PPP Development Stage – Identifying Constraints
5.2 What are the possible constraints on the PPP?
As a first step, governments can evaluate existing legal systems
to ensure that their country's enabling legislation has the
appropriate corporate and commercial laws in place to support private
investment. Even where the appropriate legal environment is present,
the government may lack experience in terms of preparing, negotiating
and implementing this type of arrangement. Such a lack of capacity
can also be an issue. In this regard, governments need to consider
carefully the specific type of PPP that they wish to pursue and
promote in light of the particular legal and economic conditions
that already exist in their country.
Some potential constraints on PPPs are described below under
the following headings:
- 1. Legislative and regulatory environment
- 2. Institutional constraints
- 3. Financial constraints
- 4. Contract-related constraints
- 5. Capacity constraints
- 6. Public sector experience
- 7. Perception
- 8. Time frame
1. Legislative and regulatory environment
Aspects of the broader legal and regulatory environment for
services can act as significant barriers to the PPP. For
example, accounting laws and practices, laws governing construction
contracts, public works laws and conventions and so on may
be inappropriate for private sector participation. Where this
is the case, such laws and practices should be reviewed carefully
and, if necessary, amended or modified to accommodate and encourage
private sector involvement.
Distortions in the overall incentive environment (the tax regime,
import restrictions, labour laws, along with banking, foreign
exchange and foreign investment restrictions) and excessive
regulation and restrictions can also inhibit private sector
participation. The cumulative effect of regulation is of profound
importance. A single restriction or barrier may not constitute
a particularly important impediment, but the cumulative effect
of many even indirect barriers can be such as to deter the
active entry of new firms to the market.
Therefore, before a particular partnership opportunity for
the implementation of a project is approved, the service
must be examined in detail to ensure that there are no legislative
or regulatory barriers to the PPP. If this step is ignored,
significant investment in time and money can be spent developing
a partnership only to find that it cannot proceed in the current
In particular, parties to a partnership arrangement should
understand how the regulatory regime affects the delivery
of services to the poor, and should take this into account
when designing their activities. Thus, partners should seek
- what regulatory constraints or barriers may affect planned
partnership activities? and
- what regulatory constraints or barriers are currently affecting
the main service provider’s ability to serve the poor?
This should allow the partnership to either ensure that
the PPP activities will not be subject to a regulatory
barrier, or to frame their objectives and activities
in a way that addresses existing regulatory constraints directly,
or circumvents such constraints altogether [Tool
New role of the private sector
In many countries, private sector involvement in the provision
of basic services is a new concept. As a result, policies
need to be adapted in such a way that they actually promote
First and foremost, the legislative framework should set
out to provide the local government with considerable flexibility
to enter into public-private partnerships. Second, different
degrees of legal sophistication are required depending on
the extent of the private sector involvement that is desired.
For instance, whereas some private firms may be willing to
enter into operations and maintenance contracts without the appropriate
enabling environment, few firms will be willing to make long-term
investments where the legal framework does not specifically
address their ability to provide public services. In cases
where the legal framework is inadequate, there has been an
increased focus on concession contracts as a means to enable the
government to enter into long-term contractual agreements for the
delivery of public services.
Similarly, many legal systems do not allow lenders to take
security on public assets, which makes it difficult for commercial
banks to extend long-term finance to these types of projects.
In general, lenders are reluctant to provide long-term finance
if a country's legal system does not allow assignment of
the rights of the concession or some sort of “step in” arrangements
in the event of default on a loan.
In determining whether an opportunity is suited to a public-private
partnership, the government needs to recognise the interests
of the potential private sector partner. One of the incentives
that will attract private partners is the ability to minimise
the amount of tax they will be required to pay.
It is likely that municipalities will have to investigate
tax-related obstacles on a project-by-project basis. As these
issues are complex and subject to ongoing change, the PPP
management team may wish to seek outside assistance for this
part of the analysis.
Establishing the rules of the game
A clear definition of the ground rules is essential if the
operation of the project is to be successful. If organisational
and individual roles are not defined explicitly, this may
cause problems during the implementation of the project.
The major reason for the difficulty in establishing a level
playing field between public and private companies is that
the private contractor’s costs for service provision are often
different from those taken into account by the public sector. Private
service providers are often at a competitive disadvantage when
compared to public sector providers since they have to recover
all their costs, as well as pay taxes and make a reasonable profit.
Public utilities, by contrast: often operate at a loss; receive
subsidies in the form of grants, concessionary loans, use of public
land, staff time and other resources; do not usually pay taxes;
and receive abundant assistance in project planning, design and
financial packaging from external lending institutions. Competition
for public utilities may be infeasible unless they are subject
to a non-subsidised, full-cost recovery regime.
Local government policy
The local government’s policy for the provision, financing
and cost recovery of services will be a key factor in assessing
whether or not it views public-private partnerships as an
acceptable approach to service delivery.
If, based on the government’s fundamental values and policies,
public-private partnerships are not seen as a viable or accepted
approach to service delivery, it is clearly not in the community’s
best interest to proceed with individual public-private partnerships.
More commonly, local governments will establish policies
that identify the circumstances (for example, the type of service,
or a particular component of the service system) under which
public-private partnerships may be considered.
In addition to the local government’s servicing and financing
policies, municipal managers must also consider the implications
of the partnership for other policies, including land use and development
policies, human resources and economic development. Efforts should
be directed only toward advancing proposals that are consistent
with established local government policies.
2. Institutional constraints
Institutions are central to partnerships – barriers that
evolve at this level are often linked to the internal organisational
and bureaucratic structure of the partners.
Institutions that are focussed on the delivery of services
often prioritise project activities ahead of partnership
exercises. Thus an unwillingness to commit resources (including
both funding and time) to partnership building – as opposed to project
development – has proven to be an issue for many projects.
Recognising a situation whereby resources can be pooled specifically
to further partnership development can help address this.
Other barriers exist in terms of institutional processes. Those
documented in partnership literature include:
- poor planning;
- a lack of information (or an unwillingness to share information);
- a lack of leadership;
- unequal involvement of members; and
- a lack of commitment and negative publicity.
Strong, equitable governance structures and deliberate
attention to partnership processes (as
discussed in this Toolkit) can help reduce these obstacles.
Turnover of officials
Replacement of the officials involved might cause there to
be little internalised learning around the key issues,
nor around the opportunities and constraints of the partnership.
In any contract, a gap in skills is created when those responsible
for launching the partnership arrangement are voted out of
office. The officials left making decisions about the contract
need to be supported with targeted capacity development.
3. Financial constraints
Deregulating, implementing new structural reforms and managing
private entry are both politically and technically difficult,
particularly as many infrastructure services such as
district heating, electricity and water are heavily subsidised.
Although governments recognise the long-term economic need
to raise tariffs to allow for cost recovery and long-term sustainability,
it is frequently politically impossible for them to raise
tariffs quickly. As a consequence, governments may wish (in
the short-term) to provide subsidies to support cost recovery in
some of projects [Tool 13].
Municipal financial constraints and a desire to leverage public
funds are often primary motivations for the PPP. However,
there may be a number of barriers to the successful financing
of the project by the private partner. For example:
- private sector financing may not be able to compete with
public sector financing for the type of service or project
being considered (in such cases, public financing or borrowing
could be a better option);
- the project might not be financially self- sufficient;
- the support (co-financing, subsidies, supplies, equipment),
which the private sector expects from the government,
might not be available; this would make the financial
costs prohibitive for the private partner.
Although there are some PPPs where the public sector's role
is limited to that of regulator, in others the public sector
plays a more commercial role, either by providing subsidies
or by acting as a commercial counterpart.
- 1. The public sector may provide subsidies where it is politically
impossible to raise tariffs. Here there is a need for
multi-year budget appropriations, which can increase the perceived
risk of the project, particularly if there is no history
of PPPs in a country.
- 2. Where the public sector acts as a commercial
counterpart, contractual commitments need to be with creditworthy
state entities. For entities that are not creditworthy,
support from an appropriate entity within government in the form
of a guarantee or a direct agreement will be needed.
Where funds are to be borrowed on the capital markets, there
are possible constraints that relate to both the domestic
and international capital markets.
- The domestic capital markets could be weak and unable
to provide long-term financing for infrastructure projects
that have long pay-back times.
- International capital markets, on the other hand, are sensitive
to exchange rate fluctuations.
4. Contract-related constraints
Most of the problems discussed below are important potential
constraints; however, many can be resolved or at least
mitigated through well-specified contract design [Tool
The danger that bidding may fail to be competitive
The provision of most basic services requires specialised expertise,
so there may be very few competitors because of a scarcity
of the requisite skills. There is also always a danger of
collusion between bidders, especially if they are few in number
and/or if the bid is taking place in a country that does not have
a history of competitive markets.
Lack of a cost benefit analysis
One of the keys to political motivation is cost. The government
tries to provide services of the highest quality at the lowest
cost. It is therefore essential that a cost-benefit analysis
be carried out which itemises all costs and benefits and
enables a proper comparative assessment of alternative delivery
approaches. Such a study should compare operator performance
with international benchmarks. Accurate cost information will strengthen
position whatever the findings of the analysis. If private sector
costs are indeed found to be high, the council will be in a strong
position to negotiate. If they are found to be low, this knowledge
will create a more receptive and conducive operating environment
in which a more appropriate contract can be developed.
Smaller contracts often contain a number of limitations. For
example: they offer fewer possibilities to exploit economies
of scale; average household income tends to be lower than
in large municipalities, so restricting returns; municipal
capacity is inevitably weaker than that in large cities; and the
system itself is often relatively complex and divided for such
a small population.
Transaction and bidding costs
Projects involving the private sector typically incur high
transactions costs. These costs amount on average to some
5 to 10 per cent of total project costs. This can be a prohibitive
factor and since the burden of these high transaction and
bidding costs will eventually trickle down to the taxpayers,
the onus is on the various institutions responsible for awarding
these projects to keep these costs down.
5. Capacity constraints
An imbalance in the capacities of the public, private and community
partners is the most common limitation on successful PPP
arrangements. Capacity deficiencies affect ongoing partnership
arrangements, as well as any reforms that may be necessary
due to lack of confidence. More on capacity development can be
found in [Tool 21].
Strategic understanding of
The most significant capacity constraint is usually with respect
to the strategic understanding of public-private partnerships.
Training in PPPs and exposure to the development of PPPs
elsewhere in the region is likely to result in a broader understanding
of their potential in terms of social and institutional aspects
in the municipal context; such training will also aid understanding
of the implications of long-term partnership arrangements.
Difficulties in contract specification and administration
If there is technological or market uncertainty in relation
to the service in question, then contract specification will
be a complex task. It could well be impossible to cater for
every eventuality that might occur in the life of even a medium-term
contract, let alone to foresee how such eventualities will
relate to investments or costs. As a result, for all but the
simplest of services generally there will be a continuing role
for the public sector in contract administration – that is,
in monitoring, administering and enforcing the contract during
its lifetime and bargaining over unspecified contingencies. Difficulties
in contract specification also underline the need to include
in contracts clauses allowing both parties to renegotiate
terms in the event of significant unexpected changes. Such difficulties
also highlight the importance of parties to the partnership
being able to count on a capable and independent judiciary or other
mechanism to arbitrate disputes between the government and
the utility [Tool 18].
The difficulties of contract specification suggest that short-term
contracts may have advantages, because fewer future contingencies
then need to be catered for. Longer-term contracts provide,
however, an opportunity for greater efficiency gains and
have other advantages. For example, longer contracts give
contractors more time to recover costs and enable them to increase
the scope of services and to offer employment to displaced public
workers. An important problem of shorter-term contracts, meanwhile,
is that they may reduce incentives for maintenance and deter
the incumbent from making investments in sunk assets; hence short
contracts may result in underinvestment.
Lack of tendering and
Two of the obstacles to the wide adoption of contracting arrangements
are lack of experience in development of contract conditions
and lack of data and guidelines upon which contract specifications
should be based. In order to overcome these difficulties,
governments in several countries provide their officers with
advice about different contractual arrangements, such as a list
of standard specifications that should be built into contracts.
The basic principle of PPP – the provision of value for money
for public services – can only be satisfied when a fair
and transparent procurement process is in place. Many government
officials have little experience in negotiating and managing
concession contracts, which can lengthen the contract award process
and increase the costs of bidding. Decision-makers might also
lack the confidence to renegotiate the contract such that it
meets the redefined objectives of the municipality.
Lack of action on the part of officials might also be attributed
- a lack of detailed provision for renegotiation in the
- an imbalance in perceived negotiating skills;
- lack of access to “objective” support; and/or
- a fear over the implications of decisions made.
Capacity development in negotiation is essential if the
public sector partner is unwilling to accept the
support of skilled specialists.
Financial analysis and planning
Another fundamental constraint to the effective implementation
of a contract could be a lack of financial analysis and planning
on the part of the municipality specifically in relation
to the services under consideration. The reason for this lack
of analysis of the PPP might stem from a narrow understanding on
the part of the contract itself – that is, it is inflexible – and
a strong view amongst the local government’s financial
team that such an exercise would be pointless. A comparison with
international benchmarks could be of use where this is the case.
It is necessary to strengthen community structures and processes
and to expedite the setting up of ward committees under
the harmonized legislation to support community mobilisation for
6. Public sector experience
Although the international investment community has a strong
interest in PPPs, investors are unwilling to invest if
the returns do not provide sufficient compensation for the perceived
level of risk. One of the greatest risks is uncertainty as
to how the government will react as a counterpart. Ideally, the
confidence of prospective investors can be built up if a period
of macroeconomic stability can be combined with regulatory and
structural reforms. Nonetheless, in markets where there is a limited
history of private investment, governments may need to initially
take on more risk as a means to demonstrate their commitment to
reform. However, once there is one successful PPP, other operators
and financiers are usually willing to assume more risk, resulting
in greater risk transfer.
Despite the growing acceptance of public-private partnerships
as a legitimate means of providing municipal services, a
great deal of mistrust and misunderstanding continues to exist
in all three sectors of the partnership – in the public and
private sectors, and among community members. While education and
communication may go a long way to reduce resistance, in some cases
there may be insurmountable obstacles to a PPP.
In particular, the capacity for the municipality to work
effectively with the private sector might be affected by
Whether these attitudes pre-existed or developed through experience,
they can have a serious effect on the partnership. Various
causes can be identified, and capacity development efforts will
need to address these causes to bring about the change in attitudes
necessary if the partnership is to work towards a pro-poor outcome.
Individuals play a key role in setting up and managing a partnership,
hence their outlooks and attitudes to partnering are crucial
elements in determining its success or failure. Tri-sector
partnerships can require significant changes to established
work practices/processes, practices that can differ significantly
between the public, private and civil society sectors. Change
is often resisted by individuals and research into partnerships
has frequently observed feelings of “fear, apathy and cynicism” amongst individuals,
along with a certain level of defensiveness. These feelings may
be prompted by:
- philosophical differences;
- a lack of understanding (due to differing professional language);
- differences in organisational culture; and/or
- previous experience with a “failed” partnership.
Good communications and time are the two most important
elements in overcoming such barriers. Therefore, allowing
time and encouraging ongoing dialogue, especially during partnership building,
certainly facilitate understanding and smoother relations in the
Attitudes caused by an ideological disagreement to private
sector involvement in service provision cause
much of the early resistance to the partnerships. Understanding the
constraints to private sector involvement in municipal service
delivery can be very useful in ensuring that arrangements, processes
and relationships are beneficial.
Additional constraints with respect to people’s perceptions
come from the fact that consumers are increasingly
expected to pay fees and tariffs to use formalised
services. These barriers make cost recovery a challenge for most
projects. They need to be overcome before governments
will be able to charge for services and consumers will be willing
to pay for them. These constraints include, among
- cultural beliefs that some services (such as water provision)
should be free;
- consumers’ lack of confidence in historically unreliable
- the availability of some form of alternative service provision
(from informal vendors, and so on).
8. Time frame
Time frames relating to political (electoral) cycles may force
authorities to resolve a service delivery problem using methods
of project implementation that are more familiar than PPP arrangements.