Pay Me Now or Pay Me Later

Maintenance is often seen as the stepchild of infrastructure.  It easily slips from public notice in the face of more glamorous new construction.

Yet delayed or poorly executed maintenance can add billions of dollars to the private and public costs of infrastructure.  In addition, deferred maintenance hastens the need to replace assets by years, if not decades.  Many urban transit systems are testament to the high cost of inadequate maintenance.

Infrastructure spending has traditionally been divided into two categories: capital and operations and maintenance.  But such a breakdown can be misleading and is too simplistic to serve as a basis for allocating resources.  A more useful approach would be to think along functional lines. So capital spending can be split into new capacity and rehabilitation and operations and maintenance divided into its two components:

  •      New Capacity—expenditures for the engineering design or construction of new facilities or for plant and equipment that significantly expand existing capacity.
  •      Rehabilitation—capital-intensive activities that extend the useful life of a facility more than two years.
  •      Maintenance—expenditures on routine schedules to repair or maintain the good working order of existing facilities, plant, equipment, or rolling stock that neither adds new system capacity nor extends the life of facilities beyond two years.
  •      Operations—expenditures incurred on a routine basis for labor, utilities, engineering, and other overhead activities that support the day-to-day delivery of services.

For certain, a rigorous breakout of spending into each category is difficult.  It is particularly easy to confuse maintenance and rehabilitation.  For example, the two-year criterion used to differentiate between them is somewhat arbitrary.  The key is that “pure” maintenance focuses on short-term improvements (filling potholes) while rehabilitation has a longer-term impact.

Similarly, rehabilitation work and new capacity are often combined.  A road may be resurfaced at the same time that additional lanes are added.  Maintenance and operations also overlap.

In many ways, these four activities represent a continuum that, taken as a whole, could be called lifecycle costing.  In other words, inattention to one aspect increases the cost of all the others.  Finding the most cost-effective combination of spending, as opposed to focusing exclusively on building things, is one of the keys to effective infrastructure management.

Proper maintenance of infrastructure assets is important for two reasons.  First, there is a direct link between the quality of current services and the performance of the nation’s infrastructure.  Second, public perceptions of the overall quality of infrastructure services depend on good routine maintenance.

Just to be clear, lack of maintenance spending impacts long-term infrastructure costs.  Effective maintenance reduces rehabilitation costs and/or delays the time when such spending is required.

Although maintenance spending plays an important role in lifecycle costing, it is not always an obvious part of the infrastructure decision-making process.  This can result in maintenance being ignored or afforded neither adequate attention nor funding.

Since local governments own and operate most infrastructure assets, they also bear the heaviest financial burden for maintaining those assets.  Yet local governments do not always possess the financial resources or have the institutional flexibility to implement innovative maintenance programs. Consequently, they must be the main focus of efforts to ensure adequate maintenance.

Maintenance of infrastructure assets is surely not a politically compelling category of public spending. That adds to the dilemma of getting it properly funded.

Putting maintenance on par with other categories of infrastructure investment is not a simple matter, especially given the temptation to defer maintenance when the much higher costs it causes would likely hit on somebody else’s watch. That explains why elected officials all too often put the politics of new construction ahead of maintaining existing infrastructure.

The Feds Recent Rate Hike

So, things really are different this time.  The Federal Reserve Bank decided to raise its Federal Funds Rate on May 3 by a quarter-point, to 5.00-5.25 percent, in spite of a banking crisis that has seen three large banks fail in the space of six weeks, with remarkably little spillover into the economy at large. The misery mostly limited to shareholders in the banks concerned.   This is where rates sat before the financial crisis hit in 2008.

This recent rate hike has caused plenty of controversy as fears grow that further hikes risk tipping the economy into recession.  The inflation rate sat at 5 percent on the year in March, but core inflation (which excludes fuel and food) slightly increased in March, up to 5.6 percent. So, the Fed raised rates once again, in an effort to get price hikes under control, reiterating their focus on dragging inflation back down to earth even if it means tipping the economy into recession.

It should be noted that unemployment fell to 3.4 percent last month, matching the lowest reading since 1969.  So far, historically high inflation, slowed economic growth, increasing interest rates and banking turmoil has not cracked the still hot labor market.

For the past two decades, this sort of thing didn’t happen.  Under the unwritten laws of the “Greenspan put”, the Fed could be relied upon to provide some form of stimulus at the first sign of financial trouble.  It began with the collapse of the hedge fund Long Term Capital Management in 1998, when the Fed put together a $3.6 billion bailout funded by a consortium of banks, and it carried on long after former Fed chair Alan Greenspan himself had departed the scene.

Greenspan argued with monotony that “free markets are inherently self-regulating”, (like foxes are inherently the best guardians of chickens).  If markets wobbled, if banks got into a spot of trouble, an interest rate cut, or quantitative easing was never far behind.  He took the Fed in a direction quite different from the previous ruling guideline expressed by William McChesney Martin, Fed Chairman from 1951 to 1970, who’s famous for supposedly having said: “The Fed’s job is to take the punch bowl away just when the party’s going good”.  Or words to that effect.

Investors formed an expectation that the Fed would always help.  It was an Alice in Wonderland world where bad economic news often became good—good because investors calculated that the Fed would respond with a stimulus package.  By such means, the country ended up with the bubble economy of the past 20 years.

But this time around, the Fed has failed to oblige.  True, until the collapse of the Silicon Valley Bank, the Fed had been expected to raise rates by half a percentage point compared with the quarter point increase announced May 3.  But by raising rates at all the Fed has signaled that yes, it really did mean it when it said it was going to tackle inflation.  Not even falling US inflation has persuaded the Fed to take a break from its tightening program.  The Fed officials have said they want to see sustained evidence that inflation is moving toward their 2 percent goal.

The Fed finds itself in a tricky situation, having failed to act on price rises early on, so now they are playing catch up.  They were too late to the game to keep prices under control—having suffered a hit to credibility, have had to keep hiking rates, putting a damper on economic growth.  The Fed is clearly hoping this is the end of the line.

It softened its language in its statement after the May 3 hike, no longer preparing investors for further rate hikes, but rather noting that a myriad of factors—including economic growth—would feature in the “extent to which additional policy firming may be appropriate”.  In other words, interest rates may still rise, but it is by no means certain.  Ergo, only a naïve or ignorant person who say the worst if over.