The moderating role of governance environment on the relationship between risk allocation and private investment in PPP markets: Evidence from developing countries
Introduction
Public-private partnerships (PPPs) have been widely used in the world to achieve sustainability goals over the past 30 years. PPPs are a contractual form of cooperation between public and private sectors in the development of infrastructural facilities, and refers to allocation of risks and rewards (Villani et al., 2017). According to the World Bank's Private Participation in Infrastructure (PPI) database5, from 1990 to 2016, Brazil, China, and India are the top three developing countries adopting infrastructure PPP projects. PPP involves cross-sector cooperation, achieved easily with a proper risk-allocation strategy. Risk is seen as an uncertain possibility, and risk allocation refers to which parties assume the risk. Generally, private firms are willing to accept appropriate risks arising from the design, construction, operation, and maintenance of a project, but it is reasonable to assume that a governance environment in a region where the project is located will strongly affect this willingness (Baker, 2016). Governance is defined as the traditions and institutions by which authority in a country is exercised (Kaufmann et al., 2011). Therefore, governance environment is the extent of rules and requirements that have been conformed by individuals and organizations. If a country's governance environment is weak, private firms are exposed to risks of contract cancellation or opportunistic renegotiation (Percoco, 2014). Compared with developed countries, developing countries have greater difficulty attracting private investors to PPP projects, because investors must assume more uncertainty and risk (e.g., demand risk and policy risk) in developing countries with poor governance environment (Birner and Wittmer, 2006). For example, Osei-Kyei and Chan (2017) showed that few local PPP markets in developing countries have attracted a number of private investments over the past decades. Therefore, it is valuable to study private investment in developing countries' PPP projects from a risk-transfer perspective under a specific governance environment, because conclusions could reveal which kinds of risk transfer strategies and governance are necessary to attract private investment to those countries.
In the PPP literature, countless studies have addressed risk transfer or governance. The extant literature is enlightening in many ways, but is not without problems. First, most literature about risk allocation describes how it impacts PPP performance (e.g., success or failure); few researchers discussed whether risk transfer strategies impact private investment. For example, Albalate et al. (2013) showed that the risk to private participants regarding cost recovery is an important driver of private investment in the U.S. water industry. It is necessary to reduce risk to encourage private involvement in PPP projects. Second, most literature focuses on how to impact PPP development through risk allocation or governance, but the interaction between the two fields is still rare with just a few studies focused on both topics. For example, Percoco (2014) showed that governance is important in the allocation of risk to private partners, because a better governance environment positively impacts the allocation of risk to private partners. Third, the extant literature focuses on single PPP case studies, comparative case studies, or small sample investigation studies to develop theories; few use medium to large-N samples to theoretically and empirically explore risk transfer and governance influence on private investment in PPP projects. Conclusions drawn from case studies and small sample investigations are inspiring, but their generalizability is limited.
Consequently, this paper aims to address the following research questions: what is the effect of risk transfer on private investment in PPP markets in developing countries? Further, does governance environment of a developing country moderate the relationship between risk allocation and private investment?
This article proceeds as follows. The next section presents basic assumptions about the relationship among governance, risk allocation, and private investment. Following is the method, the discussion and conclusions.
Section snippets
Risk allocation and private investment in PPPs
Before entering the PPP market in (e.g., in PPP procurement stage), private investors pay particular attention to risk allocation, because sharing or transferring some risks to private partners is one main motivation for governments to adopt PPPs (Girth, 2014). PPP projects have many kinds of risk, including project-level risks (e.g., design, construction, finance, and ownership risks) and market-level risks (e.g., demand and investment environment risk). The allocation, transfer, and
Dependent variable: private investment in PPP projects
This paper explores risk allocation and governance impact on private investment in developing countries. Private investment in a PPP project is measured as the percentage of Special Purpose Vehicle (SPV) owned by private sponsors (percentage private) (Panayides et al., 2015). A SPV is a legal entity created for narrow, specific or temporary objectives. A higher percentage of the SPV owned by private sponsors means higher degrees of private investment. The dependent variable data (percentage
Empirical findings
This study investigated the effects of risk allocation and governance environment on private investment in PPP projects. The empirical models appear in Table 3, Table 4. In particular, Table 3 shows a basic relationship and IV-estimation between risk allocation and private investment. Model 1a consists of control variables only and demonstrates the appropriateness of the control variables chosen to estimate the dependent variable (percentage private). Model 2a reports the results of Tobit
Discussion and conclusion
This study analyzed the effect of risk allocation and institutional factors on private investment in PPP projects in developing countries using the PPI, WGI and WDI indicators provided by the World Bank. The study results demonstrate the significant negative relationship between risk assumed by private partners and private investment. In particular, results showed that the larger the private investment in PPP projects, the lower the risk assumed by private partners. This result is in line with
Acknowledgement
The research presented here was supported by National Natural Science Foundation of China (71303028; 71774023; 71734001; 71702132). National Social Science Foundation of China(16CJY009), and Fundamental Research Funds for the Central Universities(DUT18RW207). We are thankful for their support.
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- 1
His research area includes PPPs, governance and privatization.
- 2
His research area includes PPPs and risk allocation.
- 3
His research area includes PPPs and sustainability.
- 4
His research focuses on PPP.