Infrastructure spending to surge in emerging markets
07 July 2008
The company's latest forecast said EM infrastructure spending would rise from US$ 1.25 trillion to US$ 2.25 trillion annually over the next three years, thanks to more aggressive government spending programmes, fuelled by decades of under-investment in power, transportation, and water, and higher analyst estimates.
Merrill Lynch cited Xstrata, a global diversified mining group listed on the London and Swiss stock exchanges, as recently estimating EM infrastructure spending could be as high as US$ 22 trillion over the next 10 years.
"That estimate is among the highest that we have seen, with an implied run rate of US$ 6.6 trillion over the next three years," the report said.
Merrill Lynch breaks down its upward revision in EM infrastructure spending over next three years as follows (new versus old estimates):
China - US$ 725 billion vs US$ 400 billion
Gulf - US$ 400 billion vs US$ 225 billion
Russia - US$ 325 billion vs US$ 195 billion
India - US$ 240 billion vs US$ 110 billion
Brazil - US$ 225 billion vs US$ 100 billion
Mexico - US$ 120 billion vs US$ 60 billion
Turkey - US$ 65 billion vs US$ 50 billion
South Africa - US$ 60 billion vs US$ 60 billion
Central and Eastern Europe (CEE) - US$ 45 billion vs US$ 45 billion
The biggest spenders - China, the Middle East/Gulf, and Russia will commit to spending most on energy (US$ 735 billion) and transportation (US$ 810 billion), which will account for 70% of EM infrastructure spending.
Construction (US$ 320 billion) and water & sewerage (US$ 125 billion) will account for the bulk of rest. And 70% of infrastructure spending will be in China, Mideast/Gulf and Russia.
At the country level, the biggest spenders on energy are Russia (US$ 180 billion) and China (US$ 165 billion).
China (US$ 500 billion) accounts for 63% of Merrill Lynch's US$ 810 billion estimate for transportation, while the Middle East/Gulf is most active in construction (US$ 320 billion).
The near doubling in Merrill Lynch's estimate for China incorporates greater emphasis on transportation spending by the Chinese government, coupled with continued "strong spending" in other infrastructure areas such as water. However, the estimates do not incorporate additional spending needed to rebuild areas stricken by the recent earthquakes and floods.
Transportation/logistics (US$ 500 billion) and energy (US$ 165 billion) will see the most spending, said Merrill Lynch's China strategists, Andy Zhao and David Cui.
The two believe spending on railways will grow by +30%, the fastest within transportation. This is a "catch-up" to previous years when China focused on expanding roads, said the report.
Spending on China's power grid, suggests the report, will increase by +25%. However, it also said the risk to China's infrastructure spending is tighter monetary policy slowing the momentum.
India's spending, which the report said it expects to double to US$ 240 billion over next three years from US$ 110 billion, is based on India taking a more aggressive position on accelerating infrastructure spending over the next decade.
The Indian Planning Commission, said the report, is signalling "discontinuity" in taking its spending from a "business as usual" scenario of US$ 300 billion from the Eleventh Five Year Plan to a new "higher orbit" of US$ 550 billion in the Twelfth Five-Year Plan, according to Bharat Parekh, Merrill Lynch India engineering and construction analyst.
The largest programs will be transportation (US$ 90 billion), energy (US$ 70 billion) and water/sewerage (US$ 25 billion) over the next three years.
Funding sources are growing as India is exploring alternatives to the public-private-partnership (PPP) model. The Reserve Bank of India (RBI), said Mr Bharat, is looking to invest up to US$ 5 billion in the India Infrastructure Finance Company, which will lend to domestic construction companies for infrastructure projects.
However, the risks to infrastructure spending are bureaucracy and shortages of skilled labour and materials, added the report.
In the Middle East/Gulf region, the investment spending numbers "are massive" - US$ 225 billion to US$ 400 billion over three years, said the report, and are climbing steadily with the help of enormous wealth and high energy prices.
"Our estimate is modest compared with the estimate of a US$ 480 billion three-year run-rate based on the IMF's numbers," said the report.
The biggest risk to its forecast, added the report, would be a "very sharp drop" in commodity prices.
The boost in Russia's infrastructure spending - US$ 195 billion to US$ 325 billion over the next three years, "recognizes the emphasis on improving the transportation and energy segments", said the report.
Russia Prime Minister Putin recently approved a US$ 570 billion program for more roads, rails and airports. Russia's electricity sector will also be a focus of a major spending program as it is undergoing a dramatic restructuring process, according to Karen Kostanian, Merrill Lynch's Russia electric utilities analyst.
The real estate sector continues to "run strong" with the "greatest building boom in recent history". The 2014 winter Olympics in Sochi will be another reason for infrastructure spending.
High energy prices will likely grow the demand for further infrastructure upgrades and expansion, added Ms Kostanian. "For now we estimate that energy (US$ 180 billion) and transportation (US$ 85 billion) will be the primary areas of focus over the next three years."
The main risk to Russia infrastructure spending is implementation. Government bureaucracy will delay projects but Julia Tsepliaeva, Merrill Lynch's Russia economist, does not expect any delays to last more than six to 12 months.
"The lack of labor will likely be more of an issue in three to four years. Near term, increased government spending will like add inflation pressures," said the report.
In Latin America, said the report, Brazil continues to lead the way. Merrill Lynch is raising its spending estimate for the country to US$ 225 billion, from US$ 180 billion.
The upward revision, said Merrill Lynch's Latin American strategist Pedro Martins Jr, reflects infrastructure spending projects highlighted in President Lula's Program for Economic Growth Acceleration (PAC).
The bulk of the projects in PAC are Energy (US$ 100 billion, 55% of the total) and water/sewerage (US$ 60 billion, 33%).
"We believe that additional capex related to recent oil discoveries by Petrobras could result in further upward revisions to our estimates going forward," said the report.
Mr Martins Jr. flagged housing and bulk infrastructure as key drivers of strong medium-term economic growth. "Shortfalls in the federal budget pose a risk, but we believe they will be addressed through concession programs with the private sector," he added.
Like Latin America, much of Africa’s spending plans are centred on one country: South Africa, where spending should rise from US$ 50 billion to US$ 60 billion.
“We increased our estimate to recognize major private sector infrastructure investments. The government is budgeting more investment, and targets gross fixed capital formation (GFCF) to be 25% of GDP by 2012, up from its 10-year low of 14.5% in 2002,” said Merrill Lynch’s ML South Africa analysts Erene Kairuz, Ilze Roux and Carmen Nel.
More than one-third will be public spending, which is largely related to energy (Eskom) and transportation (Transnet).
Eskom-related energy projects (US$ 20 billion) are getting priority. Power disruptions earlier this year illustrated how insufficient infrastructure posed limits to growth as power had to be rationed. Transportation (US$ 15 billion) is the second largest segment.
“There are clearer macro risks to our infrastructure forecast in South Africa than in other countries,” said the report. “Other risks to our forecast are bureaucracy that is delaying the approval of projects and labour/skill shortages,” it added.
