Infrastructure report: Why governments should focus on public net worth—not debt

Chancellor Rishi Sunak said in his March Budget speech: “We need to build the infrastructure that will lay the foundations for a new century of prosperity. We need to grab the opportunity to upgrade, to improve, to enhance, to level up.” Accordingly, the new government has promised to increase gross capital spending by £90bn over the parliament, bringing investment levels back to the average in rich economies and to higher levels than 2010-11.

In short, infrastructure is back in fashion. This will be good for growth. But it also matters because if infrastructure investment is done well, economic justice and prosperity can go hand in hand. The government can strategically invest in gaps not filled by the market, and in doing so increase growth and reduce inequalities. Infrastructure investment can connect so-called “left- behind” places to growth opportunities elsewhere. And green infrastructure will be essential to help the government meet its 2050 net-zero target. But for these benefits to materialise, the government must assess and make decisions in the right way.

Traditionally, when people think of government investment, they think of big infrastructure projects such as building highways or electricity networks. And over much of the 20th century investment in such assets was indeed a huge catalyst for growth. This legacy explains why the Treasury’s Green Book defines infrastructure as “the basic physical structures and assets needed for the operation of our society and economy.” The National Infrastructure Commission similarly focuses on the “structures and facilities” needed for growth.

But the 21st-century economy requires a different type of investment too. Growth will likely come from knowledge industries, services, science, creativity and care. Government investment needs to put in place the infrastructure to support the private sector to take advantage of the growth opportunities in those fields.

This is why a debate has emerged on what should be considered infrastructure in a modern economy. Increasingly, research in this area also focuses on “social infrastructure,” such as educational and healthcare buildings. Yet, this still often relates to physical structures. In the case of investing in a science cluster, it is not the buildings that boost future benefits, but the people in it. The Office for National Statistics has acknowledged that such “human capital” as well as “natural capital” might have to be included in infrastructure decisions. But current policy practice is still far away from using such a definition.

Another weakness in the apparatus of good decision- making is the metric used to assess the value of an infrastructure project. In the 1980s and 90s, a focus of the government’s fiscal policy was to reduce the amount of gross debt, regardless of what this debt was “used for.” This led to the privatisation of many state-owned companies and the sale of assets such as social housing, as the revenue from sales could be used to achieve a lower debt figure. This approach completely disregarded the value of government assets, including direct future revenue streams as well as other potential economic and social impacts of keeping those assets in public hands.

After the 1990s, the approach was somewhat broadened, with the aim being to reduce net government debt: the value of government debt minus the value of easily sold “liquid assets” that the government owns. Often these assets are the government’s cash holdings, or when the government owns shares in companies, such as when it bought shares of banks during the financial crisis. Why did governments start to take such easy-to- sell assets into account when thinking about debt? The reason was that when they got into trouble with their debt, they could easily sell off those assets and repay their debt with the receipts. This thinking meant that governments usefully took into account some of their assets in decisions over investment. The problem with this approach was that it only included easy-to-sell assets and ignored some of the investments that are most useful for the economy such as hospitals, schools, or social housing, precisely because they cannot easily be sold.

"The UK has negative public sector net worth—no one in the private sector would consider this successful financial management"

Because they are so economically useful, any fiscal paradigm should allow for such investments in illiquid assets because they can be good for the economy and can generate a future revenue stream in increased taxes. Global economic institutions have already adopted this idea. Both the IMF and the OECD have said that many countries across the world can afford increases in public investment, including in infrastructure, precisely because it grows the economy. They have highlighted that—when spent well—such investments can pay for themselves, through future tax receipts.

Therefore, there is a strong economic case for adopting the notion of public sector net worth. This would enshrine in government thinking the notion that public investments should be encouraged if they generate value. This can include public investment in physical infrastructure (from public transport to hospitals) as well as non-physical infrastructure (such as research and development).

When we take public sector net worth as the relevant measure of the health of the public finances, the results of decisions taken to reduce public debt come into stark relief. The UK performs poorly internationally, and actually has negative public sector net worth right now. No one in the private or third sector would consider this to be successful financial management—or indeed, only consider one side of the balance sheet.

There are many candidates for smart spending to generate value. To reach its own 2050 net-zero target, the government will need to commit an average of £33bn in climate investment each year of this parliament, primarily on physical infrastructure such as electrifying transport, insulating homes and switching to renewable power. The rewards for these investments will be multiple—including greater efficiency, lower heating costs, and ultimately a sustainable economy.

So, too, the government should invest in non-physical assets, such as skills—including where workers are at risk of being left behind from the transition to net zero. Rather than having a tangible asset value, such investments boost future growth which improves the governments’ balance sheet.

Sunak is right that the time has come to “upgrade, to improve, to enhance, to level up.” But we also need to upgrade our economic thinking. Infrastructure is more than just buildings. We need to invest in people, in places and in communities. And we need a fiscal framework that acknowledges that public investment can create valuable assets for future prosperity and justice.