Gareth Kiernan looks into the murky world of public body cost-benefit analysis and finds it mingled with patch-protection and ego justifications

Gareth Kiernan looks into the murky world of public body cost-benefit analysis and finds it mingled with patch-protection and ego justifications
How many more (loss-making) convention centres does New Zealand need, wonders Gareth Kiernan.

By Gareth Kiernan*

Wellington City Council has recently approved the construction of a 1,200-seat convention centre in Wellington, which the Council will lease on a long-term basis from the developer at a cost of $4 million per year.

The aspect of this deal that has unsettled residents and ratepayers is the projection that revenue from the convention centre is only expected to average $2 million per year, leaving a $2 million shortfall.

The fact that the Council is embarking on this project knowing, ahead of time, that it will be a loss-making venture, provides an obvious reason as to why we haven’t seen private sector investment in this space in the past, and has led some people to question the business acumen of the Council.

The argument from the Council has been that the $2 million annual cost to ratepayers will be offset by the creation of 200 new jobs and $29 million more spending in the city per year.

I haven’t examined the calculations and assumptions around these numbers in detail but, on this basis, the benefits that are not directly captured in Council revenues of attracting more conferences to Wellington would be considerable. A nominal annual cost of about $10/year per Wellington City resident for the convention centre, given the contribution of the facility to the Wellington economy, would seem to be worthwhile.

But as anyone with a passing interest in cost-benefit analysis knows, these calculations need to be based on a raft of assumptions about the future economic environment, both with and without the proposed event or development.

And it’s not only the Wellington City Council looking at developing a convention centre at the moment – we’ve also got the National Convention Centre in Auckland and replacement of Christchurch’s convention centre going ahead, along with two significant proposals currently on the table for Queenstown.

The risk that the Wellington facility is unable to meet its revenue projections must be considerable given the competition for hosting events that these other venues are likely to provide.

Stadiums & airports

Convention centres may be the latest example of local government rushing in where the private sector fears to tread, but there are others in relatively recent history.

Stadium building is a particularly galling example for many Dunedin residents, with Forsyth Barr Stadium failing to meet its revenue projections, leaving the City Council saddled with an enormous amount of debt. And you can tune into Radio Sport and hear the likes of Mark Watson still bleating about how we should have built a national stadium on Auckland’s waterfront ahead of the 2011 Rugby World Cup – despite the fact that an 80,000-seat stadium would probably only be filled twice a year for All Black tests and would fall well short of covering its costs.

Another example of council-related overinvestment is in airports.

The advent of budget airlines in the 1990s saw a number of regional airports opened up to international flights, including Hamilton, Palmerston North, and Dunedin.

Runways were lengthened, with further extensions planned, and other airports such as Invercargill and Rotorua also dreamt of jumping on the bandwagon.

But the changing aviation landscape, with consolidation of routes and destinations, and a blurring of the lines between budget airlines and more traditional carriers such as Air NZ, now seemingly leaves little scope for a larger number of international airports in this country.

The recently announced abandonment of international flights out of Rotorua, which had effectively been subsidised by the Council over the last four years, is the latest example of investment in larger airport facilities that are now set to be underutilised for the foreseeable future. Having said that, the current Council in Rotorua should at least be applauded for having the courage to withdraw their financial support for the flights and avoid pouring more ratepayers’ money down the drain.

Even at Wellington Airport, with the private sector discipline imposed by needing to generate returns for shareholders, the rationale for extending the runway must be questionable – as evidenced by Infratil’s request for a substantial injection of public money for the proposal.

From Wellington’s point of view, opening up the airport to be able to take longer-haul flights from Asia would surely be a positive for business and tourism in the region.  But from a nationwide perspective, the move runs the risk of largely achieving its growth through cannibalising passenger numbers from Auckland and Christchurch. The net benefit to New Zealand as a whole from the investment is likely to be relatively modest, at best.

Education is another area where there is arguably too much competition or too many providers.

In terms of universities, there is some degree of specialisation in subjects such as engineering, but whether law or commerce should be offered so widely is questionable. The competition among institutions often leads to a devolution of resources, a lack of efficiency in service provision, and possibly inferior outcomes in terms of the qualifications that are ultimately provided. Within the last week, the Tertiary Education Commission has also pointed out the need for a rationalisation of smaller regional education providers, indicating that greater centralisation of tertiary education is necessary to create increased efficiency and improve the viability of the system.

Health services are similar.

Strong competition between district health boards to maintain their capabilities and service levels leads to undue resources being poured into lobbying and administration, sucking up time and funds that would be better used for delivering more operations.

NZ no bigger than Melbourne or Sydney

Let’s be realistic. In its entirety, New Zealand is not much bigger than either Melbourne or Sydney. Given our relatively small size, it would seem sensible that we work together as a country to maximise our business opportunities rather than over investing in infrastructure and then competing internally to try and generate a half-reasonable return on that investment.

Within regions, there have been occasional instances of collaboration, but often it seems that there is an element of competition between regions and everybody wants to have their own piece of the pie. This drive is often borne out of local authorities’ inability to “right-size” civic and infrastructure facilities in their region, believing the Field of Dreams mantra that “if you build it, they will come.”

There can be a valid economic argument for public investment in facilities where externality benefits to the community can justify that benefit. But too often there is a bias in calculations indicating a positive outcome, with wishful thinking rather than robust economic calculations underpinning the analysis. Properly assessing areas of uncertainty, and the probabilities and likely costs associated with those scenarios, is important to understand the ramifications that unfavourable outcomes may have on public investment two or five years down the track. Good information about the range of possible outcomes should help officials decide whether the risk of going ahead with a project is actually worth taking.

The link between the availability of funds and the necessary returns on those funds is weak across government institutions, whether it be local councils, tertiary institutions, or the health system.

What starts under the guise of economic development and public sector money stepping in where the private sector is too gun-shy to realise the “massive benefits” on offer can end up being the construction of expensive monuments to grandeur.

An argument for less competition across these social infrastructure areas should not be mistaken as simply a call for greater centralisation and a further reduction of facilities in regions outside the main centres.

Rather, the argument is for a greater degree of specialisation in the services and facilities that are offered. Looking at education, a place remains for niche courses offered in regional towns based around sectors and industries that are important to those regions. The process of rationalisation may result in a smaller number of education providers overall, but does not necessarily need to be at the expense of the geographic spread of service provision.

Returning to our original example of convention centres, even in this area there is potential for a number of facilities to happily coexist.

A 3,500-delegate facility in Auckland would obviously target the largest events, and could be primarily focused on attracting people from longer-haul destinations. In contrast, a smaller facility in Queenstown would be perfectly placed to focus on the Australian market given the growth in Trans-Tasman traffic through the town’s airport in recent years. Wellington’s obvious area of strength is public sector and government-related events, while Christchurch’s air links to parts of Asia suggest that its primary focus should be on those markets.

Getting disparate interests to recognise the need for cooperation is easier said than done. At most, local councils feel an obligation to their region and ratepayers, which does not generally extend to the nationwide economy.  Private sector companies are only accountable to their shareholders and will have no qualms about expanding at the expense of their competitors.  Central government is more likely to be able to facilitate coordination between health providers or education providers, but even in those areas, there is a certain amount of institutional “patch protecting” that occurs.

Nevertheless, at least where public sector money is involved, a greater degree of cooperation is important.

If an economic case can be made for the use of taxpayers’ and ratepayers’ money for the provision of civic or social facilities, it needs to be ensured that:

- the benefits of the project are not simply coming at the expense of existing facilities in other areas.

- the investment is the best and most efficient use of public money.

If either of these conditions is not met, then the project should not go ahead.

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Gareth Kiernan is the chief forecaster and operations director at Infometrics, an economic consultancy and forecasting service. You can contact him here »

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13 Comments

Apart from the economic lunacy of this decision Wellington City Council has probably put itself in breach of the Local Government Act as amended in 2012 and specifically the provision:
 

10 Purpose of local government

  • (1)The purpose of local government is—

    • (a)[]
    • (b)to meet the current and future needs of communities for good-quality local infrastructure, local public services, and performance of regulatory functions in a way that is most cost-effective for households and businesses.

 

 

101 Financial management

  • (1)A local authority must manage its revenues, expenses, assets, liabilities, investments, and general financial dealings prudently and in a manner that promotes the current and future interests of the community.

 
It's not a surprise since the same council ignored the advice of its own CEO to not waste ratepayer money on earthquake strengthing the old Town Hall.
 
You have to imagine that any ratepayer who succeeded in getting a judicial review of this decision would have a high chance of success. 
 
The economic and business naievity of councils is well-known and well documented. What is most appalling is that there are genuine investments they could make that would benefit their communities that they ignore. Presumably because car races, convention centres and sports stadia are way sexier than roads and pipes.
 
If $2m is really burning a hole in their pocket WCC should consider that it would cover the finance costs of $40m - $50 of infrastructure. One thing councils can do to make housing more affordable is to pro-actively extend infrastructure as a way of lowering land prices. They even know that they could use the Development Contributions regime to get some or all of the money back later.
 
But given a choice between the dull, boring and effective or wasting other people's money to get your name on the foundation plaque guess what most councillors will do?

You have to admit Kumbel, a corporate box overlooking the stadium, is more attractive to councillors than a corporate box ovelooking the poo ponds. Also the food tastes better for some reason.
Council are quite happy to flush millions way on a convention centre, but fail to pass a motion on new wastewater infrastructure, such is the constipated planning process.
 

It's not like a career in local government politics is all that meaningful these days. Why not fritter away the time being single mindedly devoted to public service?

Problem is they don't know how to measure their worth anymore.
They can't understand how they meet all their own internal targets, yet their customers are increasingly unhappy. And have got to the piont that they might as well focus on other internal targets, like growing their own department for the extra prestige and income it then commands
The fact they have to resort to 'bread and circus' behaviour immediately red flags something is wrong.
They need to ask themselves, what is the core purpose of council?
 

Right on the money as always, Dale.
 
It's an unintended consequence of all the reforms of the last 25 years:
 

  • all the heavy lifting is done by staff so councillors have little opportunity to make any kind of mark other than these acts of stupidity that the staff run a mile from
  • local government gets little media attention partly because it is so predictable so there is no audience for councillors to play to except each other
  • the requirements for forward planning and performance reporting are so onerous little time is left to think about anything else
  • they are too cheap and too vain to spend the money finding out what their community really think of them - they regard a handful of submissions to the Long Term Plan as evidence of the great work they are doing

 
It's pretty sad all round

That is a very accurate picture Kumbel !!!!

There is also a problem in that they are biased in what they choose to believe:
 
http://dilbert.com/mashups/comic/234610

Good article, substantive comments, well done one and all.
 
Just don't expect thing one to happen as a result.... 
 
Now if only we could get a Gubmint which, at a legislative stroke, wiped out Councils as currently constituted and replaced them all with a Ministry of Local Works.  With new legislation, new faces, and few of the old, Deadwood staff, think what could be done...
 
Nevah gonna happen....but I'd volunteer to drive the D7.....still got me WTR license....

"The argument from the Council has been that the $2 million annual cost to ratepayers will be offset by the creation of 200 new jobs and $29 million more spending in the city per year."

IF that was true then there would not be a short fall of $2million dollars in oprating profits.

The developer is leasing at $4M.  revenue is $2M.   The developer is getting free ratepayer money for a service which isn't worth $4M.

And in the meantime, _IF_ there are jobs created from the $2M shortfall, then those are subsidised jobs, not sustainable ones.  And that means some ratepayers are subsidising other peoples' businesses, even probably their own competitors.

Such a loss making project is unethical, and unsupportable.  Only foolish politcal gladhanding or deliberate ignorance could possible allow such a folly to pass. 
AND the more of them they pass, the faster their grass root economy will fail.

Hopefully we'll see the Auditor General do a house cleaning on such activities and take the fraudsters to court - you would allow this kind of activity from your local school trustee board, and there at least there's a true social good !

EVentually the ratepayers will catch on to the shocking marketing strategies of the Councils and how they get things pushed through Cowboy!!!
For as long as I can remember every shortfall in every venture a Council undertakes has been sold or enforced upon the ratepayer using their hideous argument of wider benefit filling the shortfalls.......every parasite needs a host !!!
 
 

FFS, the rate payer is not a bottomless pit.
regards
 

To the Keynesians and Social programs they are...in fact they see the council and goverment as the source, not the rateepayers.   (that's why _so_ important to make sure people contribute to what they use, otherwise they just think the man behind the tree owes it to them)