Paul Diggle
Hello and welcome to Macro Bytes, the economics and politics podcast from Aberdeen with me, Paul Diggle. Infrastructure is one of the foundations on which economies are built. Roads, bridges. railways, energy grids, sewer systems. All of these and more are critical not just to daily life, but to the functioning of the economy, businesses, financial markets. And here at Aberdeen, we invest in a broad swathe of infrastructure. And on the economics team, we've just published a detailed piece of research estimating future global infrastructure needs. And they are substantial, at least $64 trillion over the next 25 years. Well, I'm joined by the main author of this report, Robert Gillhooly, Bob, to talk about the role of infrastructure in the economy, why future infrastructure needs are so high, and whether and how it all gets funded and built. Welcome, Bob.
Robert Gilhooly
Thanks, Paul. Great to be here.
Paul Diggle
So, Bob, let's start by talking about why infrastructure is so crucial from an economic standpoint.
Robert Gilhooly
Yeah. I mean, you kind of mentioned some of this at the start. You really do think of quality infrastructure improving potential growth for the whole economy, boosting productivity. So, for example, you know, when you've got good infrastructure, you can lower the cost of producing goods. You've got a lower cost of moving them around the country. This kind of then more broadly kind of filters through this kind of vast network of interconnected firms and individuals, such that everyone benefits.
Paul Diggle
How does the level of existing infrastructure, the provision, look different between, say, developed markets and emerging markets? Who has the bigger needs there?
Robert Gilhooly
Yeah, look, it' s typically emerging markets, particularly those with rapidly growing populations that do have the largest infrastructure needs. You know, typically speaking it does vary a lot of course, by country, but infrastructure is generally of a kind of poorer quality in emerging markets. So, there's kind of a double dynamic here if you will, of you needing to raise infrastructure per head, per person and then also just having more heads of the population, as the countries swell. But you could add on top of this, you know, there's also big structural changes happening within emerging markets. So, as workers migrate from rural jobs with relatively low productivity to higher wage jobs in urban areas, you know, you need a lot of building a lot of infrastructure there within cities to kind of correspondingly rise to take on this kind of, mass migration from rural to urban areas.
Paul Diggle
But people often talk about the quality, or the lack of quality, in many developed markets as well. It's a perennial complaint in the UK, in the US. How does the infrastructure provision look in those sort of economies?
Robert Gilhooly
Yeah, it's definitely not just an emerging market only story. You know, in our research, we think emerging markets might be sort of about two thirds of the infrastructure investment need around the world, but that still leaves a very significant chunk for developed markets. Many developed markets, we think, face, what we term as very substantial infrastructure gaps. So, in some cases reflecting you know, years of sub-par investment. US public sector investment, you know, was historically low for most of the 2010s. So, it's perhaps no surprise that infrastructure in the US was given a C rating in its last report card by the American Society of Civil Engineers. You know, they concluded that many roads, airports, schools, the energy sector were all judged to be in poor condition, and they were only given D ratings. And the American Society of Civil Engineers also noted, actually, you know, structural integrity of some critical infrastructure such as dams and levees also being kind of increasingly affected by extreme weather events, which have become more common and probably likely to become so again in the future. So, there's an element of kind of climate proofing, if you will, that still needs to happen across most of the world.
Paul Diggle
Okay. So, you've written this report, Bob estimating as you said global infrastructure gaps - future needs. Tell us a bit about how you went about actually assessing the amount of infrastructure that's going to have to be built in the future.
Robert Gilhooly
Yeah. Look, it's a difficult one. Data limitations actually make this a very difficult task, even just to estimate kind of how much countries are spending on infrastructure in the past, let alone in the future. So, what we've done is we followed some groundbreaking work by the Asian Development Bank that occurred about six years ago and is fairly well known, and that uses a kind of combination approach of panel models. I won't bore everyone too much with the details, but effectively, you know, we're trying to account for things like how is global growth - and country growth - likely to evolve. How is structural change within economies likely to evolve? So, for example, shares of manufacturing sector might require more infrastructure. And as I said, this kind of development angle where emerging markets, as they urbanize, will also need kind of much more, infrastructure spending. So we use this effect of this panel model to try to project these forwards. We've previously done quite a lot of work on global growth. So we can kind of combine these two research strands together. And that gives us our kind of projections, for world infrastructure needs.
Paul Diggle
So, it's great modelling work. I'll post the report in the show notes. People can dive into that if they want. But what's the headline number? Well, I already said it. It’s $64 trillion. But you know how big is that?
Robert Gilhooly
Yeah. It kind of sounds like a huge number. And in many ways, it kind of still is. But, you know, to give you a bit more context there, that's worth around about kind of spending about 1.7% of global GDP, each year. If you want something more tangible, be the equivalent of kind of building the Tokyo Olympic Stadium again, but more than 45,000 times, over. And I’d probably also just point out, you know, again, this is partly a data and research issue, but we're just considering, like a subset of infrastructure. If one was to take a kind of broader definition of infrastructure which would say include health, education or even defence you know, the numbers would be way higher.
Paul Diggle
So, what is the specific subset of infrastructure that you've looked at in the work?
Robert Gilhooly
Yeah. So, we included a variety of transport metrics. So here we've got road, rail, airports and ports. Then we've got most crucially probably energy generation capacity. And then we've got kind of a couple of other utility measures, around, health and also kind of broadband infrastructure, which is kind of a bit of a proxy, if you will, just to think about kind of how some of those kind of technology aspects might need to evolve.
Paul Diggle
Great. Well, to make this all a bit more concrete, earlier, I spoke to Sameer Amin, who's an infrastructure investor here at Aberdeen, to understand some of the infrastructure he is investing in. Let's hear from Sameer.
Sameer Amin, you’re Head of Concession Infrastructure here at Aberdeen. That means you're investing in social, economic and government infrastructure projects in the UK and globally. Tell us a bit about some of those projects and the broader economic benefits that they bring.
Sameer Amin
Thanks, Paul. I think it’s probably helpful to go back to first principles. When governments use this tool, concession financing, it effectively entails the public sector going to the private sector and reaching for whole asset life solutions, often encompassing the design, build, finance, operation and maintenance of a critical and essential piece of infrastructure over its useful life. And in return for entering into that contract, agreeing to pay for the agreed services that are provided. The tool used, therefore, is done on probably the most critical and essential forms of infrastructure. We tend to think of it through three key channels, critical public services - and by that we're referring to hospitals, schools, social housing, government accommodation. And we've got some great examples of that right across the UK. We’re in the process of delivering a new hospital in Velindre in Wales. The second key channel would be transportation - which obviously speaks for itself. And I suppose our most recent example is the new crossing under the River Thames that is the Silvertown Tunnel. And then the third and probably fastest emerging sector being, which is I suppose overarched by the thematic of decarbonization, which in many ways can be so broad. But if I try and bring it to life in the case of a biomethane plant that we're investing in in Deeside in northern Wales, where we're effectively taking food waste and processing it to deliver a green gas, which is then burnt to deliver green electricity. And we're contracting that with a Toyota manufacturing plant, which is on a mission to achieve net zero. And for me, they probably give you three great real examples of how our financing tool, concession infrastructure is delivering real time solutions in the UK economy.
Paul Diggle
So, Bob, we heard there from Sameer about the sort of infrastructure he's investing it included roads, hospitals, all sorts of different physical infrastructure. Tell us about some of the drivers of rising infrastructure need. You talked about populations, about development paths, about structural changes in the economy. But, you know, tell us about the other forces that are playing into this big future requirement for infrastructure.
Robert Gilhooly
Yeah. Look, I think we can kind of roughly break this into two parts. So firstly, you know, it's just very costly, if you will, to keep the world moving. Investment in transport infrastructure remains very large. Investment in the road network, we think is going to make up the bulk of kind of global expenditure on transport, probably worth around $28 trillion across both emerging markets and developed markets. That largely reflects what we think of is likely to be a sort of 7million kilometre expansion in the global road network, but also just the high maintenance costs of existing roads. So, for example, you know, we don't think the road network in Europe actually needs to expand much given its kind of relatively muted population growth trends and a large existing network. But the substantial existing network comes with very large maintenance costs, meaning is still one of the largest infrastructure expenditures in the world, coming in at 1.8 trillion. And then secondly, and, you know, this is what we think of as the largest new driver of investment spending is kind of keeping the lights on, generating, you know, investing in electricity generation capacity to. So here it's really a combination of kind of rising power needs associated with just growth in the economy and structural change. But then we've also got to kind of factor in other things like the electrification of transport, the pivot towards renewable energy and those sorts of factors really increase where we see kind of electricity generation capacity investment needing to go. You know we've estimated global power generation capacity might need to rise from over 8000GW to over 21,000GW by the middle of the century, and that's going to cost, we think, around about 27 trillion dollars. And that's a very substantial rise, maybe around about 20 trillion more than the expense over the past 25 years. So, this is really, if we want to talk about infrastructure gaps, this is really the largest gap relative to kind of current expenditure.
Paul Diggle
Yeah. So that huge rise in power needs - and that's partly about technological change as you said Bob, AI is extremely power hungry to power the data centres, the enormous compute power required. The electrification of the transport grid requires a lot of a lot of electricity as well. But tell us how the shift to renewables actually increases the total energy requirement or sort of the total capacity required of the grid.
Robert Gilhooly
Yeah. That's right. So, this pivot towards renewables, it just means you've got to spend, more upfront to kind of replace an equivalent amount of thermal power so be that gas or coal. And that does do a lot of the work here in driving, driving our projections higher. You know, technical term here is that renewables have a lower ‘capacity factor’. But put simply, you know, the limited window of sunshine per day, the vagaries of wind mean that you effectively need to in store larger capacity to kind of produce, collect and store energy. Whereas, you know, coal can obviously be burnt 24 hours a day, very easily. I mean, to give one example here, we're thinking China illustrates this dynamic, very, very well. Absent a move to renewables, you know, we would have expected electricity generation capacity to rise from about 3000GW in China to a bit over 5000 by 2050. And that would be largely a kind of structural change and growth story. But the lower capacity factor of renewables means we actually expect China's generation capacity will need to rise to kind of probably somewhere around about nine, nine and a half gigawatt mark.
Paul Diggle
Okay. And then defence spending is another crucial driver of this infrastructure requirement, the infrastructure that's required to build defence capabilities. But even just the roads and transport needs that you might need to deploy troops or material across a country, or a continent Bob can we afford to build all this, though? Or put another way, can governments, which are increasingly facing high debt levels, higher interest service costs, can they afford to fund these infrastructure needs?
Robert Gilhooly
Yeah, it's going to be a tricky one we think for governments to do all the heavy lifting here. I mean, the good news is, you know, some things like renewable costs we think should continue to fall. We assume these fall by around about 20% in real terms over the next 25 years. Compared to the falls we've actually seen recently, maybe there's some risk that that's actually kind of too pessimistic and the price falls could be greater, as they have in the kind of more recent past. But even if they're kind of more in line with this, this 20% assumption, we think power projections, you know, still imply this kind of grid roll out will at least get less expensive relative to GDP, over time. And regardless of the building costs, you know, which we focused on in this report, there's very substantial operating savings from, of course, not having to buy coal or gas to burn within these. So I think in that sense, you know, yes maybe these debt loads raise a question about kind of how aggressively governments pursue climate goals. And these could be hampered maybe by kind of these other priorities around defence, historically high debt burdens. But I think the economics, around the kind of combined construction and operating costs, points to, you know, an ability and a willingness to push forward with the renewable roll out in particular.
Paul Diggle
We heard from Sameer about the concession funding model that he operates under, in particular, as a way to bring private sector capital to bear on public infrastructure needs and funding those needs. I think that that's a crucial part of the puzzle as well, isn't it?
That while governments have a big role to play, both as a provider of capital, they also have a huge role to play in crowding in private sector capital, creating the incentives, the contracts, the backstops and loss mitigation, the playing field, the certainty, the rules of the game which will all together crowd in private sector capital into this space as well. Well maybe I can reframe my earlier question, Bob, which is can economies countries, governments afford not to build all this infrastructure? What will be the cost of not fulfilling these infrastructure gaps that you've identified?
Robert Gilhooly
Yeah, I think it's really one of the productivity drag and the drag on long run growth thatit would entail. I mean, if we flip it around the other way, you know I thought it was quite an interesting World Bank review done a couple of years ago. It actually found that each dollar of public infrastructure spending generated around about $1.50 in additional economic output. So, it suggests there is a kind of positive feedback mechanism. Now, I think it would be too far to say that there's like an easy virtuous cycle that can be tapped in between infrastructure and growth. But, you know, not investing it as I said, kind of comes with this cost to productivity. While at minimum I think this feedback mechanism should kind of temper the costs should still be improving debt dynamics, should still be giving, potential growth a boost. And when you've got stronger potential growth, you know, your debt dynamics just will look better. So, you know, there you go. There's the kind of, reason to go for it.
Paul Diggle
Yeah, lots of positive reasons to be funding and for filling these infrastructure gaps. All right. Robert Gilhooly, Bob, thanks very much for joining us. Thank you for listening to the podcast. Please don't forget to like and subscribe on your podcast platform of choice if you haven't already. Macro Bytes is going to be on summer holidays for the next month or so, back in August, where we'll be analyzing the ongoing developments in macro and markets. Until next time, goodbye and good luck out there.
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