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May 1, 2008

FALLING TO PIECES

America's crumbling infrastructure needs $1.6 trillion worth of emergency rehabilitation.

Illustrations by Ken Orvidas

Aging U.S. infrastructure, largely ignored by politicians, pundits and the public until the collapse of the levees in New Orleans in 2005 and a highway bridge in Minneapolis last year, is now a hot topic, elevated at least to campaign-worthy status by two presidential candidates. Sen. Hillary Clinton (D-New York) over the past few months has cited infrastructure restoration as a primary catalyst for a badly needed economic stimulus that would dwarf the $600 rebate checks to taxpayers. She and Sen. Barack Obama (D-Illinois) both have identified infrastructure work as having the potential to create as many as three million new jobs.

Infrastructure needs are well documented and severe. A third of major U.S. roads are in poor condition, reports TRIP, a Washington, D.C., transportation research group. A 2005 report from the American Society of Civil Engineers (ASCE) noted that 27.1% of the 590,750 U.S. bridges are structurally deficient or functionally obsolete as of 2003. The report found that the number of unsafe dams rose by one-third since 1998 to more than 3,500. In the two years prior to that report, more than 67 dam incidents, including 29 failures, were reported. Last year, the Army Corps of Engineers found that nearly 150 U.S. levees are in danger of failure in extreme conditions, such as what happened in New Orleans during Hurricane Katrina.

“We have an unprecedented problem that is not going to go away unless we figure out how to finance the solution,” says Conn Abnee, executive director of Chicago-based National Steel Bridge Alliance (NSBA). “The devil is in the details, but we are looking at a situation we’ve never seen before.”

The possibility for disaster is certainly large, but so is the potential gain for the metals industry. While there’s no consensus among metals-related associations, including the American Iron & Steel Institute (AISI), ASCE and NSBA, as to how much metal will be required to fix the U.S. infrastructure, all agree it’s an enormous figure. Massive amounts of steel, aluminum and ductile iron are used in a wide variety of applications, from roads and bridges to water mains.

Take just one example: the two new high-occupancy toll (HOT) lanes in each direction of a 14-mile stretch of the Capital Beltway system in northern Virginia. The project, due to begin construction this summer, will use 41 million pounds of structural steel for 42 bridges and overpasses, 22 million pounds of steel reinforcement for bridges and walls, 800,000 square feet of stay-in-place metalform work for bridge decks, 75,000 linear feet of steel pilings for foundations and 90,000 linear feet of 18-inch by 36-inch steel-reinforced concrete pipe. Apply those numbers to just the tens of thousands of bridges that need to be replaced or built, and the potential scope of the market is staggering.

Where’s the Money?

But equally staggering is the price tag. ASCE reports that over the next five years, $1.6 trillion worth of remedial work would be required just to bring existing U.S. infrastructure up to a minimum standard of adequacy. That figure includes roads, bridges, rail, aviation, dams, levees, drinking water, schools and the energy grid. It does not include additional infrastructure needed to meet U.S. population growth, which will explode to 420 million by 2050 from 300 million today, the U.S. Census Bureau estimates.

Given the considerable expense, a growing debate in Washington and state capitals now centers on finding a funding model that can cover it all.

The National Surface Transportation Policy and Revenue Study Commission (NSTPRSC), created by Congress under the 2005 Safe, Accountable, Flexible, Efficient Transportation Equity Act: A Legacy for Users, reported that only $86 billion of annual funding is currently sustainable from federal, state and local sources for improvements to highway, transit, freight rail and passenger rail systems. That’s far short of the $241 billion to $286 billion that NSTPRSC says will be required each year between now and 2020 to keep pace with critically important improvements to the country’s surface transportation systems, from roads to rail and ports.

Even worse, the U.S. Office of Management and Budget projects the federal Highway Trust Fund (HTF), created in 1956, will be insolvent—$4 billion short of commitments—by next year. To salvage the HTF, the transportation study commission has recommended an increase in the per-gallon federal gasoline tax, which has been 18.4 cents since 1993, to between 25 cents and 40 cents. Each penny of additional fuel tax raises about $1.8 billion a year, the commission says. But with $4-per-gallon gas already a reality for consumers, Congress likely won’t have the political will to raise the tax, and the White House has said it will veto any bill that calls for such an increase.

Acting Under Secretary for Policy Tyler Duvall, the point man on infrastructure policy at the U.S. Department of Transportation (USDOT), puts the no-new-tax stance in a larger political context that he says illustrates the complexity of the funding challenge. “One of the big problems that [Transportation] Secretary [Mary] Peters has identified is that we do not have an investment model at the federal level that is allocating resources to the places that need them most,” he says. “By need, I mean economic need, not just engineering need.”

Duvall says the worsening problem has grown from Congressional addiction to earmarks, which divert resources to projects such as the infamous “bridge to nowhere” in Alaska. That $398 million structure, championed by Sen. Ted Stevens (R-Alaska), one of the Congressional masters of pork-barrel spending, would have connected Ketchikan with tiny Gavina Island, population 50. Last fall, after two years of humiliation in the international media, Alaskan officials abandoned the project. But it lives on as a symbol of why Washington politics is such a staggering obstacle in the path of a sane and comprehensive U.S. infrastructure policy, says Duvall.

“We need a national vision on infrastructure,” says Ronald DeFeo, CEO of Westport, Connecticut-based Terex Corp., the world’s third largest construction equipment manufacturer. DeFeo sponsored an infrastructure conference at Iona College in New Rochelle, New York, in February, which included such high-profile participants as Rep. James Oberstar (D-Minnesota), chairman of the House Committee on Transportation and Infrastructure; Duvall; and former New York Governor George Pataki. “We need to put the best minds at work to prioritize projects,” DeFeo says. “And when I talk about infrastructure, I’m talking about it with a capital ‘I’—inclusive of energy, airports, schools, and not just roads and bridges.”

New Funding Model

One thing is certain: The old infrastructure funding model is no longer adequate, and with the federal government stymied by ever-worsening budget constraints, the burden will fall to state and local governments to come up with new ways to finance infrastructure.

One of the states at the forefront of that initiative is South Carolina. Among its flagship successes to date is the $600 million Ravenel Bridge, which opened in 2005 and connects the City of Charleston to Mount Pleasant along Highway 17. The project was funded largely by a new state infrastructure bank pushed through by former Republican U.S. Rep. Arthur Ravenel, Jr. Additional funding came from the Federal Highway Administration (FHWA) and a federal loan secured by a local sales tax increase and 25-year payment commitment from Charleston County to USDOT.

South Carolina leads the nation in state infrastructurebank financing, a funding model that leverages a recurring revenue source—$120 million a year in truck registrations in South Carolina—and low-interest federal loans into bonds at a ratio of up to 10 times the underlying dedicated funding. The infrastructure-bank model delivers lump sum financing at the outset, and provides a more flexible alternative to the so-called “pay-as-you-go” model that requires a recurring and dedicated source of annual revenue to pay for ongoing completion of a project. So far, South Carolina has funded $3 billion worth of projects through infrastructurebank financing.

The idea is catching on. As of 2005, 33 states had infrastructure banks, USDOT reports. South Carolina has used its bank to finance projects totaling $2.6 billion—more than three times any other state. Last August, just hours before the I-35 bridge collapse in Minneapolis, Sen. Chris Dodd (D-Connecticut) and Sen. Chuck Hagel (R-Nebraska) introduced a bill that would create a national infrastructure bank. Rep. Keith Ellison (D-Minnesota) sponsored the same bill in the House. Those bills are in committee, and no action has been taken. Obama and Clinton have issued their own proposals for a national infrastructure bank.

However, even if USDOT and all 50 states create infrastructure banks, the total revenues raised likely will still fall short of the huge and unprecedented need for a national infrastructure overhaul. That means that new ideas—and new ways of thinking about infrastructure as a public asset—are needed.

The study commission has come up with models that are more controversial and complex than the simpler infrastructure-bank concept. The commission, for example, suggests that new forms of “user fees” replace the fuel tax as a primary method of funding. Such a proposal gives state and local governments the flexibility to institute tolling, both on new and existing roads, including the interstate highway system. Another NSTPRSC concept, so-called “congestion pricing,” would act as a sort of aversion therapy that penalizes users of gridlocked highways or urban streets at peak hours.

James Kolb, staff director of the House Subcommittee on Highways and Transit, says the cruel irony of these proposed fees is that drivers, in effect, pay a penalty for the incompetence of government to keep infrastructure in good working order. He finds it questionable whether any model based on consumers assuming the financial burden will gain momentum.

If the recent example of New York State is any indicator, it’s not likely. Last month, the New York State legislature killed a congestion pricing initiative proposed by New York City’s Mayor Michael Bloomberg, which called for cars to pay $8 and trucks $21 to enter Manhattan from 6 a.m. to 6 p.m. on weekdays. Opponents argued it was an unfair tax on middle-class commuters and won.

That reality has given life to a new funding model, a public-private partnership (PPP). Here, private capital from investment banks such as Goldman Sachs, financial services companies such as Citigroup, or large construction companies such as Fluor Corp. or Skanska help finance new infrastructure (see “California Schemin’”). Such arrangements typically take the form of a long-term concession agreement, or lease, under which the private entity operates the asset for anywhere from 25 to 99 years before it reverts to the state.

Private Capital for Public Assets?

Perhaps not surprisingly, given that critics say it is just looking for ways to push more financial responsibility onto states and municipalities, USDOT is among the biggest proponents of PPPs. “The whole thrust of the federal [transportation funding] program, in our view, should shift toward unleashing this innovation and capital,” Duvall says.

Viren Doshi, London-based senior vice president at management consultancy Booz Allen Hamilton, shares Duvall’s enthusiasm for PPPs. He notes that the United States lags far behind the rest of the world in adopting the PPP model for large infrastructure projects. For well over a decade, he says, the United Kingdom, France, Spain, Australia, Canada, and other developed and developing countries—now including China, which is building a 53,000-mile superhighway system that will connect all of its provinces—have leveraged private capital for public good. In addition to making available badly needed funding, Doshi adds, a PPP delivers innovation and efficiency, characteristics not often associated with government bureaucracies.

Among the current PPP projects touted as a symbol of the future of American infrastructure is the Capital Beltway expansion in Virginia, which is being financed and built—and ultimately will be operated and maintained when completed in 2012—by a consortium of Fluor Corp. and Australian toll road developer Transurban. The proposal for the project originated from a joint venture of Fluor Industrial & Infrastructure Group, based in Greenville, South Carolina, and Lane Construction in Cheshire, Connecticut.

Other recent high-profile PPPs completed by Fluor-led consortia include a $1.3 billion, 90-mile toll road in Austin, Texas; a $323 million, 29-mile toll road in Denver; and a new $1.4 billion international arrivals terminal at JFK International Airport in New York. PPPs have also been used to build public schools in Washington, D.C., and Virginia; a Metro station in Washington, D.C.; a cruise ship terminal in Galveston, Texas; a light rail transit link between Hudson and Bergen Counties in New Jersey; a monorail system in Las Vegas; and a rail access corridor in Reno, Nevada.

Across the country, state and local governments are looking at a similar private-sector model for building roads, bridges, port facilities, schools, public buildings and airports, says Richard Norment, executive director at the 25-year-old National Council for Public-Private Partnerships in Washington, D.C. Twenty-three states now have PPP-enabling legislation in place, and many that do not are scrambling to put it in place.

Canada is already embracing the PPP model, with a full roster of projects planned, including roads, bridges, rail lines, ferries, water and sewerage facilities, hospitals, schools and courthouses. A survey last fall from the Canadian Council for Public-Private Partnerships, “Measuring Public Reaction to PPP in Canada: A Four Year Report,” found that 88% of Canadians believe their government has failed to keep pace with infrastructure needs and 63% believe it’s time to partner with the private sector to get the job done. “Canada is a very mature PPP market,” says Karl Reichelt, Alexandria, Virginia-based executive vice president, North America, for Skanska Infrastructure Development, which is pursuing a number of Canadian projects, including a bridge in British Columbia. “It has a very predictable pipeline of projects, strong competition among Canadian, U.S. and European companies for the work, and a demonstrated appetite to bid and award a multitude of projects.”

Opportunity for Metal

Given the political and financial intricacies of the evolving situation and the push for more private-sector leadership, perhaps the best bet for metals companies, particularly service centers, to ensure they garner a piece of the infrastructure business is to direct their energy to the local level. “[Service centers] have an opportunity to be a major supplier,” says David Jeanes, AISI senior vice president of market development. “Many of the infrastructure projects are not mill order-type projects. You’re not dealing with General Motors and supplying hundreds of thousands of tons of coil every year. You’re dealing with state and regional departments of transportation that are putting in a bridge here and a bridge there, or a road project that is putting in five miles today and five miles next year. You’re dealing with a lot of parts and pieces that are continually working.

“We can’t pretend we’re going to influence a lot of things from Washington. The bottom line is engagement on the local level.”

Mark Pighini, a principal at Deloitte Financial Advisory Services in Atlanta, stresses that metals suppliers should reach out earlier to become players in the local and regional alliances that typically form among the large construction companies, developers and financiers who pursue infrastructure PPPs.

“What is happening is inevitable,” says Norment. “What the metals industry needs to understand is that we are going through a change in the paradigm. Ever since FDR in 1932, it has been the federal government that provided an enormous percentage of the funds for public works. Eisenhower and the interstate highway system were a continuation of that. But now, public works funds are drying up and the old model is becoming obsolete. But the work must get done, one way or the other. We want to accelerate the process. To do that, we need to work together with industry to get the message to Congress and state legislatures that this must happen.”