What Is a Private Finance Initiative (PFI)?

A private finance initiative (PFI) is financing public-sector projects through the private sector. PFIs alleviate the government and taxpayers of the immediate burden of raising capital for these projects. Under a PFI, a private company handles the up-front costs instead of the government. In return, the government authority makes payments to the private company over the long term.

Understanding Private Finance Initiatives (PFIs)

Private finance initiatives are used to fund major public works. Many are infrastructure projects that benefit the public sector. These include highways and roadways and transport projects such as railroads, airports, bridges, and tunnels. Private-sector firms may also be contracted to construct water and wastewater facilities, prisons, public schools, arenas, and sports facilities.

Private firms are responsible for financing, managing, and completing these projects instead of taxpayers, which instills concern in the audience.

The length of the contract depends entirely on the project. However, PFI contracts typically run between 25 and 30 years in the United Kingdom.

The public-sector partner is responsible for clearly defining the project's objectives and ensuring the private-sector partner complies with the partnership terms.

Special Considerations

The term private finance initiative is used primarily in the United Kingdom and Australia. In the United States, PFIs are typically called public-private partnerships (PPPs).

PFIs were controversial in the United Kingdom and saw a gradual decline in use after the global financial crisis. This was partly due to the high costs associated with these initiatives. As such, the Chancellor abolished their use in 2018. New initiatives were no longer in use, but existing ones continued until they expired.

Advantages and Disadvantages of Private Finance Initiatives (PFIs)

Advantages

Governments have traditionally had to raise money independently to fund public infrastructure projects. If they can't find the money, they may borrow from the bond market and hire and pay contractors to complete the job. This can often be very cumbersome, which is where the PFI enters.

PFIs are intended to improve on-time project completion and transfer some risks associated with constructing and maintaining these projects from the public sector to the private sector.

PFIs also improve the relationship between the public and private sectors while providing both with long-term advantages. Through this relationship, both sectors can share knowledge and resources.

Financial advisors, such as investment banks, help manage a PPFI's bidding, negotiating, and financing.

Disadvantages

A key drawback of private finance initiatives is that since the repayment terms typically include payments plus interest, the burden may be transferred to future taxpayers. In addition, the arrangements sometimes include construction and ongoing maintenance once the projects are complete, increasing a project's future cost and tax burden.

There is also a risk that private-sector firms may not comply with relevant safety or quality standards when managing a project.

In addition, terminating a PFI contract before it ends can be highly complex, as most projects cannot secure private financing without assurances that the funding will be repaid in the case of termination. In most termination cases, the public sector must repay the debt and take ownership of the project. In practice, termination is considered only a last resort.

Pros

• Governments can issue bonds to raise money when there is a shortfall
• Designed to improve on-time project completion
• Transfers some of the risks associated with constructing and maintaining projects
• Improve relationships between public and private sectors

Cons

• This may put a financial burden on taxpayers
• Risk to private-sector firms that don't comply with safety or quality standards
• Terminating contracts can be complex

Criticism of Private Finance Initiatives (PFIs)

Private finance initiatives were implemented in the United Kingdom in 1992 and became more popular after 1997. In the 2000s, the controversy surrounding PFIs revealed that the government was spending significantly more on these projects than they were worth, benefiting the private firms running them and detrimenting the taxpayers. In addition, some have criticized PFIs as an accounting gimmick to reduce the appearance of public-sector borrowing.

Example of a Private Finance Initiative (PFI)

In 2020, the U.S. government engaged in public-private partnerships in response to the COVID-19 pandemic. It partnered with private vaccine developers such as Pfizer, BioNTech, and Moderna, launching vaccines in less than a year.

Public-private partnerships were also responsible for innovations in COVID-19 testing, treatment options, and vaccine distribution throughout the country.

What are Examples of Private Finance Initiative (PFI) Projects?

Private finance initiatives (PFIs) typically involve major government projects such as highways, public transport, airports, bridges, and tunnels. Other PFIs include hospitals, arenas, prisons, and public schools.

What are the Benefits of Private Finance Initiatives?

One of the main benefits of private finance initiatives is alleviating the immediate financial burden on the government and taxpayers to finance major public-sector projects. PFIs can also transfer some of the risks associated with a project from the public to the private sector.

How Long Do Private Finance Initiative Projects Last?

Private finance initiative projects usually take decades to complete, while contracts in the U.K. typically last 25 to 30 years.

The Bottom Line

Private finance initiatives (PFIs) allow governments and the private sector to join forces to finance and implement projects that benefit the public sector. While PFIs have some potential downsides, governments worldwide have used them for decades to fund various projects, ranging from highways to hospitals. Referred to as public-private partnerships (PPPs) in the United States, such partnerships were instrumental in developing COVID-19 vaccines.