A Rural Government Program Worth Supporting

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It is a rare day when the federal government does something smart, especially in the world of targeted investments. Solyndra and the myriad of other targeted investments made and lost by the government in the area of alternative energy are pretty much what we expect when the government tries to pick winners or invest taxpayer money in places that the private sector has chosen not to go. Finally, the White House may have found its niche on Wall Street: matchmaker.

The White House Rural Council is helping to create what they are calling the Rural Infrastructure Opportunity Fund. This will be a hedge fund, more or less, focused on investments in rural infrastructure, both public and private in nature. Initial funding of $10 billion is being pledged by Co-Bank, a member of the Farm Credit System, and private investors are expected to join in. Management will actually be by a private sector firm, Capitol Peak Asset Management. The government's role appears quite limited.

First, the Farm Credit System is a quasi-governmental series of borrower-owned banking coops that focus on agriculturally-related loans and general purpose loans in rural areas. The banks do not take deposits and get their funding from bonds they sell with the backing of the federal government. This implicit subsidy is pretty much the extent of government involvement in the banks. Second, the US Department of Agriculture will help pick projects for investments. While this sounds like the government picking winners and losers again, it is not as bad as it sounds.

USDA, through its Rural Development division, has long provided loan guarantees for projects in rural areas in a manner similar to the Small Business Administration. They have also been involved in such rural development projects as rural electrification. Thus, they have some expertise in evaluating projects. Further, they will not be selecting the portfolio, but rather simply helping to bring projects to the attention of the actual fund managers at Capitol Peak Asset Management.

With the Federal Reserve having artificially depressed interest rates in a fairly unsuccessful attempt to stimulate the economy and the various world financial markets seeming to be more in synch every day, investors are searching for both yield and diversification. Those investors have already discovered both farmland and agricultural commodities as investment classes. Further, established companies like the Macquarie Infrastructure Company have been buying previously public infrastructure projects for a while now. Thus, the stage seems right for this sort of investment vehicle.

In general, I think the private sector can fund worthwhile rural infrastructure projects without help from USDA. After all the municipal bond market functions quite nicely. However, a mostly private sector fund to back such projects is certainly favorable if the alternative is another White House proposal for government spending.

Because the investors in the Rural Infrastructure Opportunity Fund will be expecting a return, there is an incentive to make sure that the projects are not just socially beneficial but actually can pay for themselves through some specified revenue generation. This is really little different from many past municipal revenue bonds, with a new twist being that investors will be able to back bundles of projects to increase their diversification and lower their risk.

Too many public-private partnerships in the past were really just government subsidies to private sector enterprises that captured all the profits, often while accepting little of the risk. In this case, the public sector is only contributing some USDA expertise and the interest rate subsidy that the Farm Credit System gets courtesy of its government guarantee. All the risk resides in the private sector which should serve to remove politics from the investment choices, ensuring that only the most economically attractive projects get funded.

The world is awash in funds searching for profitable investments at a suitable risk (witness the near-zero interest rates on U.S. government securities). If a little government help draws those investments into rural development and saves taxpayers from footing the bill for many of the same projects, I call that a great government program.

Jeffrey Dorfman is a professor of economics at the University of Georgia, and the author of the e-book, Ending the Era of the Free Lunch

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