Building on East Asia's Infrastructure Foundations

• Author: Ashoka Mody and Michael Walton
• Position: Visiting Professor of Public Policy and Management/Director of Poverty Reduction in the World Bank's Poverty Reduction and Economic Management Network

The halfway measures taken toward privatizing East Asia's infrastructure have resulted in weak corporate governance, vulnerability to crises, and inefficiency. Faced with slowing growth, the region needs to shift its focus to increasing competition and adopting needed regulation.

IN MERELY three decades, a number of East Asian countries have developed extensive and sophisticated infrastructure in sectors such as power generation and distribution, transport, water, and telecommunications. A predominantly public sector effort-in which governments or their agencies have taken the lead in conceiving and financing projects, regulating and operating companies, and delivering services-it often shows the best face of East Asian governments. This infrastructure, along with East Asia's highly developed human capital, will be the foundation for continuing economic growth.

But the world has changed; governments everywhere are feeling the pinch of limited resources and scaling back their activities, allowing the private sector to play a bigger role in the economy. Attempts to privatize infrastructure in East Asia have moved slowly, however, because governments have been reluctant to let go. Privatization has been incremental, with little change in sector structure, and has often relied heavily on foreign financing for projects; the dangers of this approach were highlighted when many projects had to be suspended during the financial crisis of 1997-98 (Box 1). What is needed in East Asia are reforms that open the infrastructure sector up to competition while carving out a new strategic and regulatory role for governments.

Box 1 Private infrastructure on a roller coaster in 1997

In the first half of 1997, private financing of infrastructure in East Asia charged ahead at a hectic pace. After the crisis broke, activity virtually ceased, and important projects had to be deferred or canceled.

Estimates indicate that international equity, loan, and bond financing for private projects in East Asia reached only $6 billion in 1997, down 20 percent from $7.5 billion in 1996. The impact was particularly severe in the transportation and energy sectors in Indonesia, the country most dependent on international capital flows, although project development also slowed in Malaysia and Thailand. In Thailand, a controversial elevated rail project became unviable when property values dropped. In Malaysia, several projects were delayed because domestic financial institutions faced a severe liquidity crisis and the devaluation of the ringgit increased construction costs. In Korea, a high-speed rail project connecting the capital, Seoul, with Pusan, a major port, is being reevaluated. Private investment in infrastructure in expected to decline further in 1998, and lower credit ratings are likely to drive up financing costs.

The achievements

Ample evidence links East Asia's rapid GDP growth to high levels of infrastructure investment. The average developing country invests about 4 percent of GDP annually in infrastructure. In contrast, the high- performing East Asian economies have typically invested between 6 percent and 8 percent. Japan was their model. After a slow start in the decade after World War II, the Japanese government accelerated investment in infrastructure and sustained it at high levels over the next three decades. The rate of infrastructure investment in Korea has been at or above 8 percent of GDP in many years; in Taiwan Province of China, it has sometimes surpassed 10 percent. Hong Kong SAR, Malaysia, and Singapore also have high rates of infrastructure investment.

As a result of these high rates of investment, infrastructure growth has been far more rapid in East Asia than in other developing regions (see table). Korea, which started with relatively underdeveloped power and telecommunications sectors, has experienced the fastest growth, but Thailand has been catching up. The impact is particularly striking when comparing Chile and Malaysia, which have economies of similar size. Although Chile...