever innovative source you look at—whether it's MIM, whether it's actually PFI, whether it's straightforward borrowing et cetera—they are all elements that actually have got to be paid back in some shape or form. And if you go back to basics, probably the cheapest and the most straightforward mechanism is utilising the Public Works Loan Board, but these others come in for various reasons, and I think everyone in local government accept that and they use them appropriately.
Jon, have you got anything further to say on that?
Right. Thank you. Finally, with regard to capital receipts, what role do you feel they have had in providing capital investment for local authorities and what consideration do you think that Welsh Government should give to utilising such receipts as part of a wider capital funding strategy? I know we've already touched upon this briefly.
Well, I've really touched on that before: they're intrinsic to the whole funding. Any opportunities that we've got where we can gain a capital receipt—. And over the years, the fact that actually the set-aside has been put aside, shall we say, which was limiting the scope, is a positive. Basically, they are all utilised accordingly for the best opportunity within the authority. But they are intrinsic. If you look at our capital programme, you'll see the receipts coming in over the five years.
There we are. Thank you, Rhianon. We need to progress, because time is getting short. Rhun.
I'd like to focus in a bit more on something that's been mentioned a number of times—the mutual investment model. Could you just, Mr Rae, first of all, having spoken relatively positively, I think, about the mutual investment model and what it can offer—could you just give us your assessment of what its benefits are and perhaps some of the downsides?
I think that if you accept that capital rationing exists, i.e. there are limited sources of funding and you can only go to the PWLB, in local government terms, for a certain amount of money—I'm not sure if the Welsh Government go to the national loan board or something like that—then, certainly as local government, we've welcomed MIM. I think we're still in the process of figuring out exactly which authorities are going to plump for MIM-funded projects in terms of twenty-first century schools. I suppose the proof of the pudding will be in that, I guess, at the end of the day. There have been concerns about MIM. Is it different from PFI? We think it is. It's an evolution of that. Now, the downsides are, of course, that the cost of borrowing is higher, but if you accept that there is capital rationing and you need that additional funding, then it's potentially a price worth paying.
Can you explain how it's positively evolved, given the previous concerns about PFI and the general consensus we arrived at that it didn't really offer best value for money for the public purse?
I think it's more just a finance thing, rather than operational contracts. I know that with MIM there's a small element of facilities management. I can't remember how many schemes there are. At one time, there was £30 million-worth of PFI payments going—still going—through the revenue support grant system. Now, whilst I don't think there are necessarily big problems with PFI projects in Wales, and indeed some authorities have gone to great lengths and bought out of them and funded themselves, there were serious value for money issues about almost apocryphal stories about the costs of doing basic tasks around operating schools and hospitals and street lighting, et cetera. I think that's been slimmed down and that's one of the great advantages, plus, with the Government having a share through the equity share thing, it shares the benefits in a way that's not totally private.
In general terms, would you agree with that general thrust?
The MIM, from a local authority point of view, brings an opportunity of additionality to the twenty-first century schools programme. That's the way I look at it, because it's coming along with 80 plus per cent funding for that 25-year period. So, that's a real positive to the local authority. How that works through in terms of the cost to the public sector as a whole and the other funding opportunities at a Welsh Government level is a little bit more of a question mark, because you're obviously borrowing at a higher level but the funding source is coming from Welsh Government.
Another positive from a life cycle point of view is that building, whatever that building may be, will be protected for the 25 years, because it will be prioritised in terms of maintenance and that element of it. A bit of a negative that I see is that it's likely to be on an all-Wales basis. So, you're going to be taking away the opportunity of local contractors supporting the build of whatever's happening in the area, and, yes, there may have been an element of interaction, but if you look at some of the economies, some of the economies through some of the capital funding that's come through twenty-first century schools and other programmes, it's been the making of many local businesses, and, the way that it's been structured now, you're going to lose an element of that as a consequence of it. But there are some pros and cons within that as a whole.
You've gone for some primary schools and a further education college, I think, in Carmarthenshire with MIM.
Can I just correct that? We've gone for some primary schools. Coleg Sir Gâr is within Carmarthenshire county, but it's not our responsibility.
What opportunities might there have been, though, to go through—we'll put the FE to one side—a similar primary school building programme with the local authority just being supported by Welsh Government to borrow through cheaper borrowing channels? Would that have worked better? Or was it just that you didn't have the borrowing limits that could have made it possible for you?
Yes, the answer is that we would have supported that and that could have been an opportunity. If you go back to my original comment, the way I look at it is that it's additionality. So, we've put a bid in for the capital funding—the straight 65 per cent as it is at the moment—and we're hoping to draw down the optimum there. This was an additional opportunity that brought another two schools into the equation, which was giving us 81 per cent funding over the 25 years, and therefore it was additionality over and above the basics. So, if someone had actually turned around and said, 'Well, can you do this another way?', we would have looked at it.
That suggests to me that you would see MIM as a borrowing method or a financing method of last resort.
Yes, that would be a fair comment in the context of where we are, but, from a local authority point of view, they haven't got that decision making as such, because the decision making is linked to the fact that there is an opportunity of 81 per cent extra funding coming in there to support additional schools. We've got a need to do additional schools, and therefore that's the way we're looking at it.
We've literally got four minutes left of our allocated slot, so is there anything—?
I was just going to ask Mr Rae if he would also, in a word, perhaps, thinks that MIM should be a last-resort borrowing or funding mechanism.
Not last resort, but it's certainly lower down.
Okay, thank you.
I think the word 'last resort' is probably wrong. If you link it to the additionality in the context I'm talking about—
I accept that, but in the context of us having talked about what you've already had to pay back, surely you borrow in the cheapest possible way and MIM isn't the cheapest—
Because we don't know the rates of MIM at the moment anyway.
Given the time, I'll ask you to write to us with a response to this question, which will probably be a help to everybody. What we've discussed over the last hour or so has been a single system in many ways. You've discussed and answered questions on the local government aspect of it in terms of prudential borrowing and use of resources available to local government, and there have been questions about the role and the relationship with the Welsh Government. But, essentially, we're discussing different inputs into a single system, and I'm interested therefore in how the WLGA and individual local authorities would respond to having a more centralised approach to some of these issues—for example, contract management, management of individual projects. You said yourself in answer to some questions that, quite often, project management can be a weakness, and we know that project management can be a weakness across the whole of the public sector; this isn't to single local government out in any way at all. So, it would appear to me that the way to maximise the value to the taxpayer would be to ensure that we have a much stronger and more powerful way of managing capital funding and capital contracts and capital projects. So, it would be useful for us to know how the WLGA would respond to that, and perhaps you'd wish to respond in writing in a more measured way than simply answering the question.
I'm going to say something unmeasured.
I would like to comment. The word 'centralised'—I think it would not work in that context. I think you're taking it away from what I referred to earlier as the key of the economy and knowing what's going on. Working together and having a plan for all Wales, yes. But this context of taking it away from the local economies I think would be severely detrimental.
But that's a different matter, isn't it? That's a different matter.
Yes, but it's the terminology that I was trying to clarify.
Because you know and I know—and I don't think you'd even try to argue—that there are 22 different excellent models of project management available to us in local government. I don't think you'd even try to argue that case. So, if you accept that basis, then surely the value for the taxpayer is better if those things are brought together. But, as I said, write back to us on that.
Certainly. We're still learning the lessons of the National Procurement Service, aren't we, and how that's centralising all those—
Yes, but that's a different issue.
I'm not sure the issue we're talking about—. You were talking about contracts and there's a value, I think, in localism that would be the centre of the WLGA's response. But I take your point about having that expertise and sitting down in Wales and trying to do something once for Wales.
I just have one comment.
Go on then. We have 15 seconds left.
As we've actually spoken about it, the way that we're actually anticipating delivering MIM will not have such a great impact on the local economy across Wales, and when you consider the geographical area, I think that's quite key.
Yes, and localism is important. I represent one of the poorest parts of the country; I want contracts to go to local businesses, local employers and local people. I want that, but I also want the maximum value for people who pay council tax, and I think there's a balance to be found there, which we're able to do.
There's a whole other discussion around that as well, I'm sure, which we're not going to have this morning [Laughter.]
We could spend another hour on that [Laughter.]
Yes, indeed. We'll get you back for that another time. Can I thank you both for your attendance and for your very valuable contribution to our deliberations? We will write to you on a few other points. I was particularly interested in some of the alternative mechanisms being used in Scotland, which we might want to ask you about, and there are other things that you've agreed to provide us, which we'll remind you of in correspondence. So, thank you very much.
Diolch yn fawr iawn i'r ddau ohonoch chi.
Thank you very much to you both.
We'll move straight on to our next panel, if we may. So, if you'd like to come to the table, diolch yn fawr. Whilst you take your seats, can I welcome both Tim Jones, who is director, financial advisory for Deloitte, and Alan Bermingham, policy manager, governments, at the Chartered Institute of Public Finance and Accountancy? Thank you, both, for joining us this morning. We appreciate your attendance. We'll go straight into questions, if that's okay. Clearly, we'll no doubt go off on certain tangents at certain points in our deliberations, but I'll start, maybe, by asking whether you think there is a clear picture of Welsh Government's infrastructure needs and whether that picture is clear to potential stakeholders and investors.
Yes, shall I kick off with that one? I think the short answer is yes, I think there is a very clear picture. I think it probably couldn't be clearer, in fact. I've been having another look at your infrastructure pipeline report this week, and it's comprehensive; it sets out the pipeline and it does clearly articulate where the infrastructure gaps are and where the needs are.
In terms of MIM in particular, I think the Welsh Government's been pretty consistent in the pipeline of projects that you are looking at potentially applying MIM to. I suppose, from an investor point of view, I think that's probably the part of that question that I can most directly talk to. From an investor point of view—investors in infrastructure and assets like pipeline—there is a cost in responding to projects like this. So, where investors can see a pipeline, that does increase appetite because they can see that there is a number of projects that they can potentially invest into.
Yes. We've just had evidence there that suggested—. Local government certainly felt that it felt like a bit of a wish list or a list and that it wasn't strategic, maybe, in terms of the prioritisation that they would wish to see. I don't know whether you have any view on that.
Well, I suppose, yes. Given that the kind of infrastructure body that you've set up is relatively new, I suppose my view is that, yes, it's clear, in many respects, that you have a pipeline. That's quite right. It's not necessarily embracing all the aspects of it, so my answer to your question would be 'yes and no'. Yes, there is a clear kind of plan and you can see the capital investment, you can see what's devolved and not devolved, and so on and so forth. There's no indication, I suppose, of revenue consequences of that type of thing; it only seems to be a few years out—you know, 2023, that type of ilk. You've probably already heard that a lot of these costs are going to be ongoing to you for maybe 20 years—things like that. So, it's clear in some respects and not clear in others, would be my view. Yes, you're right, there's no clear kind of—. There is a lot, I suppose, linked towards priorities in terms of the Well-being of Future Generation (Wales) Act 2015 and things like that, but there's no clear outline of priorities or anything like that in it that I can see—what I would call priorities in terms of maybe saying, 'Well, these, for example, are statutory obligations that we're going to have to do and this is the process for maybe prioritising other areas that we want to do, which may generate other benefits or maybe pure investment at a cost to the Government, maybe future returns', or whatever.
And given that there are capital borrowing limits, then clearly prioritisation would help everyone, I'd imagine.
Okay, thank you. Public-private partnership—we can talk about the benefits and the disadvantages. Do you want to just give us a few top lines in terms of the key benefits and key advantages that you think.
Shall I kick off on that? I think the way you've phrased the question there is absolutely right—you need to look at the benefits and the disadvantages. It's not a perfect model and it doesn't work in all circumstances. But, having been involved in the sector for about 17 years, I think I've seen what does work—
The good, the bad and the ugly.
The good, the bad and the ugly, indeed. And I think, in terms of benefits, the on-time to budget delivery is a key bit of it. The incentives on contractors to deliver on time are real. I've been involved in projects that haven't gone to plan on the contractor side of the table, and the incentives from their point of view to hit those long stop dates and to deliver on time and to budget are real, and that is in large part because of the capital structure and the private finance component within the projects. And I think the experience has been, by and large, that projects have delivered on time and to budget, so I think there's a clear benefit there.
I think the focus on whole-life cost management is another piece. I think the experience, sometimes, with more traditionally procured and more traditionally delivered infrastructure projects is that there can be a focus on minimising construction costs to the detriment of the ongoing management of the asset—the ongoing maintenance of the asset. So I think one of the things that public-private partnership has been able to do is drive a focus on looking at the whole-life cost of an asset over the long term and making sure that there's discipline applied in forecasting all of that.
The disadvantages: inflexibility is a key one. PPP should only really be used where you have certainty over the specification and the demand for the asset over the long term. I know the MIM model has looked to address some of that and I know work has been done around the change regime and so on to try and address some of that, but I think we do need to be honest with ourselves that these remain reasonably rigid contracts. Where I've seen authorities come unstuck with these is where the demand for the asset has fallen off over time and they are then locked into a long-term revenue obligation where, perhaps, the utilisation of the asset isn't there. So, you need to be really, really clear about that long-term utilisation. And the related point is that you are locked into a long-term expenditure profile. So, you need to look at that revenue commitment alongside your wider capital programme and look at it in the round and make sure that you're applying sensible, prudent financial planning and looking at all of that holistically.
Okay. Rhianon, did you want to come in?
Very briefly. You mentioned, when you started off your commentary, the infrastructure investment plan, in terms of its clarity of purpose. Previous witnesses have potentially stated that Scotland has linked it to sources of funding. Do you think that that's of relevance in terms of this infrastructure investment plan, in terms of what it's aiming to achieve?
So, linked to sources of funding and whether it's going to be funded through a private finance route, or—?
Well, highlighted in terms of where you can go in terms of vehicles for projects. Do you think that that is missing from this document, or do you think that this is just a clear statement of intent?
I think it does need more of that. I think it is pretty clear on, for now, the projects where a private finance approach and the MIM approach is being considered. That's pretty clear in that paper, and I think the Welsh Government's been pretty consistent in the industry consultation events that I've been at around which are the projects that MIM is being considered for. But I think the point—and others have made it—is well made that I think we'd benefit from some more clarity around the wider funding and how those programmes are prioritised within the constraints and the funding envelope that you've got.
I was going to ask about how the PPP model can offer value for money and help manage project risk. I think you touched on that in terms of the benefits, really. Is there anything else that you want to add? Any other key elements that you think—in terms of particularly value for money and managing risk, really, from PPP?
Well, I think, just to add to the points that Tim's made, generally I think there's evidence from the National Audit Office at least, anyway, that that's correct and, on average, anyway, a PFI project delivered on budget is more likely than for a non-PFI project. There's an argument to say you'd get a better estate from a PFI project, in the sense that it's usually well managed as part of the contract and part of the PFI arrangements. What's handed back to the public sector at the end of the term is usually in better condition because, obviously, it's very easy for the public sector to cut budgets like maintenance and things like that when times are tough.
I suppose, yes, there's the obvious questions about the ones that have gone bad and why they've gone bad—you know, about the costs, the whole-life costs being, I suppose, considered expensive. But in many respects, if you look internationally as well, there's quite a push on PFI and PPP internationally, learning from the UK experience. So, I think you've got to balance this view that PFI is always going to be bad with the view that engaging with the private sector to deliver infrastructure projects is going to be a necessity, at the end of the day; your budgets are so restricted you're not going to be able to do all of this yourself.
And I think CIPFA have probably said in the past—something that I agree with—that you need a slightly wider definition of value for money, which I think Wales is well placed to do, given that you've got a programme for government, the well-being of future generations Act and you've set out your stall that way. So, you have a distinct advantage over, say, the UK Government, in the sense that you know what outcomes you're trying to achieve, and therefore you can make that link.
So, when we talk about a wider definition of value for money, what we're saying is not just a sole focus on the lowest cost for what you're getting. But if you can demonstrate that you've achieved clear outcomes from that investment, well surely that's got to be a big part of the equation of value for money, rather than just the lowest cost, which tends to be the focus these days, rightly or wrongly.
Okay. We'll come on to an evolved PFI with MIM in a minute now, and we'll delve into that a little bit more. Alun.
I'm interested in the structure of funding and financing some of these projects. You'll be aware that the Welsh Government does have access to its own sources of borrowing and funding, and therefore it has a relationship with private investment and private investors that can be both dynamic and very different, according to different projects. I'm interested—. The Finance Minister has told us that they will use the cheapest borrowing first, which is, I think, a fairly self-evidently prudent approach to take. So, how therefore would you see that relationship and that structure of funding? Clearly, different projects will have different risk profiles, and therefore would appeal differently to different structures of funding. So, how would you see that structural approach developing?
If you look at, I suppose, the point that Rhianon made about linking funding to projects, I'd be a little bit wary of that. I'm not saying that it's not an obvious choice in some cases—it obviously is—but it might be fairly obvious and you've already done it in the sense that you're saying that for roads and housing, you're going to use the mutual investment model, so therefore we know there's going to be private finance and support from the Welsh Government. But what I'm saying is if you look at the local government model, in a sense, they're treating their sources of funding and the decisions they make about that funding completely separately from the projects. That's what the prudential regime does. So, they're looking at a pool of resources available to finance capital projects, and they don't necessarily link a loan to a particular asset. That's just, 'Here's the available financing we've got, and we make a decision project by project what source we're going to use. If we've got cash available, we may well use that first until we need to draw down a loan in terms of financing'.
So, the financing is more about the cash management, if you like, rather than being linked to particular assets. And I suppose if you're in the position where your borrowing is limited, which it is—your borrowing powers are limited—and you want to leverage other sources of finance, I suppose part of the way of looking at it is that you can access a big pool of finance. You're going to put this in and you've got all these other sources, but in the meantime these projects are going through this approval process, or whatever, and need finance. But you're drawing down that finance as necessary from the sources that you deem appropriate for those projects. That's probably my view on how you need to look at it, rather than saying, 'All these projects will have distinct financing. If it's a loan or borrowing, it's going to be attached to that asset'. You don't need to do that in my mind, if you like.
Can I pick up on that cost of debt comparison point? Clearly, a policy of seeking to go for the cheapest or lowest cost of finance overall is a sensible and financially prudent thing to be doing, but the one point I would note is that comparing a public sector cost of debt to a private sector cost of finance in a PPP project isn't necessarily a direct apples-for-apples comparison, because you need to take into account that under a PPP approach your contractor is taking on risk. They are taking on risks of construction cost overrun, performance risk et cetera. So, you do need to look to try and value that risk transfer. So, doing a direct comparison between a public sector cost of debt and private finance, all-in cost of finance isn't necessarily apples for apples.
And the final point—and this has been picked up in some of the previous consultation sessions—is that certainly for fairly standard availability payment-style PPP projects, the all-in cost of finance is at historic lows at the moment. We're seeing 4.5 per cent, 5 per cent all-in cost of finance. So, actually, the differential between that public sector cost of finance and the private sector cost of finance is at a historic low, so once you factor in the risk that is being transferred to the private sector through a PPP structure, I think you can, for the right project, in the right circumstances, make a value-for-money argument, which sits outside of that pure kind of budgetary argument around 'Well, we've hit our borrowing ceiling, therefore we have to use PPP'.
Mike has asked if he can come in.
Very briefly. I've heard what you've said, but you're talking about paying, let's say, 5 per cent, and then add on the amount of profit you want to make on the project, perhaps 3 per cent or 4 per cent as a minimum, and you say they'll take all the risk. But, surely the position is that if a project in a single development vehicle is starting to go over cost, they can just close that vehicle down and not make that loss. Developers are either going to tender high, in order to make sure they cover the possible cost of going over, or they are going to do the other thing, which is to look to make claims, or the third option is, if things start going wrong, you just close the vehicle down and get your money back.
Do you want to—?
Well, I suppose you are right, of course, but I suppose that's down to the issue of how you're specifying a project at the start, and how you're managing that arrangement right through. And that is a big part of where the public sector fall down—on the management of those arrangements, and making sure that—. At the end of the day, if you're working with the private sector, you've got to recognise that they are going to do this for a return, and what level of return is acceptable, really, is the argument, not whether there is a return or not. But, managing the stability of key suppliers and things like that, and managing the contract effectively over a long time—because some of these are long term—is the key bit that the public sector fall down on. So, I agree with you that the private sector could do all sorts of things, but it's about the public sector's ability to manage those contracts, and that's how you're going to minimise those risks. You're never going to get away from a risk-free environment, but if we were better at managing those contracts, we'd go some way to achieving that, and we're not.
Okay. Thank you. Sorry, Alun.
Well, it was exactly the same point I was going to come back on, which is about the transfer or risk, because that's at the heart of much of these debates. In many ways, you're paying for the finance, but you're also paying for a sharing of risk. Now, the fact that a significant public sector body is taking on a project already de-risks it in some ways, because you would tend to have a level of expectation that some of the consents or permissions would be available in a way that would be at least planned—not as easily available as some people would think, but at least planned in a structured way. So, you would probably see a reduction in some risk. And, as Mike has said, if you're building a hospital—. And there's a road connecting Nick Ramsay's constituency to my own at the moment, which is significantly over cost. Now, we need to have that road, and you can't walk away from a road half completed, in the same way as you can't walk away from a hospital that's half completed. So, in real terms, that risk stays with the public authority, doesn't it? In absolute, hard terms, that risk stays there. And there are certainly elements around the whole-life treatment, where things that might happen that could be unplanned, unforeseen, in all sorts of different ways. But, at the end of the day, if there is a difficulty with that private supplier, it is the public sector that has to step in and then manage and take over that problem, solve it, and fund the solving of it, if things do go potentially as badly as perhaps they could do.
In extremis, I think you're right. I think you're hinting at things like the Carillion insolvency, and some of the impact that that's had on—
Well, Carillion is actually—it did affect that road, and my constituents have seen the impact of that, quite honestly. But I'm just interested—because I don't want to take a hard, philosophical approach to this and therefore that risk cannot be ever transferred, because I don't think that is the case either, but I'm interested to understand where you think the element of the heart of that lies, where it is fair not just to transfer risk, but to transfer the cost of that as well.
So, I think there are elements of real risk transfer in PPP. I think that risk around construction cost overrun does sit squarely with the operator. And I have worked with PPP operators, investors, that have incurred real cost overruns, and they have had a real—you know, there's been a real impact on the financial performance of those vehicles as a result. And, in the majority of cases, through the contractual framework, and through the risk lower down within the contractual framework, they have to take that on the chin and they can't come back to the authority, cap in hand, and say, 'Well, we've gone 10 per cent over' on whatever cost line it is, 'we need more money'. Where I think you end up with a slightly different dynamic, and I think in the extreme cases—issues like the Carillion insolvency and so on, you then end up in a debate about, well, how do you restructure a project. And often you're then looking at them with reference to some of the termination provisions within those contracts, and you end up in a fairly hard-nosed discussion with your contractor about, well, how can this project be restructured in such a way that it can continue to be built and continue to deliver the sort of economic and social outcomes that you were trying to achieve at the outset without the public sector taking all of that risk back on. And that, ultimately—and I've sat on both sides of the table in those sorts of discussions—comes down to a fairly hard-nosed negotiation. And I genuinely don't think that the characterisation that, in a sense, it all just comes back on to the public sector and the private sector feels no pain—you know, having been both sides of the table in those sorts of negotiations, I don't think that that is the case.
Look, I've sat on different sides of that table as well; I understand the points that you make. But I also understand the point, that, at the end of the day, the buck does stop somewhere. And if you look at different—you know, look at care providers at the moment. There are significant issues there with some businesses delivering care for the elderly, for example. Now, if they do become insolvent, the local authority, whichever body, has to step in, feed and take care of those people. So, there is an absolute—and we all know this—. In those conversations, at the end of the day, the public body cannot simply say, 'Well, we'll take it on the nose, on the chin.'
Just, I suppose, an observation I would make, which maybe feeds into this debate about where the risks lie, and things like that, and the impact some of that can have. I suppose my understanding is that your mutual investment model means you're taking a stake—an equity stake—in maybe a holding company, and there's a project company below it and so on and so forth. Part of those arrangements seem to me that you are giving up an element of control, which is important, because that therefore can help you keep it off balance sheet, which is part of the aim of this. Because there's no element of things like profit capping and things like that. There's no veto over certain things, so overtly you're giving up a bit of control there.
Now, I suppose the traditional PFI contract, if it, say, colossally ran over cost, for example, and that was a risk, obviously, and Welsh Government accepted those costs, ultimately, you would pay for that through the unitary charge over a long period of time. So, the unitary charge would increase, and that's probably how you would fund that excessive cost. If it happens under a mutual investment model, my view would be that, obviously, the way you'd be holding that vehicle is essentially as an equity investment on the balance sheet. Now, any impact of that cost overrun that comes through in the year would equate to a movement in the value of that equity investment, up or down. If it made a profit, you'd get a 20 per cent share of it. If it made a colossal loss, you'd take a 20 per cent share of that in year, rather than spread over 25 years. So, that's a factor to think about as well, because the impact of something like that could be more immediate for you than it would be under a traditional PFI contract.
Okay, well we're coming on to MIM actually, so, Nick, I'll come to you next.
I think we've covered MIM quite extensively already, haven't we? There's a difference between the cheapest option and value for money. We've heard evidence that the MIM model might not be the cheapest, but it could be the best value option. Would you agree with this, and how do you think that it achieves it?
I suppose I'm favourable to the MIM model on the basis that, as I've already said, there's a better recognition in that of outcomes rather than output. What I think I traditionally see is—you know, say like an energy-saving project, with joint private finance and public sector input, it's about how many homes we've gone round and installed insulation to and all that, which is a kind of output focus rather than a measurement of 'this has reduced our carbon footprint by x', or achieved whatever over so many years as an outcome of the project. So, I think the way that the structure of the mutual investment model was being linked towards that is a definite benefit over previous PFI projects, and to me starts that debate about what is the wider idea about value for money. If you can, within individual project specifications, get that down to how that links to well-being of future generations measures and your programme for government, so that market participants can fully understand that, I think that goes a step further to controlling some of the issues over cost, because the market then understands what you're trying to achieve, and those private sector enterprises can focus on that rather than just the outputs and trying to do that at the lowest cost. So, there's a better understanding and a better delivery of what that value for money can be. So, I think it is a movement in the right direction, definitely, over previous PFI arrangements. So, I would support that. However, as I say, you need to rebalance your thinking a little bit on value for money, because by definition it's not going to be lowest cost. But you might get a better quality output.
You said in your previous answer to Alun that, if there's a loss, you'd take it in year rather than spread out over a longer period, as would happen with PFI.
Yes. Because you're—. The idea of the mutual investment model, as I understand it, is that, obviously, this is a way to keep it off balance sheet, primarily. I'm not saying that's the sole reason for doing it, but that's one of the outputs of that model and that arrangement. Obviously, if you keep it off balance sheet you don't have the asset on balance sheet, you don't have the long-term liabilities on balance sheet, i.e. the debt or anything like that. But what you do have is a 20 per cent stake investment in an associated company, if you like, and obviously any future profits or losses that company makes, you take your 20 per cent share of that. As I say, if it was done on a traditional PFI, those cost overruns would manifest themselves, if you accepted it, through increases in the unitary payment once the asset was up and running. But in the situation of equity accounting, which is the accounting technical term for it—
Was that 'equity'?
Equity accounting method. You would take those losses or profits as they arise in year. So, if that was a colossal rise or whatever, there would be a question mark about the impact on your in-year budget, rather than spreading it over 25 years per unitary payment arrangement, potentially.
And what about the impact that the exclusion of soft services and capital equipment has on the value for the money of the project? Is that—?
Yes, I think that's a positive point, because I think, traditionally, what's happened in PFI projects— not that I'm an expert on this area, but, certainly, the softer services, if they're not explicit in the contract arrangements, you're tending to rely on a schedule of rates behind that, and that's where you get this '£200 to change a light bulb' type thing, because it wasn't included in the contract in the first place, and it's just a schedule of rates.
It's a well-worn phrase in terms of PFI. [Laughter.]
So, that tends to be what has happened. So, if you're excluding that, you're just focusing on the construction piece, really, and bringing the asset to its working use. Then you can tender or market test the rest of it, which is probably a better solution.
I was just going to add that I think that's absolutely right. It helps from a value-for-money point of view. I think the other way in which excluding soft services helps is around flexibility. It allows you to be more flexible about how you use the asset over the long term—so, some of the technology fit out and so on within the asset—which goes some way to address that concern about flexibility of PPP over the long term, albeit as I said at the outset that I don't think it gets you fully away from that flexibility issue.
So, I'm getting the impression that MIM compares pretty favourably with PFI, UK-wide PFI models that have been used in the past, in terms of the questions we've asked you, anyway.
Yes. Yes, I would see it as a step forward, yes.
Thank you. Rhianon.
Thank you. So, obviously, in regard to the comments that you made around the in-year potential for both profit and loss, it could be argued and is argued that within MIM that evolvation is protected in terms of the Welsh Government having a director on the board and having that much tighter ability to be able to monitor contracts in terms of those issues, and there's a mitigation around that, and therefore the incentivisation—and I don't know if you agree with this, I'm placing it as a question—then is to monitor and manage those contracts operationally and procurement wise in a much much more proactive, less officially public sector, manner. So, I don't know whether you've got any comment around that in terms of those protections to be able to assess what you've just said, because on the surface it would sound very scary if you had to take a huge loss in one year instead of spread over 25 years. So, my question, if I put it again, simply, is: do you feel the mitigations are in place to be able to effectively have that ongoing scrutiny?
I'm not trying to be deliberately vague or unhelpful, but it does feel a little bit like having a director on the board would be all well and good—you know, sounds great—but on the other side you've also said we're not going to have control—you know, there are no vetoes or anything like that. So, I'm just wondering how much—it's going to be a kind of trusted adviser role, if you like, rather than somebody who's got real power. Because, if they've got real power, you're into this area of control, and that brings things on balance sheet. So, by definition, this director is like a trusted advisor role and is going to be keeping the Welsh Government informed, and obviously going to be persuading and doing all that sort of thing, but, when it comes to hard and fast decisions, they'll be an influencer, not a decision maker, in my view.
But do you see that as a fundamental shift in terms of the predecessors around PFI? Because obviously this is a movement forward.
Yes, I think it's good to have that strategic level input if you're going to take an equity stake in an investment company. To have a director definitely is helpful, I'd just caveat that with the fact that it's a position of less power than maybe you first imagine, if you read into it. I'm seeing it as a position that's less power and more of an influencer.
Can I come in on a couple of points there? I agree with all that. I think one thing it does give you is access to information in a way that I don't think you necessarily get through a more traditional PFI structure. So, you have a seat at the table, you have access to the same information and performance and costs and all the rest of it as the other shareholders in the vehicle do, and I think that is hugely valuable in itself. The other point is this has been done before—so there are, you know, the PF2 programme, there are a number of PF2s that have been signed with Treasury equity stakes within those projects—so, there's some evidence for how that's worked. I think it's worked pretty well. One thing you do need to keep an eye on is the governance of it. It's all very well when things are going well, but if there are challenges, you then end up in a position where you've got public sector in the vehicle as a shareholder but also as a counter-party. I think that can be mitigated, but you just need to make sure the governance around those two very separate roles that Government takes within the relationship are clearly defined and set out.
Okay. In regard to previous witnesses, one of the issues that kept cropping up was that there's that lack of ongoing scrutiny in terms of the old-style PFI, and it was felt that that ability to be able to continually monitor and manage contracts at a more micro level would be important. So, my question around that is: do you feel that the mitigations within the mutual investment model—I know that you said you're not an expert in that regard—are sufficiently robust to be able to offset some of the potentiality for risk that you talked about, in terms of that in-year balance?
I think they are, but I think that one thing, if you want to get into the micro detail of it a little bit, I would be a little bit worried that the person who's going to be the director sitting on those boards has the appropriate skills and expertise to look at some of that stuff, because some of these can be very complex financial arrangements. It might be that that position would be strengthened by something in the contract arrangements or shareholder agreements that alludes to having more open-book arrangements over the finances. That would give the Welsh Government the ability to bring in, you know, a finance person from the Welsh Government or a finance business partner to look at the data and support that director in the decision making and make better financial assessments about the way that project is going. That shifts you more towards managing some of these contracts on an open-book accounting basis, which is no bad thing in my mind, because that's going to give you full transparency on data and finance.
Okay, thank you. And briefly, what type of projects do you think would be suitable for financing with a mutual investment model?
I'm happy to—. Just to pick up on some previous comments, I think projects where you have real certainty over the long-term specification and demand for the asset. That is, for me, absolutely fundamental. So, I think the Heads of the Valleys road project is a clear example of where you can be pretty clear around what the specification and the requirement for that is going to be over the long term. That's unlikely to fundamentally change over the long term. So, I think that is absolutely critical. And I think the other thing I'd say is it has to be a project where appropriate risk is being transferred to the private sector. To come back to the point that Mike made well, that if you transfer risk to the private sector that they can't properly manage, they will just price that in and you don't get value for money. So, that has to be recognised when looking at projects and you have to be confident that the risk that is being transferred is appropriate and the private sector is going to be able to manage that in a value-for-money way.
Okay. Finally, in regard to the advisory service in regard to CIPFA's mandate, what are the main areas in which savings around PFI contracts have been found and to what degree do you feel that this would be applicable to mutual investment models?
I did ask around on that one, so I got a few points back from the people in the know. Yes, one thing they did say was, obviously, that thing about ensuring that there are provisions. Now, this might not be the case in the mutual investment model if you're excluding softer services, but to have the ability to market test those softer services, maybe every three or five years or something like that, is important. Trying to avoid lots of positions where there's a supplementary schedule of rates in the contract for the anomalies that you don't necessarily stipulate. That's one thing. Fundamentally, I suppose, they talked more about the contract management-type controls and approvals over variations, changes, and understanding the financial implications of those. More fundamentally, renegotiation is often the greatest source of potential savings, they say, but that might mean reconsidering the service levels that you've built in—if we're going to redecorate a school every two years or every five years, that type of thing. Getting into renegotiating elements of the arrangement can lead to the biggest savings. There's also whether the private sector have, maybe, refinanced the project some years down the line and, obviously, you're tied in to original contract financing and unitary payment arrangements, whether there's—. You know, they have found situations where the procuring body didn't realise the contract had been refinanced and those savings weren't working their way through to the public body because of the original contract. And, obviously, there's looking at whether it's value for money to actually buy out the contract as well. I certainly know in Northern Ireland, for example, Invest Northern Ireland is a fantastic example of that where their building was built under a PFI project, which they now own as they bought themselves out of the contract. Again, there are caveats to that where there might be penalties in repaying the debts and things like that, but that's certainly an exercise worth looking at as well.
Okay. Thank you.
That was pretty comprehensive.
Some of that has been recognised in terms of the ability with the mutual investment model, to be able to alter contracts on an ongoing basis, to a minor extent anyway. Okay. Thank you.
Thank you, Rhianon. Rhun.
I think most of the questions I'd planned to ask have been answered already. Just to clarify, a couple of things, I think you made it clear that you both think that MIM contracts are more flexible than PFI. Are they simpler contracts as well? Are they better, more manageable contracts do you think?
I think they're simpler to manage from a contract management point of view, and I think that's in large part because you've taken the soft services out. In terms of the contract management overhead on PPP contracts, a lot of that does tend to relate to the key performance indicators and so on around the softer services. So, that is, I think, a clear way in which it does simplify contract management.
And you've addressed the transfer of risk issue, but one weakness of PFIs was an inefficient pricing of equity for projects, meaning high returns for private investors. Do you think that has been addressed, so that there is a better equity pricing mechanism in place for MIMs?
I suppose, if you're going into a special purpose vehicle arrangement as such, which seems to be the case in this, then you may be minimising that risk because that's going to be a bit more overtly obvious what the financing and funding going into that is and what your share of it is. So, in terms of the risk that there's excessive returns, or the costs are too high on the other side, I think it will be a lot more open because of that. So, I think it's less risky.
I think there is an equity funding competition component to the MIM guidance, isn't there? So, we've seen that work well elsewhere on some of the PF2 projects. So, I think that helps drive some greater competitive tension around equity pricing through the procurement process.
I did read somewhere, though, that that might be in question, but—.
Okay, we can follow that up.
Ocê, iawn. Diolch yn fawr iawn. Mike.
OK. Thank you very much. Mike.
I've got three very brief questions. The ones that people will be expecting me to ask have already been answered. The first one is: if you're undertaking a project for the public sector, the risk of default has disappeared, hasn't it? The Welsh Government or a successor would pick up any cost. If you were dealing with me, I could go bankrupt tomorrow, but if you're dealing with the public sector in Wales—either a local authority or the Welsh Government—the risk of default has disappeared. Therefore, that risk doesn't need to be put into the costs.
You mean the risk of default by the contractor.
No, default by the funder. The Welsh Government or its successor will pay the contract for 25 years. You haven't got the worry that in 20 years' time they'll go through and you'll end up with an asset with five years' worth of debt hanging on it.