Annex B - Capital Maintenance: The Economic Benefits
To assess the evidence around the potential economic impact of capital maintenance as compared to overall infrastructure investment.
How Capital Maintenance Enables Sustainable Economic Growth
In 2018 the Scottish Government published a report prepared by OCEA examining the economic rationale for infrastructure investment. The report identified five main channels through which infrastructure enables inclusive and sustainable growth:
- Supporting the Foundations of Economic Activity – infrastructure underpins economic resilience, provision of lifeline services and the effective operation of the economy.
- Demand Side Economy Impacts – the construction phase of infrastructure projects is an important source of employment and can provide wider supply chain benefits that support economic activity across the country in the short to medium term.
- Supply Side Economic Impacts – Infrastructure spending can enhance the productive potential of the economy, if investment is effective, through improving its supply side.
- Market Impacts – Facilitating the development of key sectors and technologies; improving private sector competitiveness; and unlocking private sector capital.
- Social and Environmental Impacts – Reducing regional disparities; reducing emissions and improving environmental quality; and improving health and wellbeing.
Capital maintenance has the potential to support inclusive and sustainable growth through the same channels as identified above. For example, maintaining flood defences to ensure they remain operational supports economic resilience.
However, the relative importance of the different channels is likely to differ for capital maintenance when compared to new build infrastructure and supporting the foundations of economic activity is likely to be relatively more important for capital maintenance. This is because as the condition of any part of the asset stock diminishes, there is greater risk that we will not be able to continue to use its services at current levels. This in turn affects our ability to sustain the existing pattern of economic activity.
The relative importance of the other different channels is likely to vary too for capital maintenance when compared to new build infrastructure. For example, the relative impact of capital maintenance on the supply side of the economy will depend on the current state of the infrastructure. If the infrastructure is in relatively good condition then capital maintenance is unlikely to have a significant impact on the productive potential of the economy. In contrast, if the services that infrastructure is able to provide have become unpredictable, for example electricity outages or road delays, due to a lack of maintenance then investment in capital maintenance would be expected to have a significant impact on the supply side of the economy.
On the demand side impacts, the lower values of projects for capital maintenance as compared to new build infrastructure may enable more SMEs to compete for individual contracts and therefore potentially increase the distribution of the employment benefits across Scotland.
The Extent to Which Capital Maintenance Impacts on Growth
There are a number of studies that have attempted to estimate the impact of infrastructure on economic output, however there is limited evidence exploring the relative impact of capital maintenance.
Both the IMF and the National Infrastructure Commission highlight a paper that suggests maintenance is likely to have high a rate of return. The paper highlights that in the short run infrastructure in bad condition imposes costs on users while in the long run, failure to maintain infrastructure in a timely fashion leads to greater costs of rebuilding. The paper’s evidence is mainly drawn from the World Bank and is focused on more developing countries and therefore the empirical results may not be directly comparable to Scotland. However, the paper does suggest that there is an optimal level of expenditure in maintenance that can have a positive impact on growth.
As part of the 2011 National Road Maintenance Review Transport Scotland commissioned the Transport Research Laboratory to assess the economic, environmental and social impacts of changes in maintenance spend on roads in Scotland. The study found that pedestrians were most affected by a reduction in road maintenance, for example through impacts on noise, air quality and accidents. It was estimated that for every £1 reduction in road maintenance there is a cost of £1.50 to the wider economy.
At the macro level, modelling by the Scottish Government estimated that the National Infrastructure Mission could lead to a sustained boost in Scottish GDP by between 0.5% and 1% by 2025-26, depending on the measure
of the economy used.
Over 15 years, this is equivalent to increasing the economy by between £10 billion and £25 billion (2017 prices) depending on the measure of the economy used. This modelling focused on an increase in Gross Fixed Capital Formation (GFCF). GFCF is defined as excluding “ordinary maintenance and repairs” but it does include “improvements to existing fixed assets beyond ordinary maintenance and repairs”. Consequently, the modelled potential economic benefits of capital maintenance would be the same as new build assuming that revenue maintenance captures ordinary maintenance and capital maintenance results in improvements to existing assets beyond this and therefore forms part of GFCF.
There is limited quantitative evidence on the relative economic impact of capital maintenance as compared to building new infrastructure but evidence suggests that capital maintenance does have as high a rate of return. It is expected that spend on capital maintenance has the potential to impact on the economy through the same five channels as identified for overall infrastructure investment, with supporting the foundations of economic activity being particularly important but the relative impact of other channels may vary depending on the current condition of existing infrastructure.
Assuming capital maintenance increases GFCF the economic benefits are expected to be consistent with those modelled for overall infrastructure investment. However, as with overall infrastructure investment, the balance of investment between different sectors and markets will determine the precise level of economic benefits realised from increasing capital maintenance.