Link to article here.

Leasing of Landmark Turnpike Puts State at Policy Crossroads
By CRAIG KARMIN
Wall Street Journal
August 26, 2008

(See Corrections and Amplifications item below.)

DONEGAL, Pa. — Hobbled by the credit crisis, Wall Street firms and many state governments are hoping that a pockmarked strip of Pennsylvania highway could provide a road out.

Next month, the Pennsylvania legislature is expected to vote on a $12.8 billion deal struck between the governor and a group of private investors to lease America’s oldest major toll road, the 537-mile Pennsylvania Turnpike.

If it passes, the deal would be by far the largest ever of its kind in the U.S. Under these arrangements, known as public-private partnerships, investors lease or buy roads, bridges or other infrastructure, operate them independently and collect tolls.

A green light in Pennsylvania could bolster the political will of officials in other states trying to hash out similar deals. That in turn could jump-start projects in waiting, from Florida’s Alligator Alley to Chicago’s Midway Airport. Last month, New York Gov. David Paterson urged legislators to consider leasing some of his state’s roads, bridges and tunnels to help shrink a budget deficit projected at $26.2 billion by 2011.

Proponents say the lease approach could provide financial relief to state governments struggling with foreclosures, ballooning pension obligations and reduced tax bases. That’s not to mention crumbling roads — and lately, a drop in tax revenue to pay for repairs, owing to high gasoline prices that have reduced driving. The U.S. needs about $1.6 trillion in investment over the next several years to bring infrastructure conditions to acceptable levels, according to the American Society of Civil Engineers.

Pennsylvania’s needs rank among the highest in the nation; the state’s Department of Transportation estimates it will cost $11 billion just to repair the state’s bridges. Drivers complain about the turnpike’s potholes, insufficient shoulder room, and continual construction.

As much as states need money to fix their roads and bridges, Wall Street firms are eager to supply it. With the industry’s core businesses in distress from the credit crisis, so-called infrastructure funds — which have already raised more than $160 billion, according to Morgan Stanley — have emerged as one of the most promising growth areas in years.

Yet this hot area is already suffering growing pains. The end of cheap credit has forced all funds to borrow at higher rates, severely crimping profits at some of the leading infrastructure funds. The share price for Australia’s Babcock & Brown Ltd., one of the bigger publicly traded funds, tumbled 36% on Thursday to a record low after reporting a large decline in earnings, before rebounding. Shares of another Australian fund, Macquarie Group Ltd., have also sold off this year.

Pennsylvania Turnpike

Known as the nation’s first Superhighway, the Turnpike opened in 1940.

Those financial pressures are unlikely to affect the Pennsylvania deal, which already has a check in hand. But it might not have the votes to cash it. Gov. Edward Rendell, a Democrat who has championed the project, concedes that “the concept of leasing the turnpike is a decided underdog.”

Detractors, from the Turnpike Commission itself to labor unions, question whether the state is selling too cheaply. They also worry that jobs will be lost — under the proposal, union contracts are guaranteed only until 2011 — and that tolls will rise. The new operators can raise tolls 25% in 2009, then keep them in line with inflation every year.

More broadly, in a country that has often mythologized the car and the open road, the deal is sparking debate about whether America’s highways are too much a part of the national fabric to be controlled by anyone but the public. Adding to the backlash: Many of these private funds come from outside the U.S., where investors have reaped huge profits from rising oil and commodities prices and are looking for new places to put their money. The consortium vying to lease the Pennsylvania Turnpike includes Citigroup Inc. and Abertis, a Spanish toll-road operator.

Crowds opposing the deal have gathered along Route 209, in the northeastern part of the state, waving signs like “Pennsylvania’s Not For Sale,” as truckers honk horns in approval.

“Americans built this turnpike,” says Catherine Johnson, a nurse in Tarentum, Pa., who regularly drives the turnpike. “Why do we need someone else to operate it?”

The lease agreement is not the first time the nation has looked to the Pennsylvania Turnpike for a glimpse into the future.

The highway heralded a new era of transportation when it opened in 1940. A year earlier, a World’s Fair exhibit in New York sketched out an exciting vision of a publicly funded highway system that would crisscross America, connecting East to West. The exhibit, commissioned by General Motors Corp. and dubbed “Futurama: Magic Motorways,” enthralled an audience that still relied heavily on railroad travel.

The 160-mile stretch that initially connected the outskirts of Pittsburgh in western Pennsylvania with Harrisburg, the state capital, embodied that vision; it is often touted as the nation’s first superhighway. Service plazas along the road sold postcards, banners and other turnpike trinkets. Many drivers apparently saw it as an American autobahn; the turnpike’s wide, gently sloping lanes encouraged speed, and the road opened without a speed limit. A series of accidents eventually led to a 70-miles-per-hour rule.

Nearly seven decades later, the turnpike and other Pennsylvania roads are in worse shape than most. The state has 6,000 structurally deficient bridges. Pounded by harsh winter weather and hard-driving 18-wheelers, some 9,000 miles of highway are in poor condition, according to the state’s Department of Transportation.

“Seems like they are always having to do work on it, always having to fill potholes,” says Helen Elborne, a self-employed resident of Harmarville, in the southwestern part of the state. “There are a lot of accidents.” Ms. Elborne often takes the turnpike on trips to Ohio, where she says “the roads are better.”

Saving the Skyway

While private investment in state infrastructure has been around for decades in other parts of the world, it hasn’t caught on in a significant way in the U.S. State governments have turned instead to the municipal-bond markets for much of their funding. But this decade, costs for health care, education and pensions mushroomed.

Since 2005, eight states have enacted legislation enabling officials to sell or lease highway or transit infrastructure, bringing the total to 25 states, according to the U.S. Department of Transportation. Infrastructure funds recently acquired long-term leases for the Indiana Toll Road and the 7.8-mile Chicago Skyway bridge. Chicago has used about half of the $1.8 billion in lease fees to retire debt and to boost emergency reserves. It has also used the money to fund homeless programs and job-training initiatives.

In bad shape just three years ago, the Skyway itself has been given new life. Australia’s Macquarie Infrastructure Group and Cintra, another Spanish toll-road operator, together leased the bridge, filled in potholes and added electronic tolling that can process nearly triple the number of cars as the cash lanes can. They also installed reversible lanes, so that the bridge can better accommodate periods when traffic flows are particularly strong in one direction.

Abertis, the Spanish company hoping to lease the Pennsylvania Turnpike, operates motorways in the U.K., South Africa and Chile. It points to its other ventures in the U.S. as proof that it can turn around a sinking ship — or in one case, an airport. The company took over operations of the Orlando International Airport in Florida in 1996, paying $20 million for a 30-year lease and assuming $30 million in debt. Since then, it has invested $70 million on upgrades, from parking spots to expanding the gates. Last year, Orlando officials extended the lease for 30 more years.

In Pennsylvania, Abertis says it and its partners are committed to spending at least $11 billion on the turnpike over the proposed lease period. Its plans include wiring fiber optics and installing a series of tiny monitors and cameras across the length of the turnpike. Abertis says this equipment, combined with an independent fleet of roving patrol cars to supplement the state Highway Patrol, will enable it to detect accidents in five minutes or less. That could get help on the way faster, and warn motorists earlier to detour. Currently, Abertis says, it takes the Turnpike Commission up to half an hour to detect an accident.

Other improvements would be more subtle. Jordi Graells, managing director of Abertis, says turnpike workers now sprinkle too much salt on the roads before winter storms. Salt can enter the ecosystem, damaging trees and other vegetation. Abertis workers, he says, are trained to add just the right amount of salt to minimize the environmental effects.

Carl DeFebo, a spokesman for the Turnpike Commission, says, “When it comes to winter maintenance, turnpike crews do whatever it takes to keep the road open in the heaviest snow and ice storms.” He says the salt is necessary to de-ice the roads “despite some infrequent impacts to plants near the highway.”

Regarding accident detection, Mr. DeFebo says the commission uses the latest technologies and is working to improve incident detection and response times.

The Turnpike Commission, which has operated the road for nearly 70 years and is run by officials appointed by the governor,

says it can fix the highway without foreign aid. It plans to invest $4.8 billion over the next 10 years, and a fiber-optic network is in the works, though “it is going to take some time,” Mr. DeFebo says.

The commission estimates the turnpike can generate $83.3 billion in revenue for the state over 50 years. But it first has to receive federal approval to add tolls to Interstate 80, which runs parallel to the turnpike in the northern part of the state, or that figure could be cut in half.

‘The Last Bastion’

The commission, some charge, has another reason for not wanting to turn over control of the turnpike: The politically powerful group is often accused of filling jobs with friends or relatives of elected officials. “It is the last bastion of political patronage for both parties,” says Gov. Rendell. “Very few in politics want to mess up that arrangement.”

While the commission says it listens to lawmakers when filling job openings, “the turnpike is not obliged to hire referrals,” Mr. DeFebo says.

When Mr. Rendell campaigned for the governor’s job in 2002, he promised to tackle the problem of deteriorating road conditions. But the legislature failed to enact funding measures during his first two years in office. The spike in oil prices made an increase in the gasoline tax politically untenable. Toll increases weren’t much more popular.

In 2006, when Indiana leased its toll road, “the governor said, ‘Why don’t we consider something like this?'” recalls Roy Kienitz, a deputy chief of staff.

That deal, which brought the state $3.8 billion in exchange for a 75-year lease, has helped shore up Indiana’s finances, according to Standard & Poor’s Corp. In July, the ratings agency upgraded the state’s credit rating to triple-A.

A Lucrative Prospect

The lucrative prospect of running a turnpike more than three times the length of Indiana’s toll road quickly attracted myriad banks, funds, toll-road operators, law firms and other contractors.

But Gov. Rendell found little enthusiasm in the state legislature. Then in August 2007, the collapse of a Minneapolis bridge across the Mississippi River, with 13 deaths, sparked a nationwide re-examination of structurally deficient bridges. The tragedy brought a new sense of urgency to find funds for repairs, and the governor renewed his effort to lease the turnpike.

By early 2008, the field of bidders had been narrowed to two groups: the Citigroup-Abertis team and one led by Goldman Sachs Group Inc. In a second round of bidding, Pennsylvania gave the teams one week to come up with their final offers. The Citi group’s $12.8 billion bid won.

With less than three weeks to go until the Pennsylvania legislature returns from summer recess, Gov. Rendell says he plans to meet with as many lawmakers as he can to win them over. Most opposition comes from his own party. Prominent unions have also condemned the plan. The governor sounds less than enthusiastic about its odds. “This is very high on my list of priorities,” he says. “There’s still a decent chance it will pass.”

Corrections and Amplifications:
Abertis Infraestructuras SA runs the Orlando Sanford International Airport, which is in Sanford, Fla. This article about the Pennsylvania Turnpike incorrectly said Abertis runs the Orlando International Airport, which is in Orlando, Fla.

Link to article here.

More doubts loom over the risks of Public Private Partnership toll roads. With the increased cost of transportation causing our economy to spiral downward, now is not the time for massive leveraged debt that requires lots of driving and motorists with money to burn.

Cities Debate Privatizing Public Infrastructure
By JENNY ANDERSON
New York Times
August 27, 2008

Cleaning up road kill and maintaining runways may not sound like cutting-edge investments. But banks and funds with big money seem to think so.

Reeling from more exotic investments that imploded during the credit crisis, Kohlberg Kravis Roberts, the Carlyle Group, Goldman Sachs, Morgan Stanley and Credit Suisse are among the investors who have amassed an estimated $250 billion war chest — much of it raised in the last two years — to finance a tidal wave of infrastructure projects in the United States and overseas.

Their strategy is gaining steam in the United States as federal, state and local governments previously wary of private funds struggle under mounting deficits that have curbed their ability to improve crumbling roads, bridges and even airports with taxpayer money.

With politicians like Gov. Arnold Schwarzenegger of California warning of a national infrastructure crisis, public resistance to private financing may start to ease.

“Budget gaps are starting to increase the viability of public-private partnerships,” said Norman Y. Mineta, a former secretary of transportation who was recently hired by Credit Suisse as a senior adviser to such deals.

This fall, Midway Airport of Chicago could become the first to pass into the hands of private investors. Just outside the nation’s capital, a $1.9 billion public-private partnership will finance new high-occupancy toll lanes around Washington. This week, Florida gave the green light to six groups that included JPMorgan, Lehman Brothers and the Carlyle Group to bid for a 50- to 75 -year lease on Alligator Alley, a toll road known for sightings of sleeping alligators that stretches 78 miles down I-75 in South Florida.

Until recently, the use of private funds to build and manage large-scale American infrastructure assets was slow to take root. States and towns could raise taxes and user fees or turn to the municipal bond market.

Americans have also been wary of foreign investors, who were among the first to this market, taking over their prized roads and bridges. When Macquarie of Australia and Cintra of Spain, two foreign funds with large portfolios of international investments, snapped up leases to the Chicago Skyway and the Indiana Toll Road, “people said ‘hold it, we don’t want our infrastructure owned by foreigners,’ ” Mr. Mineta said.

And then there is the odd romance between Americans and their roads: they do not want anyone other than the government owning them. The specter of investors reaping huge fees by financing assets like the Pennsylvania Turnpike also touches a raw nerve among taxpayers, who already feel they are paying top dollar for the government to maintain roads and bridges.

And with good reason: Private investors recoup their money by maximizing revenue — either making the infrastructure better to allow for more cars, for example, or by raising tolls. (Concession agreements dictate everything from toll increases to the amount of time dead animals can remain on the road before being cleared.)

Politicians have often supported the civic outcry: in the spring of 2007, James L. Oberstar of Minnesota, chairman of the House Committees on Transportation and Infrastructure, warned that his panel would “work to undo” any public-private partnership deals that failed to protect the public interest.

And labor unions have been quick to point out that investment funds stand to reap handsome fees from the crisis in infrastructure. “Our concern is that some sources of financing see this as a quick opportunity to make money,” Stephen Abrecht, director of the Capital Stewardship Program at the Service Employees International Union, said.

But in a world in which governments view infrastructure as a way to manage growth and raise productivity through the efficient movement of goods and people, an eroding economy has forced politicians to take another look.

“There’s a huge opportunity that the U.S. public sector is in danger of losing,” says Markus J. Pressdee, head of infrastructure investment banking at Credit Suisse. “It thinks there is a boatload of capital and when it is politically convenient it will be able to take advantage of it. But the capital is going into infrastructure assets available today around the world, and not waiting for projects the U.S., the public sector, may sponsor in the future.”

Traditionally, the federal government played a major role in developing the nation’s transportation backbone: Thomas Jefferson built canals and roads in the 1800s, Theodore Roosevelt expanded power generation in the early 1900s. In the 1950s Dwight Eisenhower oversaw the building of the interstate highway system.

But since the early 1990s, the United States has had no comprehensive transportation development, and responsibilities were pushed off to states, municipalities and metropolitan planning organizations. “Look at the physical neglect — crumbling bridges, the issue of energy security, environmental concerns,” said Robert Puentes of the Brookings Institution. “It’s more relevant than ever and we have no vision.”

The American Society of Civil Engineers estimates that the United States needs to invest at least $1.6 trillion over the next five years to maintain and expand its infrastructure. Last year, the Federal Highway Administration deemed 72,000 bridges, or more than 12 percent of the country’s total, “structurally deficient.” But the funds to fix them are shrinking: by the end of this year, the Highway Trust Fund will have a several billion dollar deficit.

“We are facing an infrastructure crisis in this country that threatens our status as an economic superpower, and threatens the health and safety of the people we serve,” New York Mayor Michael R. Bloomberg told Congress this year. In January he joined forces with Mr. Schwarzenegger and Gov. Edward G. Rendell of Pennsylvania to start a nonprofit group to raise awareness about the problem.

Some American pension funds see an investment opportunity. “Our infrastructure is crumbling, from bridges in Minnesota to our airports and freeways,” said Christopher Ailman, the head of the California State Teachers’ Retirement System. His board recently authorized up to about $800 million to invest in infrastructure projects. Nearby, the California Public Employees’ Retirement System, with coffers totaling $234 billion, has earmarked $7 billion for infrastructure investments through 2010. The Washington State Investment Board has allocated 5 percent of its fund to such investments.

Some foreign pension funds that jumped into the game early have already reaped rewards: The $52 billion Ontario Municipal Employee Retirement System saw a 12.4 percent return last year on a $5 billion infrastructure investment pool, above the benchmark 9.9 percent though down from 14 percent in 2006.

“People are creating a new asset class,” said Anne Valentine Andrews, head of portfolio strategy at Morgan Stanley Infrastructure. “You can see and understand the businesses involved — for example, ships come into the port, unload containers, reload containers and leave,” she said. “There’s no black box.”

The prospect of steady returns has drawn high-flying investors like Kohlberg Kravis and Morgan Stanley to the table. “Ten to 20 years from now infrastructure could be larger than real estate,” said Mark Weisdorf, head of infrastructure investments at JPMorgan. In 2006 and 2007, more than $500 billion worth of commercial real estate deals were done.

The pace of recent work is encouraging, says Robert Poole, director of transportation studies at the Reason Foundation, pointing to projects like the high-occupancy toll, or HOT, lanes outside Washington. “The fact that the private sector raised $1.4 billion for the Beltway project shows that even projects like HOT lanes that are considered high risk can be developed and financed privately and that has huge implications for other large metro areas,” he said .

Yet if the flow of money is fast, the return on these investments can be a waiting game. Washington’s HOT lanes project took six years to build after Fluor Enterprises, one of the two private companies financing part of the project, made an unsolicited bid in 2002. The privatization of Chicago’s Midway Airport was part of a pilot program adopted by the Federal Aviation Administration in 1996 to allow five domestic airports to be privatized. Twelve years later only one airport has met that goal — Stewart International Airport in Newburgh, N.Y. — and it was sold back to the Port Authority of New York and New Jersey.

For many politicians, privatization also remains a painful process. Mitch Daniels, the governor of Indiana, faced a severe backlash when he collected $3.8 billion for a 75- year lease of the Indiana Toll Road. A popular bumper sticker in Indiana reads “Keep the toll road, lease Mitch.”

Joe Dear, executive director of the Washington State Investment Board, still wonders how quickly governments will move. “Will all public agencies think it’s worth the extra return private capital will demand?” he asked. “That’s unclear.”

Link to article here.

Even toll road industry insiders must now acknowledge what the rest of us have been observing for years: toll roads are no longer financially viable with high fuel prices! It is obvious that toll roads are purely speculative risky deals that the prudent must shun. These deals depend on low fuel prices, a booming economy, and more vehicle miles traveled, none of which we have now or into the foreseeable future. Selling billions in bonds knowing these toll roads are famous for overprojecting rosy outcomes and have a history of underperformance that will require massive toll hikes and/or taxpayer bailouts, is malfeasance.

Traffic hit hard by fuel prices – average down over 5%, but some way worse
By Peter Samuel
Toll Road News
August 24, 2008
Traffic on tax roads in the US seems to have dropped on average by 4 to 5% and on toll roads by 5 to 6% over the past year. The reduced travel is attributable almost entirely to the big run-up in gasoline prices and is about was to be expected from long-established economists’ estimates of the price elasticity of demand of about -0.2. Fuel prices which dominate the marginal cost of driving are about 30% higher so you would expect traffic as measured by vehicle-miles traveled (VMT) to be 6% lower (-0.2×0.30=-0.06). Deduct one percent for the sluggish economy and you have 5%.

Toll road traffic may be down marginally more than tax roads traffic because tollroads are somewhat skewed to discretionary travel.

FHWA/OHPI data for travel on all roads show the drop in traffic slightly greater in the west (excludes TX) and the southeast but single digit percent falls have occurred in all major regions. Indeed in June all 50 states were down (only DC is up slightly).

Rural travel is down more sharply (5% to 7%) than urban (3% to 5%). Rural interstates are down nearly 7%. (VMT08juntvt.xls)

Fitch Rating survey

A survey of US tollers’ traffic and revenue by Fitch Ratings shows a fall-off year on year clustered in the single middle digits range. Declines are as much as 10% in Florida and California. In Texas are declines in traffic in the lower single digits.

They say that standalone toll projects have the greatest declines and the turnpikes with their dependence on longdistance and rural traffic. Next come the bridges with the least affected being the (urban) expressway networks.

TOLLROADSnews needs to do a proper survey toll agency by toll agency, but that will have to wait a bit longer. A few tollers publish their data monthly (Orange County Toll Roads) and even weekly (91 Express Lanes). There are some more spectacular drops in traffic than Fitch mentions.

91 Express Lanes down 15% to 20%

The 91 Express Lanes are way down. Through July their toll transactions were about 17% lower than the same week last year and the first two weeks of August have been down 18%. Revenue is down about 15% in the last six weeks.

It would be interesting to see if the other express lanes are losing traffic as heavily but it seems logical that they will be more volatile than full tollroads. Most of their users are occasional users taking the toll lanes only when they want a faster ride so their use is discretionary. Furthermore and maybe this is more important: declining traffic in the free lanes means there is less congestion there and faster free trips, so the Express Lanes suddenly aren’t saving as much time as before.

The Toll Roads of Orange County nearby have suffered serious traffic losses too, close to 10% in the case of Foothill Eastern TR (FETR) and San Joaquin Hills TR (SJHTR).

The burst of the housing bubble has hit this part of southern California as well as parts of Florida especially hard.

Orlando Orange County toll expressways in Florida have suffered a traffic drop but not as large. (see OOCEA in table nearby).

Macquarie hemmoraging

Macquarie has reported June quarter traffic and it has some huge drops 2008Q2/2007Q2:

– Indiana Toll Road average daily traffic down from 122.8k to 95.6k, 22.2%

– Chicago Skyway from 44.2k vs 51.7k, down 14.6%

– Dulles Greenway VA is down less from 58.6k to 55.1k or 5.9%

The three major Macquarie tollroads in the US have gone from 233k/day 2007Q2 to 195k 2008Q2 or 16% down. (South Bay Expressway is at 26k day but wasn’t open in 2007).

On the Indiana TR the ticket system portion of the tollroad which caters to longdistance traffic is down 5%.

The spectacular drop is on the barrier system where daily traffic is down from 98.4k 2007Q2 to 70.5k 2008Q2. That’s 28.4% down!

That’s commuter and weekender traffic.

Some of the drop may be attributable to opening of improvements to the competing free route of I-80/I-94 (Bishop Ford, Kingery, Borman Expressways) and the higher tolls, but regardless, it doesn’t look good for the Macquarie shareholders.

Macquarie recently lowered their valuation of these tollroads substantially.

Canada not seeing the same declines in traffic

A lot of the rise in the price of gasoline in the US is simply the fall in the value of the US$ relative to other currencies. Gasoline has risen much less in C$s because C$s now bob around at parity with US$s whereas they were 15% below a year ago.

Also rises in the oil component of the gasoline price seem less north of the border, because the fuel taxes are so much higher already.

Toronto 407ETR up over last year

In Toronto 407ETR traffic continues to be above last year’s levels. Its traffic is larger than all four US Macquarie tollroads combined, so the North American Macquarie traffic in total is down only 5.8% vs 16% for Macquarie’s US roads.

Where from here? (SPECULATIONS)

Our sense is that traffic should stabilize at roughly present levels if gasoline prices stay where they are. Short-term adjustments to the higher prices have been made.

And if the US economy continues in its present sluggish state but avoids a real recession and systemic financial collapse then traffic won’t get much lower than now.

Over the longer term one adjustment to higher prices will be a move to more fuel efficient vehicles – to smaller lighter vehicles, to hybrids, plug-in hybrids and diesels. That will allow road travel to recover somewhat.

Significant and last mode shift to rail transit seems unlikely. It is seriously unprofitable and capacity constrained and is only competitive at the margin.

Motor fuel prices of course could go strongly up, or they could collapse.

So much crude oil comes from the Middle East and South America and is under the control of hostile governments that major supply disruptions could easily occur. Iran’s nuclear program could lead to war in the Persian Gulf just months from now. At home there is fierce resistance to any new production and to any new oil refinery capacity, while the Democrats vilify “Big Oil” and threaten discriminatory taxes against the very companies which will increase fuel supply if they’re allowed to.

On the other hand public sentiment has shifted in favor offshore drilling and concerns about disruptions may already be reflected in oil prices. With luck and even a glimmer of good sense by governments, fuel prices could fall as quickly in the next year as they rose in the last. But you can’t count on it.

With forecasting so difficult, organizational agility looks key.

Feds data: http://www.fhwa.dot.gov/ohim/tvtw/tvtpage.htm

Link to article here.

Investing pension funds in toll roads is an irresponsible–and immoral–idea
By Paul Burka
Texas Monthly
Saturday, August 23, 2008

I doubt whether Rick Perry, David Dewhurst, or Tom Craddick has ever heard of the Lane Cove Tunnel in Sidney, Australia. If they had, they might not be so eager to raid the teacher and state employee retirement funds to build toll roads.

On the day the Olympics opened (08/08/08), the Sidney Morning Herald carried the news that the tunnel “is rapidly turning into a bottomless pit for its financial backers….” Two credit rating agencies, Standard & Poor’s and Moody’s, have warned that the toll road could default on its $1.1 billion debt with a year. The tunnel has suffered three consecutive monthly dropoffs in traffic usage. The estimated usage before the road was built was 100,000 vehicles per day; actual numbers in June and July barely exceeded 50,000. A Standard & Poor’s analyst predicted that unless the project gets fresh capital (at least half a billion dollars), it will default within 10 to 16 months. Perhaps TxDOT, since it is such a believer in such projects, would like to invest.

The problem with the financial wheeling and dealing with retirees’ funds that Perry, Dewhurst, and Craddick have proposed is that toll road projects are risky investments. They are risky for two reasons. One is that they are subject to economic fluctuations that affect people’s driving habits, such as the price of gasoline or the pace of development. The second reason is that, when government is involved, they are vulnerable to political pressure and favoritism. Google “toll road defaults” and you will find a trove of stories with unhappy endings. The Camino Columbia toll road in Laredo, which was rife with political intrigue over which landowners would benefit from having a road go through their property, opened in 2000 and defaulted in 2004. Cost: $90 million. Auctioned off for: $12 million. Tx-DOT bail out acquisition payment: $20 million. The Dulles Greenway toll road to Washington’s Dulles Airport defaulted on its bonds within a year of its opening in 1995. The private owner, Toll Road Investors Partnership II, have lost money every year since the road opened. When toll roads lose money, tolls go up–in this case, to $4.80 by 2012. That works out to an astronomical 35 cents per mile. There are similar stories in Orange County, California (where the state had to buy failing toll lanes), and along Florida’s west coast, and near Richmond, Virginia, where the 8.8-mile Pocohantas Parkway, financed with tax-free bonds, has suffered around a 50% shortfall in projected toll receipts; the state has had to maintain the road because the private owners don’t have the money. Bond ratings have been lowered to below investment grade. To pay off the bonds, the toll was increased by 50%.

It is true that many toll roads have been success stories. In Texas these include the Dallas-Fort Worth Turnpike, which paid off bondholderes with toll revenues after thirty years and became free Interstate 30; the Dallas North Tollway and its northern extension; and the Sam Houston Tollway on the west side of Houston. The issue here is not toll roads per se. It is toll roads built with pension funds (and probably other investment funds as well, such as the Permanent School Fund and the Permanent University Fund). These are trust funds. They belong to the members. It is morally wrong to require fund managers to invest them in risky ventures like toll roads. Does anybody doubt that there will be pressure on the pension funds to invest in certain projects that favor certain people and certain contractors and certain areas? We all know what kind of people we are dealing with here. Rick Perry can’t resist it. He appointed the members of the boards that oversee the pension funds. These deals will be neck-deep in politics.

The Statesman’s story on the leadership’s plan quotes Britt Harris, the chief investment officer of the Teacher Retirement System, as saying that investments in infrastructure made sense if the proposal was “equal or better than something we can get [in another project].” Harris then pointed out that the fund’s “ultimate loyalty is to the members,” not to target investments based on geography or politics. The last clause does not appear in quotation marks in the article. Bravo for Britt Harris, but I think he should keep his resume updated.

The biggest risk in toll roads as investments is political pressure. The pressure comes in two forms. The first is pressure on the consultants to provide favorable projections for use of proposed toll roads. Does anybody trust TxDOT–or the consultants they hire, or the private entities they seek to contract with–to do hardnosed, accurate projections? If you do, then consider these comments from an article in Business Week several years ago, at about the time Rick Perry was unveiling his proposal for the Trans-Texas Corridor:

* “There is a history of feasibility studies for toll roads being overly optimistic,” says John J. Hallacy III, director of municipal bond research for Merrill Lynch and Co.

* “Of the 10 major private toll roads constructed since the mid-1990s, nearly half carry far less traffic than projected. Some $4 billion in toll road bonds risk default over the next five years unless they’re refinanced,” estimates Robert H. Mueller, a municipal bond analyst at the J.P. Morgan securities Inc.

What about financing toll roads with bonds? Well, don’t expect bond raters to give the bonds a good rating. I’m quoting here from an article that appeared eight years ago in a tollroad industry publication, so it is possible that things may have changed, though I doubt it. Credit is much harder to get today than it was in 2000.

Fitch-ICBA, the New York bond rating agency says that there is a permanent bifurcation of the toll road bond market. Established systems of toll facilities can expect to be rated in the range A to AA, whereas most standalone and startup toll facilities will be rated BB- to BBB. They see a continuing demand for new toll road financings because of what they call a “seemingly unbridgeable gap” between highway needs and the ability to finance them with tax monies that toll projects can often help to fill.

According to BondsOnline, bonds rated BBB are “lower medium grade” and bonds rated BB- are “speculative.” The lower the bond rating, of course, the higher the interest rate that bond buyers demand. No one is going to be getting any bargains on toll road bonds. And AAA ratings are just a dream: “Fitch says that the ever present possibility of state governments siphoning off surplus toll revenues or leveraging them for other borrowings prevents state owned turnpikes from achieving the AAA rating.” So how can asking pension funds to invest in these bonds ever be a prudent investment? It can’t.

The article continues: Another problem with bonds for highways is that bond rating houses distrust state governments. It is unlikely that any state owned turnpikes will ever reach AAA: The key reason is susceptibility to political interventions.

I have said this before, and I will say it again. There is a sensible way to finance roads. It is to increase the gasoline tax and index it to inflation in the highway construction index. The gasoline tax has some weaknesses. Part of it is diverted to public education. People drive less when gasoline prices go through the roof. Cars are more fuel-efficient. All of this cuts into the revenue potential of the tax. Nevertheless, Texans still love their cars. The suburban lifestyle here is designed around the automobile. Even if the revenue per mile driven is declining, there is a lot of life left in the tax. A portion of the revenue could be dedicated to paying off the bonds for toll roads. This should be capped to ensure that money will still be available for free roads. While the resistance to tax increases is formidable, so is the resistance to toll roads. If you can persuade the public that a gasoline tax increase will reduce the need for toll roads, I think that proposition could be sold. Anything is better than insisting that the savings of retired teachers and state employees be invested in risky ventures like toll roads.