In late July, S.2443 Energy and Water Development and Related Agencies Appropriations Act, 2024, was passed out of committee and put on the Senate calendar. I assume it’ll become part of a must-pass consolidated appropriations bill later this year.

One section of the bill adds $2.2 million in funding to WIFIA’s program account for dam safety projects, in effect boosting CWIFP’s dam funding to $77.2 million. More importantly, the section also expands the scope of where the funding can be used to include a closely related type of water management infrastructure, levees:

WATER INFRASTRUCTURE FINANCE AND INNOVATION PROGRAM ACCOUNT
For the cost of direct loans and for the cost of guaranteed loans, as authorized by the Water Infrastructure Finance and Innovation Act of 2014, $2,200,000, available until expended, for safety projects to maintain, upgrade, and repair dams identified in the National Inventory of Dams…Provided, That amounts made available under this heading in this Act shall also be available for projects to construct, maintain, upgrade, and repair levees and ancillary features with a primary owner type of state, municipal, county, private, or other non-Federal entity [1].

Interestingly, the funding’s scope for levees is somewhat broader that it is for dams, which is limited to ‘safety projects’ and seems to exclude new construction. The language for levees doesn’t have the safety qualifier and includes new construction. I would guess that this expansion probably reflects some more-or-less thought-out practical considerations for the levee sub-sector.

It’s certainly possible that the extra funding and/or the levee language could be modified or deleted as the bill progresses through the full process. But I find that hard to imagine in the context of everything else that’s going on in Congress during these interesting times. They’ll be quite busy this fall. So, I think it fair to assume that this section will be eventually enacted as is, and its potential impact on CWIFP financing volume is worth considering for inclusion into CWIFP follow-up dam finance recommendations.

Estimating Potential CWIFP Levee Borrowers

As you’d expect, I don’t have any more real-world knowledge or experience with levees than I do with dams. Which is to say, basically none. But with that caveat, I think I can develop some very approximate estimates of the numbers of potential borrowers in the levee sub-sector using the same process I followed for CWIFP dam borrowers. And fortunately, the same data sources I used for the dam estimates are available (albeit in less detail) for levees. The first is the USACE’s National Levee Database, which is very closely modelled on FEMA’s National Inventory of Dams. The filters in the NLD are not as extensive as those of the NID, but adequate enough to make some estimates here. The second is from the Association of State Dam Safety Officers, which unsurprisingly covers levees in addition to dams and has a separate organizational section dedicated to the subsector. Their 2018 report, A Summary of Risks and Benefits Associated With
the USACE Levee Portfolio, is the main source I use here.

There are two things to note. First, in contrast to dams, which often have primarily local economic purposes (e.g., hydroelectric, reservoirs, recreation, etc.), levees seem to be mainly about regional flood control and inland navigation, both of which are (I think) primarily federal responsibilities. The USACE is the central federal agency for this task (as levee database sponsorship and the focus of the ASDSO report indicate) — and of course, it’s the agency where CWIFP operates. This circumstance undoubtedly will result in more and likely stricter application of WIFIA’s notorious FCRA Criteria, as will be discussed further below.

Second, this analysis will be abbreviated relative to prior one for dams. Partly, this is due to the immediately available data — to dig out more would require the kind of sectoral expertise I don’t have. I also think even a short analysis for the levee sub-sector is sufficient to add to recommendations for the primary focus, CWIFP dam finance.

Levee Length and Federal Involvement

According to the NLD, there are 6,837 levees in the US, with 25,411 of total mileage and an average age of about 60 years.

Like height is for dams, length seems to be the primary characteristic we need to consider for levees, as it will probably determine project cost. Also, for the FCRA Criteria reason noted above, federal involvement (there appear to various shades) should be baked into the analysis at the outset. The NLD has filters for length in miles and for various categories of ‘Authorization’, including Local, USCE and other federal agency involvement. Using these filters, we can categorize both aspects:

As with dams, most levees appear to be quite small, with a dramatic drop-off in numbers for those over 15 miles. Unsurprisingly, federal involvement is strongly correlated with length. Small levees are mostly fully local, while the majority of larger ones have some federal (primarily USACE) involvement.

Levee Project Cost Per Mile

I don’t have clear data about the percentage of levees with safety and other issues, or what type of project might be necessary to fix the issues. I’ll simply assume that at some point over the next few years all levees will need some type of repair, rehabilitation, restoration, expansion, etc., as you’d expect for essential infrastructure with an average age of 60 years. Obviously, a more in-depth analysis would provide a better picture, but the assumption will do for now.

Data about the cost of various project types is also not easily available (I’m beginning to see that the granular and useful detail summarized in ASDSO dam report for the prior analysis is very much the exception, not the rule). But there is one data point about total project cost of the USACE project portfolio in the ASDSO levee report, an average of $21 billion in aggregate. Using the total mileage associated with that portfolio, 14,400, I get an estimate of about $1.5 million per mile for a (possibly?) typical levee project. That number is obviously rough-and-ready, and doubtless will vary greatly depending on the project, but the portfolio size is a significant proportion of the total (though it likely skews to larger projects, as noted above) so I’m pretty sure that the estimate reflects some reality.

Combining the $1.5 million/mile cost estimate with the length & federal involvement data above, and putting it into the three categories of project size I used the in the dam analysis, yields the following picture:

The total aggregate cost of all 6,837 possible levee projects in the next few years would be about $37 billion, of which $21 billion is in the USACE portfolio, as noted above. Importantly for our purpose here, almost all of the small projects (under $2m) are local, and the great majority of large projects (over $20m) have federal involvement. Medium size projects ($2-20m) are a mix of local and federally involved.

CWIFP Potential Levee Borrowers

As in the prior dam analysis, with an approximate taxonomy of possible levee projects, we can estimate the volume of CWIFP financing that might be relevant to this sub-sector’s needs.

I make the same assumptions as used in the dam analysis with respect to CWIFP and project size, and for the same reasons. Projects under $2m in size are probably not relevant to CWIFP demand, while those over $20m can benefit from direct CWIFP loans, generally in the manner provided by WIFIA loans. Projects in the $2-20m range could benefit from indirect CWIFP loans that involve project combination or lending by intermediary project funds.

For the levee sub-sector, however, I add another type of categorization that I fear may be an important element in whether CWIFP will be able to offer financing for otherwise completely eligible large and medium size projects — federal involvement that results in disqualification under the FCRA Criteria.

I assume that local projects (per the NLD Authorization filter), won’t have an issue with FCRA. But those with some sort of federal agency involvement per the NLD filter will run right into it. Two aspects of the category would seem to intensify the potential for serious FCRA issues. The first is that the overwhelming majority of federal involvement is related to USACE activities. The second is that the filter itself references some type of ‘authorization’. Federal involvement itself would likely trigger the application of the FCRA Criteria, but the USACE and authorization aspects are further and specifically constrained by the Criteria’s infamous Footnote No. 4 [2]. Obviously, the severity of the issue will depend on the facts of a particular project, and I don’t know or completely understand everything that’s going on in the NLD filters, but in the overall context of CWIFP’s FCRA travails, I wouldn’t be too optimistic. At the least, federal involvement per the NLD filter is a flashing red warning light, and hence I’ve included a FCRA category for large and medium size projects.

Conclusions

The same conclusions for the dam analysis generally apply to non-FCRA levees. For these, the Senate language simply adds a closely related infrastructure sub-sector to CWIFP’s funding base and scope of demand. This appears to be relatively important for CWIFP direct loans — $2.7bn of volume across about 90 levee projects would be a significant addition to the $10.7bn of volume and 420 projects estimated for CWIFP direct loans in the dam analysis. For medium size non-FCRA levee projects, however, the potential impact looks much more marginal, since medium size dam projects dominate volume and number of projects in that sector.

But the biggest area of possible demand — CWIFP direct loans to levee projects with a potential FCRA issue, about $14.6bn of volume across 240 projects — is also the most problematic. For many of these projects, a FCRA disqualification might be objectively justified. The ASDSO levee report notes that the USACE portfolio includes 190 ‘Federal’ levees that are operated by the Corps without local involvement. Aggregate possible project cost for this group might total about $6bn, most likely primarily for projects over $20m.

As they are, I assume these possible ‘Federal’ projects will rely on federal sources for debt repayment, which legitimately precludes them from federal financing, and not just because of FCRA treatment either. But what if a local community proposes a cost-sharing arrangement to improve the safety of their section of a Federal levee? Is CWIFP financing for the local share (including fully local repayment sources) of the project eligible? That would pass WIFIA’s Section 3908 (b)(8) cost-share test and be consistent with FCRA law and fundamental principles, as well. But apparently neither of these matter, per FCRA Criteria’s Footnote 4, which overrides them both.

Other groups of possible levee projects with a lesser degree of federal involvement might get through the FCRA Criteria gantlet, depending on the specific facts. But realistically, I think any project with USACE involvement that includes any kind of Congressional authorization (that is, most?) is presumed guilty and can be written off. That’s probably the bulk of the $14.6bn and $5.4bn possible project volume for CWIFP direct and indirect loans for levee projects, respectively, or about two-thirds of overall potential CWIFP financing volume for the sub-sector.

In one sense, this is not surprising. As noted above, by their nature levees are often national-level, federal infrastructure assets and as such, extensive USACE involvement is inevitable. Given the FCRA Criteria’s focus (express and implied) on the USACE and CWIFP loans, two factors effectively overlap to disqualify a lot of otherwise completely eligible projects in the levee sub-sector. Likely this was an unintended consequence — it’s hard to imagine OMB having a specific animus against US levees, per se.

But in another sense, the unintentional nature of the FCRA Criteria’s exclusion of so many levee projects from federal financing demonstrates a surprising amount of carelessness about the real-world impact that OMB’s flawed and arbitrary FCRA rules might have. That’s the real problem. How many fewer local cost-share projects in this sub-sector will get done? How much more cost will federal taxpayers bear for essential levee projects due to this? How many efficiencies and economies of scale between USACE operations and CWIFP financing will be lost? Did OMB even think about these numbers? Of course not. Perhaps they should be made to.

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Notes

[1] I am assuming that ‘amounts made available under this heading in this Act’ was intended to mean that CWIFP funding for levee projects is limited to $2.2 million, though it can also get used for dams. But perhaps the full $77.2 million was meant also to be available for levees? Does the ‘in this Act‘ refer to the specific $2.2 million amount or to the program account ‘heading‘ where the full $77.2 million will be? It’s a theoretical question until the program gets going and actual demand can be assessed, and perhaps it’ll be clarified in that context. The important thing is that the levee sub-sector got added with any amount of funding, opening the door to applications.

[2] Here is the footnote, with emphasis added. For a future analysis, it would make sense to develop a precise comparison between how OMB intends the word ‘authorized’ to be understood and the exact scope and meaning of ‘Authorization’ in the NLD filter. Unfortunately, I suspect there’s a lot of overlap.

 WIFIA authorizes loans to support local cost-sharing requirements. See 33 U.S.C. 3908(b)(8) (“The proceeds of a secured loan under this section may be used to pay any non-Federal share of project costs required if the loan is repayable from non-Federal funds.”). However, such a loan that would finance a project that is in whole, or in part, a project authorized by Congress for the Army Corps of Engineers or the Bureau of Reclamation to construct would not meet the Federal asset screening process. Project applicants are encouraged to review all applicable statutory requirements before seeking WIFIA financing.

This is the first post in the series, Dam Finance Recommendations for CWIFP

According to the Association of State Dam Safety Officials, there are about 83,600 non-federal dams [1] in the US. Nearly 70% of them require some sort of work, the aggregate cost of which ASDSO estimates to be about $157 billion. The extent to which funding that huge expenditure might benefit from CWIFP financing essentially defines the current universe of potential Program borrowers.

CWIFP’s $75 million of budget authority for dam projects translates to about $7.5 billion in CWIFP loans or (with the usual 49% limit) about $15 billion in total project cost. Compared to $157 billion, on the surface it would seem that CWIFP should have plenty of potential borrowers relative to its resources. After all, that has been EPA WIFIA’s consistent experience since it began operations in 2017 with roughly the same budget authority for an infrastructure sub-sector with the same scale of potential eligible borrowers and required aggregate project costs.

But with a closer look, things are not so simple. Dam and dam project characteristics vary much more widely than those of WIFIA’s water agencies and their capital expenditures. In particular, a lot of dam projects that are otherwise completely eligible will not meet CWIFP’s various specific and statutory thresholds for size and credit worthiness. To determine — even very approximately — the Program’s pool of realistic potential borrowers requires a more granular classification of US dams and dam projects, in effect a specialized ‘taxonomy’ of the sector.

Even a quite limited taxonomy designed to identify certain types of dam project financing would ideally involve a lot of real-world dam sectoral expertise and experience, neither of which I have. That caveat should be borne in mind for the following discussion. Fortunately, however, there are two excellent data sources that, when used together, appear (at least to me) to provide the basic real-world metrics which I can then connect to financing concepts. The first is an invaluable recent report from ASDSO, The Cost of Rehabilitating Dams in the U.S. This report not only summarizes the overall numbers but outlines the sophisticated methodology behind them in some detail. The second is FEMA’s National Inventory of Dams, a comprehensive online database with very effective search filters.

The Basic Numbers Using ASDSO’s Logic Diagram

I start with the logic underlying ASDSO’s methodology, which their report summarizes in the chart below. Click on any of the graphics here to enlarge.

Applying the first two steps in the logic as filters in the NID database, I get the following numbers for size and age of US non-federal dams.

The results correspond to the general impression that most US dams are old and on the small size. The drop-off in numbers about 50 feet in dam height is pretty dramatic, though.

I use ASDSO’s next two logic streps for dam condition and expected remediation as additional filters in the NID database to estimate what capital work US dams seem to require. For simplicity, I label all potential works as ‘projects’ even though some may not ordinarily be described as such (e.g., repairs).

About 58,000 dams currently need some type of project, ranging from repair to extensive rehabilitation. Here I make an assumption that is outside the scope of the ASDSO report but might be relevant re potential CWIFP borrowers: The dams that require rehabilitation include those that ideally would simply be removed. I’m assuming this because dams slated for removal are probably (though not necessarily) in a poor/unsatisfactory condition, either as the reason for removal or the result of long neglect of an unwanted fixture. I’m guessing that, if correct, it’s likely truer of smaller dams than larger.

Dam Projects by Aggregate Cost

Two more steps beyond ASDSO’s logic diagram are required to connect the data to the financing aspects relevant to CWIFP. The first is to assess the cost of the projects, as that metric is what requires funding and might benefit from financing. The ASDSO report has got us covered there, too. Here are their estimates of project cost for each dam size and project type category:

Simply multiplying the average cost estimates by the numbers in each category shows us how the $157 billion total cost is distributed. My numbers include another assumption about dam removal, that the cost of removal is essentially the same as that of rehabilitation. I think this makes sense since both involve extensive work and although removal won’t need to include the specific reconstructive aspects of rehabilitation, it will likely require removal of a lot of debris, restoration of the site, landscaping of the drained reservoir, etc.

You can see that despite the low number of 50+ foot dams, their aggregate project cost as a proportion of the total is a bit higher. But not by much.

The second step is more subtle but central to the analysis. Dam height is perhaps an indicator of several things that might be relevant to CWIFP financing, especially in connection with the potential urgency of completing projects for safety reasons. But height only roughly correlates to the primary aspects of a project’s financing. For example, CWIFP requirements for minimum $20m in project cost don’t really correlate with dam height because it depends on the project type — a medium dam’s rehabilitation project might be over $20 million whereas a large dam’s repair project won’t. Other financing aspects will have similar overlaps between dam height categories. A reclassification of aggregate project cost is required for our purpose here. I use three project cost size categories that I think are especially relevant to the Program, as further explained below.

With the numbers resorted in the three categories, the story gets clearer.

• Small Project – under $2m: Almost all dam repair and a significant percentage of retrofits will fall below $2m in project cost. There are a lot of projects in this category — almost 28,000 — with an aggregate cost of $33bn. But the weighted average project cost (WAPC) in this category is only about $1.3m.

• Medium Project – $2m to $20m: In contrast to small projects, almost all of the major dam work — rehabs and removal — will fall into the medium $2m to $20m range, along with the big majority of retrofits. There are even more projects in this category, about 30,000, with an aggregate cost of $114bn and WAPC of $4.2m. Clearly, this segment is the core of US dam funding requirements and therefore potential financing benefits.

• Large Project – over $20m: Finally, large projects of over $20m in cost are only a small percentage of the total, with an aggregate cost of about $10bn and WAPC of nearly $27m. Most importantly, there are only about 400 projects in this category.

CWIFP Potential Borrowers

With a basic — and hopefully approximately accurate — taxonomy in place, we can draw some conclusions about CWIFP’s potential dam project borrowers. Two conclusions for small and large projects are relatively straightforward:

• Small projects are not likely to be a significant source of CWIFP demand: CWIFP’s project size threshold is an obvious limitation, but it’s perhaps not the most fundamental. Infrastructure capital projects in the $1-2m range are usually funded out of cash flow or other internal resources by substantial entities. They have the credit quality to borrow, but discrete external financing for small amounts is usually not worth the transaction costs. Entities that can’t fund such a small project out of internal resources are unlikely to be creditworthy enough to access cost-effective market financing, much less meet CWIFP’s investment-grade threshold. And these won’t want to (or simply can’t) consider anything too complicated. They’ll be looking for grants, soft loans from philanthropic or state funds, etc. Yes, in theory, some sort of scale could be achieved with a portfolio of small loans to this category, but any leverage involved would probably need to be very basic, which excludes a relatively sophisticated CWIFP loan and its subtle benefits. I could be wrong, but I think the Program can (at least at the beginning) basically ignore this project size category.

• Large projects are likely to be financed and to benefit from direct CWIFP loans: Capital projects above $20m are likely to be undertaken by substantial, creditworthy entities which can arrange cost-effective financing to fund the cost. Most, if not essentially all, of their large projects will pass the Program’s eligibility tests. For these potential borrowers, a direct CWIFP loan is an obvious option that can deliver a range of benefits not found in their private-sector alternatives. In many ways, they’re similar to WIFIA’s water agency borrowers, and the success of the EPA program should help encourage large dam project borrowers to take a close look at CWIFP. I’d predict that there’ll be significant demand from this group. However, in contrast to the potential scale of demand from WIFIA’s pool of qualified potential borrowers sustaining that program’s consistent success, there just aren’t many potential large dam project borrowers and they don’t need that much financing, relative to CWIFP’s $7.5bn loan capacity. Direct loans to large dam projects should obviously be an important part of CWIFP’s development and policy outcomes, especially in the Program’s early phases. A lot of WIFIA experience will neatly translate to large dam loan origination and execution at CWIFP, jump-starting operations and the first closings. But then what?

The third conclusion concerns medium-sized dam projects, by far the largest segment of potential demand for funding and financing in the sector, and it is less straightforward:

• Medium-sized projects might be an indirect source of CWIFP borrower demand through project bundling and loans to dam funds: Obviously, a single project with a cost of less than $20m won’t meet CWIFP’s minimum size threshold [2]. That precludes a direct CWIFP loan for the project, but there are two paths for medium-sized dam projects to indirectly obtain CWIFP financing. The first is ‘project bundling’ or a combination of medium-sized projects with aggregate cost exceeding $20m that submits a single application. This is not a practical path for small projects, but it may be for medium-sized ones, e.g., a combination of just two $10m projects would get there. And at the medium size, CWIFP’s creditworthiness threshold for the combination is more likely to be achieved. The second path is through CWIFP direct lending to public (e.g., SRFs) or private funds that then on-lend to smaller projects. However, as discussed in this post, CWIFP Loans to Small Dam Funds (where ‘small’ there is ‘medium-sized’ in this taxonomy), neither path is simple in practice for either borrowers or the Program. I think CWIFP will need to push the interpretation of current law (as WIFIA has done in several cases for other loan features) to make the project combination path feasible. Lending to public funds will rely on their specific eligibility rules for dam projects [3] and the situation is a bit ambiguous for private dam funds, were they even to exist in scale. And I’m sure I’m missing a lot of real-world devils in the details. Indirectly financing medium-sized dam projects will almost certainly require sustained effort, outreach and innovation by CWIFP. But that would seem to be justified in terms of the Program’s objectives. This segment of the dam sector is not only the largest by far in terms of aggregate cost of necessary work, medium-sized projects are where CWIFP financing could have the most impact and demonstrable additionality [4]. Even if a lot of work is required to get there, the policy payoff could be transformational, not only for CWIFP but federal infrastructure lending in general.

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Notes

[1] I’m not sure how ASDSO is defining ‘non-federal’ here compared to how it will be applied in WIFIA’s FCRA Criteria. Absent any amendment or clarification of these fundamentally flawed Criteria, I’d guess that a number of ASDSO’s non-federal dams will be considered ‘federal’ by OMB (especially larger ones with some type of federal ownership or management history) thereby precluding from them from CWIFP financing.

[2] The WIFIA statute makes an exception to the $20m threshold that I assume is also available to CWIFP. Project cost can be as low as $5m for small communities when the project is eligible under CWSRF and DWSRF rules. In theory, this might be applicable for medium-size dam projects that are involved in some way with clean or drinking water management. Perhaps storm run-off management or connected to a reservoir? But I don’t know how frequently this could work in practice — I doubt it’s significant.

[3] WIFIA’s ability to lend to SRFs under SWIFIA is specific to their purpose under the CWA. Re the note above, maybe that’ll occasionally include some dam projects. But if an SRF were to expand their eligibility beyond CWA rules to include more dam projects that were also eligible under CWIFP (except for size, perhaps credit rating), I’m not sure that the Program is authorized to make a SWIFIA-type loan for that portfolio. Another detail to clarify.

[4] Demonstrable additionality — clearly enabling a project that would not have happened otherwise — is not easy for a loan program with institutional investment-grade standards. WIFIA’s track record in this is not great, to put it mildly. CWIFP will probably face the same issue in its loans to large dam projects. But medium-sized projects are a very different world, one in which a new type of policy-oriented finance might unlock a lot of potential.

Here’s a new article in Water Finance & Management:

Additional Context

This post adds some context to the article, specifically with respect to federal fiscal constraints.

I’ve discussed SRF leverage in several prior posts. In this one, The Limited Buydown and SRFs, I suggest that a WIFIA limited buydown might help smaller SRFs take the first step towards portfolio leverage. It’s worth noting that a limited buydown (which TIFIA and CIFIA already have) would in effect allow the Program to offer sub-UST rates in certain circumstances. More scope to utilize sub-UST rates for specific goals is therefore a matter of degree, not a violation of a founding principle, among federal infrastructure loan programs.

In another post, In Retrospect, An Ironic Criticism of the SRF-WIN Act, I point out that if WIFIA’s interest rate re-estimates were included in the budget numbers, the cost of sub-UST rates wouldn’t look that bad. This is an example of what I’m saying in the WFM article about the need for specific evaluation context for Program tools and their intended purposes. And that evaluation needs to go beyond surface appearances.

Both of those posts dealt with somewhat technical aspects of WIFIA’s capabilities in SRF leverage. Now I think a more fundamental question is emerging: In the face of federal fiscal constraints, to what extent can WIFIA leverage replace direct grants?

The question arises generally because the US economic and fiscal outlook is, well, not looking so good. Specifically, it relates to two recent developments that may effectively constrain the generous funding provided to SRFs by the IIJA in 2021. The first is the earmarking of a significant amount of annual funding in 2022. Earmarking is not an overall reduction, but it is a constraint. The second, from a couple of weeks ago, is more ominous — NACWA warns against proposed ‘radical spending cuts’ to SRFs in FY24. The 2024 budget negotiations have a long way to go, so I don’t know how real this is. But even if the proposed cuts are primarily a political bargaining chip, it shows that annual SRF funding shouldn’t be seen as a politically untouchable entitlement. In hard times, it’ll be subject to the same constraints faced by other discretionary expenditures.

The policy objective of federal funding for SRFs is to increase their loan-making capacity. That can be achieved simply & directly with annual grants. But it can also be achieved, albeit less simply & directly, with federal leverage. The existence of SWIFIA effectively recognizes that federal leverage to increase SRF loan-making capacity might require special features in WIFIA loans like the limited buydown or sub-UST rates. When federal fiscal constraints are a priority, the cost of the features can be compared to the cost of direct grant funding to achieve a given amount of loan-making capacity. The features need to actually produce the same result but also cost federal taxpayers less. If the cost is the more or even the same, what’s the point?

How Might the Numbers Look?

The chart below shows a quick illustration of how I think WIFIA leverage could balance cuts in federal grant funding for SRFs. This is a bit speculative at this point — no doubt there’s a lot of devils in the details and maybe in the main assumptions as well. But the efficiency of leverage for financial portfolios is well-established, so I’m confident that the basic ideas are valid.

The chart looks at four scenarios:

Pre-Cut Funding for Unleveraged SRFs: Let’s say a group of unleveraged SRFs expected to receive $200 million from federal grants. The marginal effect of this (ignoring details like state contribution etc. for simplicity) should be to increase loan-making capacity by $200 million. That’s the policy objective and, among SRF stakeholders, the political expectation.

Post-Cut Funding for Unleveraged SRFs: But now assume that federal funding is proposed to be cut by 50% to $100 million. The effect will be a marginal decrease in loan-making capacity compared to the pre-cut scenario of $100 million. The policy objective won’t be achieved but more importantly, there’ll be serious political pushback.

Post-Cut with WIFIA UST Leverage: With $100 million of grant funding, the SRFs could (with a lot of simplification here) borrow $96 million from SWIFIA for a total of $196 million of new loan-making capacity, a very conservative 2:1 leverage ratio. Under current WIFIA, the credit subsidy cost of the loan with a UST rate would be about $1 million. For a total federal outlay of $101 million, the cut could be basically balanced by leverage and policy objectives maintained. SRF stakeholders of course would prefer grants, but as a Plan B, it might be acceptable.

However, the problem is that in general WIFIA loans with UST rates don’t seem to encourage SRF leverage. Would that change if the cuts became real? I don’t know — perhaps in some cases. But I am sure that since WIFIA UST loans are currently available, simply pointing that out to angry SRF stakeholders probably won’t help. If some sort of political compromise or at least amelioration is being sought, SWIFIA features will need to be improved before suggesting them as an alternative.

Post-Cut with WIFIA Sub-UST Leverage: Assume that improvement takes the form of SWIFIA being able to offer loans at 80% of the UST rate to SRFs that will especially be affected by the cuts, are currently unleveraged, are of smaller size, etc. Would that feature result in SRF leverage and the targeted increase in loan-making capacity? Again, I don’t know but I’d guess that there’s a fair chance it would be effective. For one thing, as pointed out in the WFM article, a sub-UST rate goes to the central issue of portfolio leverage, matching SRF debt service inflows and outflows. A sub-UST rate would substantially improve those numbers. For another, 80% UST loans for select SRFs were specifically sought by SRF-WIN proponents in 2018. They might have had some different objectives back then, but the expectation that this sub-UST rate would effectively increase leverage was presumably grounded in their own, well-informed expectations. And presumably, offering the same rate SRF-WIN proponents wanted but failed to get in 2018 would garner some positive political traction.

In terms of federal outlays, 80% UST loans require about 10% in credit subsidy cost. Total outlay would therefore be about $110 million on the federal side — still a big net cut from $200 million. But the substantive compromise of offering sub-UST rates to SRFs surely has a much lower cost in terms of political capital and a far better chance of maintaining policy targets.

The ‘win-win’ approach described here should be seen primarily as an alternative to attritional, zero-sum politics — there’ll be plenty more of that soon in any case. Expanding WIFIA’s capabilities is one way water sector stakeholders can avoid some of the worst effects of the coming storm.

This post will add another concept to a prior one, CWIFP Loans to Small Dam Funds. There I outlined why I think an eligible financial entity (like a trust) can bundle a portfolio of small dam project loans to meet CWIFP’s $20 million project cost threshold without requiring full cross-default. The key element is that the entity has capitalization that will be subordinated to the CWIFP loan, thereby making the entity a substantive ‘borrower’ even though the loan’s repayment will in effect rely on cash flow from the small dam loan portfolio. I noted that such capitalization would probably be necessary to meet CWIFP’s investment-grade requirement anyway, and suggested there might be a variety of third-party sources for it.

The added concept here is that maybe the entity’s capitalization doesn’t need to come exclusively or even at all from third parties but might be provided by the small dam projects themselves. This isn’t a new idea by any means — co-operative banks and credit unions are of course a well-established feature in many sectors, especially agriculture. Small operators in a sector might find it difficult to obtain efficient or cost-effective financing individually, but a larger institution collectively owned by them can achieve economies of scale and pass on the savings. Similarly, small dam projects, especially within a state or region, seem to have a lot in common, including an apparent lack of efficient or cost-effective financing. A CWIFP loan could help address this issue, but the $20 million threshold is in effect the required ‘scale’ to access this particular ‘economy’.

How such a small dam financing co-op would work is best approached by a hypothetical illustration. Imagine a collection of ten small dam projects within a state or region that have an average cost of $2 million and the ability to start construction at roughly the same time once financing is obtained. As a bundle, this meets the CWIFP threshold and permits an application to be made for a $10 million CWIFP loan. The project borrowers are willing to cooperate with each other, but they’ll never agree to a full cross-default of their individual loans or being on the hook in any way to other borrowers. They might consider, however, contributing something to capitalize an entity for the purpose of obtaining CWIFP financing.

How Much?

The real-world question is ‘how much?’. As discussed in the prior post, the borrowing entity can’t be a shell SPV. Though it’s not explicitly stated, I think some substance is required to comply with WIFIA’s bundling rule in Section 3905.10. But the minimally adequate amount of substance should be judged in the context of what the entity is expected to do.

That’s pretty limited, at least initially. The trust will apply for a single fixed-rate, long-term loan with very flexible terms from a buy-and-hold, policy-oriented federal program. If the application is successful, the entity will on-lend the proceeds on the exact same fixed-rate, long-term basis to a specific group of ten, otherwise completely CWIFP-eligible, small dam projects. There aren’t many moving parts in this picture — the only important risk is a credit default by one of the projects. The entity’s capitalization should therefore be evaluated primarily with regard to a substantive mitigation of that risk.

Assume for the moment that each one of the project loans could obtain a minimal investment-grade rating of Baa3/BBB- [1]. The NPV of the expected default loss associated with such a rating for a public infrastructure project loan is (very) roughly 5% of the loan amount. If the borrowing entity was capitalized with $500,000 of equity to cover expected losses from the $10 million loan portfolio, that would certainly seem to be substantive. After all, WIFIA and the other federal infrastructure loan programs do exactly the same exercise per FCRA rules to determine the adequacy of the required credit subsidy for their own loan portfolios. If the approach is good enough for OMB, why shouldn’t it be good enough for this small dam financing co-op?

For the project sponsor, $50,000 per project doesn’t sound like much — but remember we’re only talking about a $1 million loan each. Since it’s extremely unlikely that all the loans will default, they’ll likely get most or all back when the trust winds up, though that will be decades in the future. Perhaps a smaller amount will work if the portfolio is somewhat diversified? Or grant funding or philanthropic assistance could be sought for the purpose? All that, and many other angels and devils in the details, will need to be considered and worked out in any real-world situation. The only point here is that adequate capitalization for the purpose of Section 3905.10 should not be a large amount, probably in the range of 5% of the CWIFP loan.

A Revealing Simplification

It’s worth noting a possible simplification to co-op capitalization that doesn’t change the substance of the approach. For the very limited purposes of the CWIFP borrower entity, upfront cash capitalization to cover expected loan losses doesn’t seem to be necessary. The capital is there only to offset final losses after default, work-out and recovery. For public infrastructure project loans, this process happens very rarely, very slowly and takes a long time to complete. There’s no point in keeping $500,000 in cash available for that purpose. Presumably, a capital call or similar undertaking by each of the co-op’s members for their share would be sufficient.

That simplification also reveals another perspective on the co-op approach with respect to Section 3905.10. As discussed towards the end of the prior post, hardliners might insist that full cross-collateralization and cross-default is required from each borrower in the project bundle. Well, okay — I can see the principle of some substantive connection between the project loans. But why does it need to be an unlimited cross-collateralization or cross-default obligation? Why wouldn’t a limited obligation that reflects some important substantive risk aspect of the project loans be sufficient? Especially if that limited obligation is assessed in a very similar way to federal FCRA budgeting for loan program credit loss reserves? No one expects a 100% credit subsidy for investment-grade infrastructure project loans to be necessary [2]. Why a hard line against small dam borrowers with projects that are demonstrably consistent with CWIFP policy objectives but a soft line for the amount of credit subsidy required from federal taxpayers?

Of course, the capital call described above for the co-op CWIFP borrower is essentially a limited cross-collateralization obligation directly to the CWIFP loan. If one works, the other should, too. There may well be other reasons to develop a small dam financing co-op, not the least of which is the option or the need for third-party capital to be involved in the mix. But at the very least, it strikes me that a co-op approach might be a useful way to start the narrative that project bundling for small dams ought to be actively encouraged at CWIFP in the expectation that hardliners will inevitably surface sooner or later.

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Notes

[1] This assumption is probably not realistic in many cases, which means that the third-party capitalization discussed in the original post will likely be necessary and the substantive nature of the borrower entity will automatically follow. Other, more classic reasons for a co-op approach — control, cost-savings, scale economies, etc. — would still be applicable, especially with respect to getting the ball rolling.

[2] Well, perhaps in a way some hardliners do.

One of the action items from the Dam Finance Roundtable was to develop a summary of “dam finance recommendations, both for US dam finance in general and CWIFP in particular.” I don’t have sufficient real-world expertise in the dam sector to add much to the ‘general’ part of these recommendations without falling into a Dunning-Kruger trap. But as you’d expect on this site, I do have some specific ideas for CWIFP that stem from my thinking about WIFIA and other federal infrastructure loan programs.

For clarity and to establish context, I’m going to approach this exercise in a series of three posts that start with questions:

1. What is the sub-set of US dam projects that can, or potentially could, realistically benefit from CWIFP financing?

The US has a lot of dams, many of which are in need of some type of repair, rehabilitation or removal. But only a sub-set could benefit from what a federal infrastructure loan program like CWIFP can realistically offer. Using data from various sources like the National Inventory of Dams and the ASDSO reports, I think the basic scale and characteristics of this sub-set can be roughly determined. In effect, that will help define CWIFP’s ‘customer base’ and their needs & limitations.

2. What are the current policy objectives that guide CWIFP implementation or modification with respect to dam finance?

I’m making the general assumption in this exercise that recommendations must be consistent with furthering current CWIFP policy objectives. Of course, these could change as things develop and a possible type of recommendation involves policy refinement or redirection, especially in connection with additional funding. But this requires real-world sectoral expertise that’s beyond my pay grade. Instead, I’ll try to summarize those CWIFP current policy objectives which seem to be especially relevant to meeting the needs of the program’s customer base in the immediate future.

3. For potentially relevant dam projects, what realistic & near-term actions could be taken to improve CWIFP’s ability to achieve its policy objectives?

These are the recommendations. There’ll be two types: (1) minor legislative refinements in the WIFIA statute that could be enacted relatively soon and are especially applicable to dam projects, and (2) outreach and innovative development that’ll likely be required for smaller and more challenging dam projects. The latter might also include possible future legislative changes as a realistic, but not necessarily near-term, goal.

As I did for the FCRA Non-Federal Series, I’ll highlight & link each question as the posts are completed over the next few weeks.