By John Ryan
The 2020 Annual Report of the EPA’s WIFIA loan program is a good read, and not just because it’s short and largely graphical. It’s a series of positive snapshots, including impressive aggregate stats, highlights from closed loans and summaries of new features. The overall impression is that of a federal program that’s working very well on multiple fronts, from responsive product development for borrowers to the intricacies of transaction execution within a federal bureaucracy. WIFIA continued to operate efficiently and even in increasing scale in 2020, despite the unprecedented challenges of COVID-19.
The report’s introduction also includes a low-key, technical-sounding statement that is easy to overlook but actually provides an important insight about how WIFIA is working. WIFIA now characterizes itself as “a government bank that provides unique flexibilities to borrowers.”
Of course, from a statutory and regulatory perspective, WIFIA officially remains a ‘program,’ so the self-characterization is just a label in a public-facing presentation. But more importantly, the label also acknowledges an underlying reality. In terms of what it does and has been doing from operational inception, WIFIA is in fact a lot more like a ‘bank’ than a ‘program.’
Programs and Banks
Although the two terms aren’t precise, no one would consider ‘bank’ and ‘program’ synonymous. The differences in their ordinary usage are telling. It seems fair to say that something described as a government ‘program’ is intended to address problems for which there aren’t many other solutions. A government infrastructure loan program would therefore be expected to make loans to innovative or risky projects because other financing for them isn’t cheap enough or available at all. The tough part of a loan program is in the loans themselves. By definition, they’ll have uncertain credit quality or require complex, idiosyncratic risk assessment. Dealing with difficult loans isn’t something governments are necessarily good at, but that’s besides the point. The task is undertaken because the program’s intended outcomes won’t happen otherwise.
In contrast, calling something a ‘bank’ usually suggests that it’s operating in a well-defined financial environment where qualified borrowers have decent alternatives. In this context, a government infrastructure bank is not needed to make basic loans. They’ll be made anyway, by other banks or in the debt markets. Instead, the purpose of a government bank is to offer loans that are a bit different, with special features that incentivize borrowers to modify their infrastructure plans in ways that will improve overall outcomes. The individual modifications may be slight and significant only in the aggregate, so scale is important for the bank to really accomplish anything.
Governments tend to be good at large scale financing operations when the processes involved, however sophisticated in themselves, are replicable in multiple individual situations with roughly uniform primary factors. Financing for basic public infrastructure fits in this category. The borrowers are mostly highly creditworthy, with repayment sources from taxes or rates, and the projects themselves are long-lived with long construction periods. A well-managed government bank can put together a high-quality portfolio of this type of infrastructure loan with a fair degree of efficiency.
Portfolio-building is a necessary capability for a government bank, but it’s not a sufficient one. The loans need to include special terms and conditions that will further the bank’s public-sector policy objectives. Designing these is not easy.
First, high-quality borrowers are a choosy lot. The benefits of the features must outweigh the cost of modifying their plans and dealing with the compliance and reviews that government loans will inevitably require. But not by too much – windfalls aren’t an acceptable policy outcome. Next, the features need to be fairly standardized so they can be added to a basic loan and offered to qualified borrowers in an efficient and equitable way. That means developing a set of features that will be relevant in a wide range of specific situations. Finally, the features should be cost-effective to the government’s taxpayers in terms of the outcomes achieved. Meeting that final condition is where a government’s strengths as a lender relative to the debt market should be brought to bear.
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What WIFIA Actually Does
When enacted in 2014, WIFIA was generally intended to be a ‘program’ in the sense described above. It was closely modeled on the TIFIA loan program, which was then doing tough project financings for revenue-risk toll roads with some success. The reasonable expectation was that WIFIA would do the same for innovative but financially challenged water projects.
But since operations began in 2017, WIFIA has consistently attracted highly credit-rated (and often distinctly not financially challenged) public-sector water system borrowers looking to finance necessary basic water infrastructure projects. This type of borrower will typically issue tax-exempt water revenue bonds to finance their capital projects. Such bonds are uniquely cost-effective, with rates near or even below the U.S. Treasury rates offered by WIFIA. A flat Treasury loan rate is a valuable feature in most debt situations, but it isn’t much of a selling point in this one. Instead, highly rated public systems applying for a WIFIA loan are clearly concluding that other features of a WIFIA loan – primarily, an interest rate lock for construction draws and a 35-year post-completion term – will work well in their financing plans and provide significant net cost savings, relative even to their tax-exempt bond alternatives. It’s also clear from the number and diversity of qualified WIFIA applications to date that the rate lock and 35-year term features are popular products, widely applicable to a range of water infrastructure financings.
The rate lock and 35-year term utilize U.S. federal government strengths. WIFIA’s rate lock can effectively channel the immense economies of scale and efficiencies of U.S. Treasury operations to individual infrastructure financings. A 35-year term is basically costless to a federal lender that can hold a creditworthy loan almost indefinitely without any concern about its liquidity or conditions in a 30-year bond market. Such intrinsic federal strengths enable WIFIA to meet the demand for these popular infrastructure loan features on a very cost-effective basis for taxpayers. A WIFIA loan to a highly rated borrower requires very little taxpayer funding but delivers a multiple of that amount in cost-savings for a water infrastructure financing, a kind of leverage that’s both sustainable and scalable.
It’s worth noting that WIFIA loan features were not originally designed with highly rated borrowers or federal strengths in mind. The rate lock and 35-year term were inherited from the TIFIA Program model, where they served as relatively minor enhancements to TIFIA’s main product, complex and challenging project finance loans. In contrast, WIFIA’s borrowers actively use the features in sophisticated ways that have significant value in highly rated, long-term infrastructure financings. WIFIA has been very responsive to this repurposing, most recently expanding the rate lock’s scope of application (through master agreements) and its value in falling rate environment (by loan re-executions). Both developments are highlighted in the first page of the annual report. The optimal use of a WIFIA loan’s 35-year term by using debt service schedule ‘sculpting’ has been explicitly encouraged since 2019. As improved by WIFIA and utilized by borrowers, the rate lock and 35-year term features have evolved into innovative and unique sources of value for infrastructure financings.
The WIFIA Bank
By lending in scale to highly rated borrowers attracted to loan features that are both unique and based on federal strengths, WIFIA checks all the boxes in the government ‘bank’ description above. In substance if not in name, it’s been a bank from the start. That WIFIA works so well is an unintended consequence of providing an existing loan program framework to a different infrastructure sector and then successfully using it in a new way.
But it was by no means a necessary consequence. The WIFIA Bank did not happen automatically. When highly rated applicants unexpectedly showed up, WIFIA’s management and team effectively pivoted from a program mindset to that of an institutional lender in a competitive capital market. This pivot required immediate recognition that high-quality borrowers have alternatives, that value-added features are the focus, and that efficient execution is critical. That’s no small accomplishment for any lender, much less a brand-new federal operation. The transition to a bank mindset is really at the core of WIFIA’s continued success and the impressive results of the 2020 Annual Report. If there’s a note of pride in WIFIA’s self-characterization as a “government bank offering unique flexibilities,” it’s certainly well-deserved.
Policymakers looking for ways to achieve the Biden Administration’s ambitious infrastructure goals should take a close look at the WIFIA Bank. Most importantly, WIFIA demonstrates that intrinsic federal strengths can be channeled and leveraged to improve public infrastructure financings. This approach in general has a lot of potential for expansion. For water sector policy objectives in particular, innovative features in infrastructure finance can influence outcomes in climate change adaptation, affordability and environmental justice, and state revolving fund loan capacity, all of which are now top Administration priorities. The federal government is in fact well-positioned to provide such loan features in cost-effective ways that have minimal impact on federal taxpayers or the budget deficit. These should be explored and developed without delay. The WIFIA Bank is an excellent place to start.
John Ryan is principal of InRecap LLC, focusing on debt alternatives for the recapitalization of basic public infrastructure. He has an extensive background in structured and project finance and recently served as an expert consultant to the U.S. Environmental Protection Agency. Views expressed in this article are solely those of the author.
