Councils risk credit rating downgrades if they do not spend enough on infrastructure, S&P says

Friday, 30 April 2021

A pipe burst in Aro Valley in January in one of Wellington's numerous recent pipe failures.

Credit downgrades could be on the way for councils that do not invest enough in infrastructure, according to the agency that assesses them.

The public debate has been focused on how much money councils borrow, but ratings agency Standard and Poors (S&P) is also keeping a firm eye on what councils do not spend.

S&P analyst Anthony Walker said it has been looking at the amounts councils are spending on “renewals”, the cost of maintaining or replacing assets.

Council underspending in this area represents a risk to those who lend them money, because councils could be stung with large repair bills just as it comes time to pay back some of their debts.

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Workers remove part of the ruptured pipe which sent sewage spilling across Victoria and Mercer streets in Wellington.

“What happens if something breaks because you are not doing your underground infrastructure, and you let it deteriorate all the time in the future?” Walker said.

“You’re going to have a massive infrastructure bill and large deficits and your debt levels are going to have to rise rapidly.

“So we can actually lower ratings if we are seeing councils deliberately not spending to keep their assets up to date,” he said.

Sense Partners economist Shamubeel Eaqub said high-growth councils were in an “untenable” position.

“Everybody goes ‘oh isn’t it terrible that we’re borrowing a lot of money’. Not understanding that by not borrowing and investing we are actually creating this big liability that is actually going to be problematic.”

Eaqub said growth councils need to spend the most on infrastructure, but they are also the councils most likely to lose their ability to borrow when they run up against debt limits.

“They will be penalised if they borrow and they will be penalised if they don’t borrow. That’s the impossible position. It’s untenable.”

Shamubeel Eaqub says councils aren’t spending enough on infrastructure to keep up with population growth.

Council underspending has been a long-reported phenomenon in New Zealand.

An Auditor-General report from 2014 showed councils were not re-investing in infrastructure at the amounts those assets were depreciating by.

The Auditor-General predicted if councils kept underspending there would be a $6 billion to 7b gap between the amount those assets had depreciated by and the amount that had been put in to maintaining them by 2022.

Some of these issues came to a head spectacularly in Wellington recently with burst pipes, sewage leaks and sludge issues, but they are forecast to become a problem for all councils. It is one reason the Government is moving on trying to get water authorities to amalgamate.

Reporting by Stuff showed many of Wellington’s problems arose because not enough money was being pumped into the maintenance of these water pipes as elected members crowed about keeping rates increases low.

Eaqub said council long-term plans did not reflect reality and a lot more cash would be needed for infrastructure than what they had put down on paper.

“When they are doing their plans they are being too conservative.

“It looks like they are doing enough, but actually they are not doing enough because they are not keeping up with the population growth and economic growth.”

Eaqub said growth councils had budgeted less than a quarter of their capital expenditure budget on new infrastructure to accommodate population growth.

Most of their capital expenditure money was scheduled to be spent on renewing the assets they already had.

“The other way of saying it is you spend 75 per cent of your capital expenditure budget on standing still.”

S&P also seem to be increasingly sceptical central government will come to the rescue.

Wellington has recently experienced burst pipes, sewage leaks and sludge issues, but they are forecast to become a problem for all councils.

Last year S&P's analysis indicated a big “shovel-ready” Covid-19 spend-up was likely to filter down to local councils, but it is less optimistic now.

“We have seen that money start to trickle out to some councils, but it’s probably a slower timeline than we originally envisaged,” Walker said.

“It seems that projects over the next two to three years have been included rather than the immediate future.

“It is supportive, but it’s probably not as supportive as we were originally thinking it was going to be when it was announced.”

Right now, S&P is running on the assumption councils won’t receive central government cash to do up their water systems.

It is taking this position even though there is a ‘three waters’ (drinking water, wastewater and stormwater) process in-train to take these liabilities off council books.

“We’re still waiting to see what happens with that [Government funding for three waters], but if that doesn’t go ahead we’ll be starting to question how councils are going to fund some of those numbers that are being thrown out there,” Walker said.

“Our best assumption is we are treating it as business as usual. That is, councils are responsible and [Long Term Plans] should be reflecting that.”

The ratings agency also says future accounting standards could erode the ability of councils to borrow too.

Audit New Zealand has already raised concerns about Wellington City Council and the huge liabilities it has not declared.

One of these is a social housing liability of $403 million that the council has to meet as part of a deed of grant it signed with the Government in 2009 where it agreed to maintain its social housing to a certain standard for 30 years in return for $220m of Crown funding.

Walker drew attention to new accounting standards which might require greater disclosure of future liabilities like these if they were ever enacted in New Zealand.

When one of these was enacted in Australia $8b to 10b worth of liabilities were added to the State of Victoria’s books at the stroke of a pen.

“Other systems are actually introducing these accounting standards that are actually putting all funding commitments on the balance sheet before they become apparent.

“That’s where accounting standards are moving,” Walker said.