United Kingdom / Analyst Insights
Banking on Investment: Brexit and British Infrastructure
by Thomas Falconer, Industry Analyst
Nov 15 2018

The United Kingdom remains one of the European Investment Bank’s largest shareholders, and although detail has been revealed as to repayment plans, the prospective Draft Withdrawal Agreement leaves considerable uncertainty regarding future investment.

Since the EU referendum, funding available from the European Investment Bank (EIB), the world’s largest multilateral borrower and lender, has become highly constrained, falling by £4.5 billion in 2017. The EIB provides finance and advisory services in four key areas: innovation and skills, access to finance for smaller businesses, climate and environment, and infrastructure. Since 1973, the United Kingdom has been the fifth largest recipient of EIB funding and, in 2016, EIB investment in the United Kingdom totalled €6.1 billion. With infrastructure finance predominant, Brexit poses a number of risks to UK contractors, and sources of replacement funding are currently unclear. In this special report, IBISWorld will assess the effect of the loss of EIB funding on the UK infrastructure sector. The Draft Withdrawal Agreement, approved by the Cabinet on 14 November, with the summit to finalise the Brexit deal to be held 25 November, has proved contentious, and although it has addressed the timescale for repayment, UK industries remain in the dark regarding any replacement schemes.


The United Kingdom remains one of the EIB’s largest shareholders, subscribing approximately 16.1% of the EIB’s capital since 2013 (i.e. €3.5 billion (£3.1 billion) of the paid-in capital and €35.7 billion (£31.7 billion) of the EIB’s subscribed un-paid capital, known as callable capital). However, EIB rules state that its members and shareholders must also be member states of the European Union, leading to questions from the market regarding the implications of Brexit. As stated in the draft withdrawal agreement, published on 14 November 2018, it has already been agreed in principle that as from the date of entry into force of the EU Withdrawal Bill, UK projects will not be eligible for new operations from the EIB reserved for member states. However, the form of any future relationship is not yet clear.

 


Notably, the EIB has made a total investment of €4.2 billion (£3.7 billion) in the European Free Trade Agreement (EFTA) region since the establishment of the EIB EFTA Loan Facility in 1994: in March 2018, the EIB increased the EFTA investment envelope by €1 billion (£875.4 million), available out to December 2021. Although the United Kingdom is not currently expected to shift to an EFTA position, the EIB’s extra-EU work does hint at the possibility for an ongoing relationship.

 

Investment in the UK


As published in the draft withdrawal agreement, the UK’s share of paid-in capital will be reimbursed in 12 annual instalments, starting at the end of 2019, while guarantees for the UK’s callable capital will be amortised over the longer term. In 2016, EIB investment in the United Kingdom totalled €6.9 billion (£6.1 billion). However, in 2017, EIB financing for UK schemes dropped to just €1.8 billion (£1.6 billion), with lending for “innovation and skills” related projects non-existent during the year. While infrastructure projects accounted for the bulk (circa 50.5%) of EIB lending in the United Kingdom during 2017, an effective moratorium on new long-term EIB loans to the United Kingdom has left a gap in financing for key sectors from transport to energy.

 


The EIB’s previous involvement in UK infrastructure has been significant, including a £1 billion loan for the Crossrail development, agreed in 2009 and a £700 million loan agreed in 2016 to part fund the Thames Tideway Tunnel, the largest infrastructure scheme ever undertaken by the UK water industry (see IBISWorld report F42.130). The performance of the Electricity and Telecommunications Infrastructure Construction industry (IBISWorld report F42.220) is illustrative of the impetus such funding can give. Nationally significant EIB-endorsed projects, including the National Grid’s Networks Upgrade scheme, which secured over €1.9 billion (£1.7 billion) of EIB funding in 2014, catalysed substantial growth: over the five-year period through 2018-19, this industry’s revenue is forecast to increase at a compound annual rate of 20.9%, including growth of 97.6% in 2015-16 alone. However, a future shortfall in funding may very well extend infrastructure project lead times, leaving civil contractors on low charge.
The EIB has also been involved in the provision of £1 billion for new social housing investment in partnership with the Housing Finance Corporation (see IBISWorld report F41.202). Consequently, industry leaders and trade associations have voiced concerns regarding the UK’s access to new funding and the scope of current funding in the pipeline. The Local Government Association (LGA) has urged the government to clarify access to vital funding post-Brexit. Warning that a lack of EIB funding could hamper the productive scope of the UK economy, and that the United Kingdom is already significantly behind its housebuilding target of 300,000 homes a year, the LGA has lobbied for equivalent lending alternatives to the EIB.

Work warning


In light of these concerns, civil engineers have sent out a clear warning that measures need to be taken to ensure the UK’s interconnectivity within Europe does not become an afterthought. The Institution of Civil Engineers (ICE), which provides support to civil engineers in industries relating to infrastructure maintenance services, rail transport, and road transport (see IBISWorld reports UK0.005, F42.120 and F42.110), has outlined a number recommendations in its “Brexit and Infrastructure Interconnectivity” policy paper. These include: The need for the UK government to establish a UK investment bank alternative to the EIB that has the ability and financial stock to protect and fund domestic infrastructure projects; and the safeguarding of freedom of movement, to ensure that an extant skills gap does not widen further. According to the ONS’s National Statistics’ Population Survey, from 2014 through 2016, non-UK nationals accounted for 8% of all workers in the UK’s specialised construction activities sub-sector; 7% of all workers in the UK’s civil engineering sub-sector; and 13% of all workers in the UK’s construction of buildings sub-sector. Should the United Kingdom lose access or considerable finance from the EIB, the ICE has advocated that a new lending facility, a “UK Investment Bank”, would be vital to ensure that big-ticket infrastructure projects, such as Crossrail, get off the pipeline.


In mid-2018, in response to concerns raised by industry lobbyists, the government launched an inquiry examining the UK’s post-Brexit relationship with the EIB, as well as potential domestic alternatives. Moreover, the committee is also exploring any short-term actions that may be required to support businesses negatively affected by any loss of EIB funding, including the prospect of a contingency fund to be incubated by the British Business Bank (which was established in 2014 primarily to increase the supply of credit to SMEs). In its 2017 manifesto, the Conservative Party outlined its intention to fund the British Business Bank with repatriated funds from the European Investment Fund, an EU agency for the provision of finance to SMEs. However, the government has stopped short of explicitly stating that the British Business Bank will directly take over the operations of the EIB post-Brexit. To date, EIB-funded sectors have continued to give evidence on Brexit-related challenges and opportunities. For instance, Anglian Water Services, a major player in the Water Collection, Treatment and Supply industry (IBISWorld report E36.000), has warned that any future relationship with the EIB could come under threat should UK environmental regulation diverge from the EU equivalent. Since 1989, the EIB has provided €1.1 billion (£978 million) to Anglian Water, illustrating the scale of the potential funding problems.

 


The Infrastructure Forum, which brings together financiers, civil engineers and stakeholders in the UK national infrastructure sector, has conceded that the UK will not retain full membership of the EIB post-Brexit. However, “to bridge the gap in funding that will emerge in the UK infrastructure market”, the Infrastructure Forum has suggested that the UK government should extend the Infrastructure and Project Authority’s UK Guarantees Scheme (UKGS) and establish a third-country agreement to enable continued lending, albeit at a reduced level: the UKGS can issue up to £40 billion of guarantees to support private investment in UK infrastructure projects and is open out to at least 2026.


Ironically, it is clear that the UK’s future relationship with the EIB is in limbo and remains somewhat uncertain. At least until the EU Withdrawal Bill is announced in full, speculation and proposals by lobby groups will continue to be the two overall themes relative to the future implications of EIB financing, or lack thereof, in the United Kingdom. While some have suggested that a UK investment bank alternative to the EIB will be needed to bring high-profile UK infrastructure developments to fruition, others have urged the UK government to negotiate new terms with the EIB that allow for limited access to finance. In the coming months, homebuilders, civil engineers and the like will have a clearer image of operating conditions post-Brexit and post-EIB inclusion. Until then however, a notable year-on-year dip in UK infrastructure funding from the EIB over 2017 is indication that “business as usual” is no longer applicable for EIB-funded recipients in the United Kingdom.

 

For a printable PDF of Banking on Investment: Brexit and British Infrastructure, click here.

IBISWorld industry reports used in this spotlight report:

E36.000   -   Water Collection, Treatment & Supply in the UK
F41.202   -   Residential Building Construction in the UK
F42.110   -   Road & Motorwar Construction in the UK
F42.120   -   Railway & Underground Railway Construction in the UK
F42.130   -   Bridge & Tunnel Construction in the UK
F42.220   -   Electricity & Telecommunications Infrastructure Construction in the UK
UK0.005   -   Infrastructure Maintenance Services in the UK

For more information on these, or any of the UK’s 400 industries, log on to www.ibisworld.co.uk, or follow IBISWorldUK on Twitter.