£2bn Down The Tubes

We've blogged the Metronet fiasco before (see here), highlighting the risk of a serious taxpayer loss. Yesterday we got the bill for £2bn as Metronet's bank creditors called in the government's guarantee.

Let's remind ourselves of the key features. Metronet was a special purpose vehicle (spv) established and owned by five construction companies to manage a £17bn contract to renovate part of London's tube sytem. The contract was Public Private Partnership deal bulldozed through by Gordon Brown in 2003. Transport for London had argued strongly against the PPP contract, wanting instead to fund the work via US-style municipal debt issuance. But that would have blown Brown's tricksy Golden Rule fiscal targets, so he insisted on the PPP.

We blogged yesterday about the lackadaisical arrogance of the PFI commissars, and exactly the same comment applies Brown's deal here. He personally pushed through an arrangement whereby a thinly capitalised, privately owned spv was allowed to take on a £17bn public works contract. What's more, the owners of this spv were the very contractors whom the spv would be hiring to do the actual work- not an arrangement likely to produce the keenest pricing.

Finally, and extraordinarily, Brown gave the spv a 95% HMG guarantee on its bank borrowings- the very guarantee the bank have just called, costing us £1.7bn.

There are a couple of points we should note here on risk transfer. In theory, a key reason for these "arms length" PPP and PFI deals is to transfer risk to the private sector. The risks in question include not only construction risk, but also operating risk, and if things go wrong, then that's the private supplier's problem. Sounds clear... except that old devil of detail means that the practice is anything but.

First, if the deal counterparty is a shaky spv like this, then if things go seriously wrong as they did here, it just goes bust. There's no recourse to its private sector sponsors, and the taxpayer is left picking up the pieces. Second, these pieces can get much MUCH bigger once our hopeless government guarantees the spv's debt as they did here.

Couldn't happen again?

Don't be daft. Almost all PFI deals are done with thinly capitalised spv counterparties. It's routine. And as for debt guarantees, think Northern Rock (whose FULL £100bn liabilities have quite rightly just been moved onto the government's balance sheet by the ONS).

What we have here is yet another example of the public sector being legged over by the private. For a modest stake of £350m (Metronet's original equity capital), they got all the prospective upside, heavily leveraged with large dollops of cheap HMG guaranteed debt. Meanwhile, we taxpayers got all the downside.

We don't blame the contractors: quite rightly, their prime responsibility is to their shareholders. No, the blame rests full square with our naive uncommercial simple shopping government. Personally mindermasted by our arrogant clothead Prime Minister, the man who has already given his name to one financial disaster (see this blog on the Brown Bottom in the gold market).

Oh, and one last thing. According to the Department of Transport's spokesman, that £2bn Metronet payment is unlikely to be the final bill. He said "It’s a riddle of contracts, to be honest. They don’t yet know what the total cost to the public will be."

Brilliant.