In the past, governments had to provide public services because private companies were unwilling to take on the costs and risks associated with constructing capital-intensive infrastructure. Now private companies are demanding contracts that eliminate their risks and guarantee their profits. And because governments that borrow money from development banks have little choice about making the investments themselves, and because many governments are subject to bribes, they often agree to the most extortionate contract terms.
In Ghana, the Private-Public Partnership (PPP) involves a 10 year lease, with the government keeping control of the unprofitable aspects of water supply: the sewerage system, extension of water supply infrastructure, and rural water supply. Full cost recovery was introduced in preparation for this arrangement, meaning that rates escalated. Rates will automatically increase to offset inflation and currency devaluations. In addition the two private companies, which will split the water system between them, will be paid a fee by the government that provides them with a guaranteed return on their investment.
When private electricity companies contract to provide services to the public they are careful to ensure that the risks of such ventures remain with the government. In this way they ensure “the socialization of loss and the privatization of profit”.
In theory, private entrepreneurs are willing to take on risks if the return is high enough, so that the greater the risks, the higher the price they charge. In preparation for the privatisation of the retail sector in NSW the Independent Pricing and Regulatory Tribunal (IPART) decided to raise prices over the next three years to prepare consumers for a privatised market where competing companies need to charge extra to cover their marketing costs, profits and compensate them for the risks posed by the volatile wholesale market.
Independent Power Producers (IPPs) have often managed to ensure that the local government and home nation credit export agencies take most of the risk and yet they have still charged exorbitant prices. Even World Bank analysts admit “that IPPs have often inflated supply prices for utilities”. In the Philippines, for example, the price of power from the IPPs, in 1996—before the Asian economic crisis, was US$76 per MWh compared with US$57 for state-owned Napocor’s power. Electricity prices for consumers in the Philippines are now the highest in the ASEAN Region
Recently water companies have been demanding similar profit guarantees and protection against risks in their contract conditions. They argue that they cannot provide services to the very poor without government subsidies and they cannot bear the risk of currency devaluations in developing counties. Suez pulled out of contracts in Buenos Aires and Santa Fe when Argentina refused to guarantee profits in US dollars.
In Dar Es Salaam, Tanzania, when the government cancelled a contract to supply water and sewerage services in 2005 because the company was not meeting contract conditions, Biwater sued the Tanzanian government in the British High Court and the World Bank's International Centre for Settlement of Investment Disputes (ICSID) for lost future profits of $20-25 million. The High Court instead demanded that Biwater pay Tanzania $8 million in damages, which Biwater has refused to pay. In contrast the ICSID found in favour of Biwater in 2008 but awarded no damages.
Foreign investors eliminate the risk that there will not be sufficient demand for their service by ensuring that the contract guarantees a certain level of revenue or sales. For example Power Purchase Agreements (PPA) generally cover the first fifteen to thirty years of operation of the plant and require that the state utility buy the total output of the plant.
After the 1997 Asian economic crisis the demand for power dropped in many Asian countries but the PPAs required governments to go on paying high prices for electricity that was no longer needed. In the Philippines, power demand dropped and the country was left with an excess electricity generating capacity of over 40%. In Indonesia, there was 50% over capacity in Bali and Java as a result of IPP contracts, forcing the state-owned power authority to stop using its own power plants in favour of those of the IPPs.
If a government tries to introduce competition in the generation sector, the private companies demand to be compensated for their stranded assets. And there is little incentive for new more efficient generators to enter the market whilst the state utility is committed to purchasing power from established IPPs for 20 or 30 years under a PPA. Far from being more efficient forms of generation, “the potential for inefficiencies is substantial if the IPPs meet a large share of the load”.
To insulate themselves from price fluctuations in the cost of fuel, IPPs generally incorporate conditions in the PPA that compensate the investor if fuel prices rise. They may include the price of fuel in the final tariff or index the tariff to the price of oil. In the Philippines and Thailand, where the IPPs mainly use imported fuel, the price of that fuel increased by 50 percent between 1997 and 1998. In the Philippines the National Power Corporation, Napacor, is responsible for supplying fuel to the IPPs.
The risk that local currency might lose value against their home currency is avoided by requiring payments in foreign currency, particularly US dollars, or otherwise the payments are indexed to a hard currency such as the US dollar.
The risk that the state utility may default on its payment because of debts or inability to recoup enough from electricity consumers has also generally been transferred to the local government in the form of government guarantees. Sometimes such guarantees require money to be set aside in advance in special foreign exchange escrow accounts. Often the amount required in these accounts is in excess of PPA payments. For example in Kenya 140% of monthly payments has been demanded for a planned IPP at Kipevu, as well as a letter of credit for three months more. These tactics ensure that the IPPs have first priority in government budgeting, ahead of other needs such as health and education. In other cases governments are required to waive sovereignty and allow companies to appropriate state assets in lieu of debts.