The future of economic growth and infrastructure development

  • 29 October 2024
  • 8 min read
Overhead highway with greenery inbetween

The current global economic landscape is marked by urgent challenges, not least of which are the trillions of dollars that need to be invested in infrastructure in the decades ahead, at a time when governments are fiscally constrained, and economies are growing below par.

Climate change catastrophes are wreaking global havoc on infrastructure. Ageing developed economies will require significant health infrastructure investments to care for their elderly. Meanwhile, emerging markets like South Africa have fast-growing populations and are grappling with inadequate, often failing, and inequitable infrastructure that threatens their stability.

Understanding the importance of infrastructure development

If the economy is the lifeblood of a country, infrastructure is its arteries. Without the facilities and services that crucial infrastructure such as power plants, water and sanitation facilities, schools, transport and telecommunications networks provide, an economy and society cannot operate.

Understanding the role of infrastructure

The government has traditionally been responsible for development and funding infrastructure projects for the greater economic and social good. Ease of access to reliable, clean and safe water, energy, and basic goods shapes the quality of life of a country’s population. How equitably those facilities and services are distributed across the population determines the country’s political and social stability.

The importance of infrastructure in the modern economy

Sufficiently robust and well-functioning infrastructure supports industrial growth, promotes innovation and attracts foreign investments - all vital contributors to economic growth. Physical infrastructure also needs to be sufficiently robust to withstand the impact of climate catastrophes while also incorporating clean energy technologies and systems to adapt to climate change.

As modern economies have become more sophisticated, the need for reliable and scalable basic infrastructure services has intensified. For instance, the data centres that underpin artificial intelligence and other technological advancements cannot operate without uninterrupted access to energy.

Impact of Infrastructure on economic growth

The impact of infrastructure - both positive and negative - on economic growth cannot be understated. Historically, economies that have invested significantly in infrastructure have experienced far stronger growth rates than those that haven’t. According to McKinsey Global research, every £1 of infrastructure investment can raise GDP by 20% in the long run.

In contrast, insufficient or failing infrastructure investment can cost an economy dearly. South Africa’s failure to invest in electricity infrastructure cost the country an estimated R15 billion in 2023 alone, greatly contributing to an economic growth rate of less than 1% over the last few decades.

Global examples of infrastructure-led economic growth

China is the world’s best example of a country that has benefited from infrastructure-led growth for decades. The extent to which governments and the private sector invest in infrastructure is captured in the gross fixed capital formation as a percentage of GDP, and in China this has averaged 35%. The country’s substantial investments in infrastructure contributed to its average growth rate of 8.5% for decades.

India is another economy experiencing the fruits of recent investments in infrastructure, aiming to follow in China’s footsteps. The country grew by 8.4% in the first quarter of this year, largely due to its substantial road, railroad, and power grid infrastructure upgrades. The government has earmarked another $134 billion for infrastructure projects in its latest budget, and according to the International Monetary Fund, capital spending and productivity growth will be the biggest drivers of India’s expansion in the years ahead.

Strategic Infrastructure Investment in South Africa

After decades of underinvestment in infrastructure, South Africa’s government has recognised the imperative to strategically invest in infrastructure to achieve the growth rates it needs to reduce acute inequality and unemployment and become a well-balanced economy able to compete globally.

South Africa has trailed its emerging market counterparts in how much it has invested in infrastructure. Since 1990, it has spent less than 20% of GDP on crucial capital investments and in 2023 that figure declined to below 15%. This compares with the 30% to 35% that studies show is needed to grow economies. The lack of investment in infrastructure has resulted in South Africa’s anaemic average economic growth rate of 0.59% between 1993 and 2024.

Infrastructure as a catalyst for development

The government has recognised that it needs to facilitate large-scale infrastructure investment to achieve its socio-economic objectives of eliminating poverty and reducing inequality by 2030, as spelled out in its National Development Programme.

To do that, the government must bridge a R2 trillion funding gap over the next 10 to 15 years. Given that the government lacks the fiscal capacity to do it alone, the private sector will need to be crowded in to bridge the gap.

Role of infrastructure in economic stability

South Africa is already experiencing the political consequences of its inadequate, and in many instances failing, infrastructure. The ANC lost its majority in the 2024 elections following a long-standing inability to provide basic services such as electricity and water to the electorate and ongoing logistical challenges caused by inadequate rail and road infrastructure.

Political instability also threatens economic stability, particularly as infrastructure and investment policy reforms implemented over the past few years could be subject to change under a new political regime. Investors need to be assured of policy certainty before they will be willing to invest the substantial sums needed to stabilise, let alone improve, the infrastructure and services needed to secure economic stability.

Integrating infrastructure assets into investment portfolios

The good news is that the private sector has the funding capacity and will to invest in infrastructure as long as there is policy certainty and confidence that the required commercial returns can be achieved. Global investor interest in broad-ranging infrastructure investment opportunities is increasing as the publicly traded equity universe contracts. A potentially lower return environment will also prompt investors to look further afield for investment opportunities.

Benefits of infrastructure investments

Investing in infrastructure assets is attractive to investors because their performance is not correlated with traditional asset classes, including bonds and equities, thereby contributing to portfolio diversification. Infrastructure assets are also typically less volatile than publicly traded assets and have attractive long-term risk-return profiles.

Infrastructure investments are particularly well-suited to retirement fund investors because these projects have long-term time horizons and predictable income streams, which match the investment needs and long-term nature of retirement fund liabilities.

Conclusion

Several socio-economic forces are coming together and laying the ground for massive infrastructure investments in South Africa and globally during the decades ahead. This allows investors to take advantage of the benefits of investing in an asset class that provides valuable portfolio diversification and long-term stable and predictable returns.


Tags: Infrastructure Investing

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