Fiscal Council: Government needs to consider the risk assessment in PPP projects more seriously so as to eliminate the risks for the state budget  23 April 2018

The Fiscal Discipline Council's public-private partnership (PPP) project study concluded that the growing interest in PPP projects that effectively enable the development of important infrastructure and services, the government should focus more on the risk assessment of PPPs in order not to cause significant losses to the state budget in the future.

As the study concluded, taking into account trends in the world and available information in Latvia, demand for PPP public sector investment attraction is expected to increase. Consequently, the question is how to ensure risk assessment, quantification and transparency. Currently, publicly available information shows that PPP projects in Latvia do not contain complete information. Consequently, transparency is not ensured, there is no unified management approach and clarity, concludes the author Ilze Brezaucka*, who performed this work as a volunteer of the Council.

"This analytical, large-scale study, based on a wide range of international PPP-related research, is very significant, which clearly highlights Latvia's potential risks of waiting for the country to fail to take into account the serious mistakes made by other European countries in the implementation of PPP projects and indicate possible actions options for how to eliminate these risks," says Mr Platais, Chairman of the Council.

As indicated in the study, PPP projects are associated with an increased risk of erroneous estimates of cash flow and demand by the private partnership, inappropriate allocation of risks between the public and private partner, and lack of institutional knowledge. Therefore, if the government believes that it is able to implement PPP projects that are related to high risk and high probable liabilities, it must be able to, first of all, properly classify PPP projects, and, secondly, to quantify the risks associated with PPP projects by including them in The Fiscal Risk Declaration and ensuring the transparency of these projects.

"PPP projects are legally complex, both because part of the regulation is in the Government's view and because of the specific nature of the contractual obligations. The long execution period of the contract increases the likelihood that it may be affected by the economic and financial crisis and other unforeseen circumstances," says in the study.

The study also emphasizes that the goal of a private partner will always be profit-making, rather than providing public-benefit or government-specific functions, in particular, when faced with obstacles and difficulties during the implementation of the project. It should also be borne in mind that PPP projects can cost more than initially planned and is less transparent compared to traditional investments. In general, governments have a tendency to save large projects, which means that the state budget assumes most of the risks. According to an International Monetary Fund (IMF) study, the cost of unsuccessful projects is very significant.

Therefore, it is essential to assess the benefits of PPPs compared to traditional investments. According to the IMF study, in a number of countries, PPPs have been created not because of their effectiveness, but rather to circumvent budget constraints and postpone fiscal costs for infrastructure services. This has led governments of several countries to low quality of projects and fiscally expensive projects, in the study said.

"The failures of other countries indicate that the lack of attention paid to the risk of PPP projects in Latvia can lead to significant losses to the state budget in the future. The available information indicates that the overall PPP project commitments lack the calculations and transparency that create the basis for failures in fiscal impact and risk assessment," says in the study.

Most countries have improved their PPP strategy, inventory, risk management, and others based on negative experiences. These include Great Britain, Australia, France, Portugal, Croatia, Slovakia, Bulgaria, etc.

The study also emphasizes that in the future, the available funding of EU funds will decrease in Latvia and Latvia's budget possibilities are limited. Consequently, it can be concluded that only a few successful PPP projects are needed to make this funding mechanism more widely available. Therefore, in the context of PPP projects, the government must understand the possible consequences of the decisions that are taken, not only today, but also for future generations. In turn, the public has the right to be informed about the efficiency of the funds used by taxpayers.

The study is available in Latvian here.

*Ilze Brezaucka has obtained a bachelor's and master's degree in macroeconomics at the University of Latvia. Previously Ilze has been working at the Ministry of Finance. During previous working period Ilze was faced with the questions related to fiscal policy as well as budget planning issues. Ilze Brezaucka works at the Fiscal Discipline Council on voluntary basis in accordance with the Volunteer work law. She is helping the Fiscal Council to scrutinize fiscal risk of public-private partnership projects.