High quality infrastructure, including roads and energy, increases economic growth and reduces income inequality. In several developing countries the public sector does not have the resources to deliver all the infrastructure needs of the country. Governments have turned to the private sector for investment.

During the 1990s one quarter of investment in infrastructure was financed by private firms, and infrastructure became the fastest growing area for private investment in developing countries. But private sector development does not happen on its own, and needs government action. A report from the World Bank looks at the factors in developing economies that affect infrastructure projects, and suggests ways governments can improve conditions to attract more private investment.  It analyses data from 40 developing countries between 1990 and 2000.

The report finds that in a number of areas institutions such as laws and regulations are critical:

• A stable rule of law is important for better private investment
• A higher exchange rate has a negative effect on investment, but strong financial institutions such as stock markets, high economic growth are positive influences.
• High Gross Domestic Product (GDP) per capita also encourages investment.
• Private investment also depends on the quality public investment: countries with a higher share of public investment in paved roads and telephone lines seem to attract less private investment.

Private enterprise is generally thought to succeed in places with low levels of corruption and a high degree of political and economic stability. However, the report surprisingly finds that:

• more corrupt countries attract more private infrastructure investment
• political institutions have an unclear effect on government stability: although better quality bureaucracy helps better investment, private investment seems to be more secure in countries with less civil freedom.

Firms do not seem to always actively avoid corrupt environments. Countries that receive high levels of investment are also some of the most corrupt, such as Indonesia, Kenya, Tanzania and Russia. China, another recipient of significant private infrastructure investment, also has high levels of corruption.

Governments must act if they want to increase private investment:

• Make sure the rules and regulations for investment can be trusted and implemented.
• Focus on increasing GDP to pay for infrastructure services.
• Introduce policies that lead to more stable and effective exchange rates.
• Improve the legal system through better regulation, contract enforcement and a lower risk of asset loss for investors.

In relation to corruption:

• Further research should examine if there are other factors that can explain why corrupt countries have greater levels of private investment in infrastructure.

Source(s):
‘Private Provision of Infrastructure in Emerging Markets: Do Institutions Matter?’ Development Policy Review, 24 (2), pages 175 – 202, by Sudeshna Ghosh Banerjee, Jennifer M Oetzel and Rupa Ranganathan, 2006

id21 Research Highlight: 15 September 2006

Further Information:
Sudeshna Ghosh Banerjee
World Bank
1818 H Street NW
Washington DC
20433, USA

Tel: +1 202 4731000
Fax: +1 202 4776391
Contact the contributor: sgbanerjee@worldbank.org