Value Capture

in Urban Infrastructure Development 1

Suyono Dikun PhD2

1.Introduction

Urban areas in Indonesia grow very rapidly and their population grows by 2.75% per year, much
higher than the national average of 1,17%. In 2025 it was predicted that urban population will reach
60% of the total population. According to projection made by Bappenas, around 71% of urban
population will inhabit urbanized and metropolitan areas in 2025, ten years from now. The rest of
29% will live in medium, big, and metropolitan cities. But the number of medium cities will dominate
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the growth of cities by 60% and only 17% big cities will arise in 2025. The urbanization also grows
very rapidly. Figure 1 exhibits the projection of urbanization rates in Indonesia and Jawa until 2035. In
2025, 60% of population (171 million) will live in urban areas in Indonesia and 74.6% ((119 million) in
Jawa. The growing population and urbanization is unabated and will probbaly continue that way for
the unforseeable future.

It is easy to understand that the bigger the urban population the larger the demand for urban
infrastructure. Infrastructure systems play a pivotal role in enhancing the economic productivity and
quality of life in the urban areas. For a very long time in the past, urban infrastructure - road, rail,
drinking water, sanitation, solid waste, drainage, sewerage, electricity, energy, and
telecommuniction- was only financed by the state budget, regional budget, external/foreign loans,
and subsidy/grant shemes to regional and city governments. The governments, central, locals, and
municipals, had invested heavily in building basic infrastructure which is then used as capital
investments to state/regional owned
2035 enterprises. Under the state monopoly,
Jawa the SOEs enjoy government equity in
2030
2025
the form of infrastructure and facilities
investments. The fundamental problem
2020
lies in the fact that the rate of demand
2015
Indonesia far exceeds the rate of infrastructure
2010
growth and the speed of infrastructure
development suffers from insufficient
0 20 40 60 80
funding.
Figure 1: Urbanization Rate Indonesia and Jawa
2010-2035 (% of Pop.)
Source: BPS-Bappenas-UNFPA, 2013 But infratructure market and industry
have been liberated by the issuance of
1
Paper presented in the CSID Seminar Talkshow, Jakarta, 28 January 2015
2
Professor of Infrastructure Management and member of The Executive Board, Center for Sustainable
Infrastructure Development, School of Engineeering, Univ. of Indonesia at Depok
3
Bappenas. Kota 2045, 2012. Small city: < 100,000; medium city: 100,000-500,000; big city: 500.000-1,000,000;
metropolitan city: >1,000,000 population

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new laws which mandated open market, that private sector is given ample room to participate and
invest in the development and provision of infrastructure. Given a steady increase of market demand,
some of urban infrastructure are essentially financially viable or can be made financially viable and as
such could be delivered by private sector. Tax-based financing sources and users fee principle could
also be orchestrated as potential source of urban financing from the society at large. While the SOEs
in the past played a big role as the executor of pubic monopoly, in recent years, the SOEs have begun
to play a role by making investment using their corporate funds and commercial loans. Some SOEs
have been given a special assignment from the government to execute several large-scale
infrastructure projects without undergoing competitive bidding.

2. Options for Investment

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A study conducted by the Indonesia Infrastructure Initiatives (IndII) – AusAid , suggested that urban
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transport alone would require an investment cost of around Rp. 175 trillion for the next 5 years . This
includes the investment needed for non-physical development (traffic area improvement, pilot
project for urban transport, urban transport institutional restructuring, subsidy implementation) and
physical development (road and railways based development such as MRT and BRT in several cities
including its supporting systems, bus shelters, skywalk bridges, ITS, intermodal facilities, etc.). For
small and medium cities, grant from central government and city budget will continue to finance
infrastructure development with a small portion coming from APBD. For big and metropolitan cities,
governments need to ensure adequate and sustainable infrastructure investment for current and
future needs. Policymakers need to reassess the current mechanisms of infrastructure finance and
explore alternative revenue sources. In addition to traditional funds, there are various alternative
financing that can be explored and implemented to fund urban infrastructure development.
Municipal bond or Sukuk are options that city government should consider. Availability payment is
another attractive option. The basic idea is that urban areas, particularly big cities and metropolitan
areas, are powerful economic entities and as such infrastructure funds can be derived from the urban
economy itself.

Figure 2 exhibits the broad spectrum of infrastructure investment/financing options that can vary
from full investment and financing by the government up to full investment and financing by the
private sector. The government is still obliged to build non-commercial (but economically important)
basic infrastructure for the public. This is a market where the private sector may not contribute as it
is financially non-viable and it is non-cost recovery in nature. In this segment, the Government have
significant role which is supported by government budget, foreign loan and other public expenditure.
The APBN-based financing could also be enhanced if government is willing to issue project-based
conventional bond or Sukuk and implement the Availability Payment or Performance Based Annuity
Scheme (PBAS) concept in its financing scheme. The role of SOEs has recently been enhanced when
government decided to directly appoint or assign them to execute several large-scale infrastructure
projects. The SOE or a consortium of SOEs and private companies could also undertake a commercial
infrastructure project without government support. Infrastructure which is full cost recovery and are

4
Technocratic Paper of RPJMN 2015-2019, IndII, 2014
5
Indonesia seems lacking of thorough analysis of the real needs for urban infrastructure investment covering
sectors as electricity, transport, energy, and water supply and sanitation.

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 PFI economically and financially viable can be left
Unsolicit
ed entirely to private sector financing (Private
PFI SI Financing Initiative, PFI). These include special
APBN/
APBD projects (eg. Special Railway, Special Ports, etc.) that
PPP SA
can be unsolicited in nature and in fact do not
require a competitive bidding. PFI could also
PPP Conv execute government projects (solicited) alredy in
Borro-
wings the pipelines which are considered financially viable.
SOE DL Bond/ The limited financing resources that can be
SOE CF PBAS Sukuk allocated by government in infrastructure has
SOE DA
provided great opportunities for the private sector
to participate through public private partnership
Figure 2: Options for Investment
scheme (PPP). Less financially feasible but
and Financing economically very desirable projects for the
interests of public welfare and economy can also be
built through PPP scheme.

3. Financing Urban Infrastructure

Governmenr in RPJMN 2015-2019 has stated its willingness to explore and implement, whenever
possible, alternative financing to fund infrastructure. Particularly for urban areas, one possible
alternative or innovative financing is known as “value capture.” Large public investments in transport
infrastructure can substantially increase the value of adjacent land. Capturing the value of this
benefit through various tools is gaining interest as a finance mechanism for infrastructure
investments. In urban governance, however, city governments have not been so successful in
empowering the regional state-owned enterprises as the prime mover for urban infrastructure
development. Public Private Partnership schemes have been driven for a long time but so far have
not achieved the expected results. Most cities derived their large part of annual revenues and
taxation from transport or infrastructure related sources but the budget allocated for infrastructure
funds is relatively small compared with the real needs for services. Potential domestic funds are huge
but they cannot be used for infrastructure funding. Bank assets, pension funds, insurance funds, non-
bank institutional funds, capital markets funds and other private sector funds are thousands of
trillions of rupiah in amount. This is the Domestic Capital Market that has not been used for
investments and financing the infrastructure development. There are still regulatory and institutional
obstacles that hinder it. There are still maturity and equity mismatches that cannot be bridged.
Meanwhile, modern project financing, as has long been practiced in developed countries has not
become a common practice in Indonesia due to poor public-private partnerships and absence of poor
knowledge and skills in the government, construction industry, and even financial sector in Indonesia.

The government has repeatedly stated on various occasions that infrastructure development requires
investment of the private sector and that government investment and public sector expenditure will
never be enough to build domestic infrastructure throughout the nation in the past and in the future.
Private sector participation in infrastructure development and services has in fact been imperative
and mandated by RPJPN 2005-2025 that must be implemented by all corresponding RPJMNs. The

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infrastructure laws in various sectors had also paved the way for the participation of the private
sector investment in the development and provision of infrastructure in Indonesia.

4. The Beneficiaries

In urban development context, infrastructure improvements and investment create benefits for three
groups of beneficiaries: (1) The general public, which benefits from broad economic and social
returns. Such benefits create a rationale for use of general fund financing. Because the growth of the
general tax base occurs through the life cycle of a transportation facility, the corresponding general
fund revenues are suitable for both initial capital costs and ongoing operations and maintenance
(O&M) costs; (2) The users, who benefit from reduced travel times and enhanced safety. Such
benefits create a rationale for the use of gas taxes, mileage charges, vehicle sales and property taxes,
wheelage charges, tolls, and transit fares. Typically, users receive the bulk of the benefits through the
use of facilities, indicating that these types of charges may be assigned to users to cover most (O&M)
costs; and (3) Property owners and developers, who benefit from increased property values
generated by transportation improvements. Such benefits create a rationale for the use of value
capture policies such as land value taxes (LVT), tax increment financing (TIF), special assessments
(SA), transportation utility fees (TUF), development impact fees (DIF), negotiated exactions, joint
development (JD), and air rights. For these beneficiaries, value gains are mostly realized upon the
completion of transportation projects; therefore, these strategies may be used more often for capital
costs.

5. The Concept of Value Capture

The governments, both central and locals, are supposed to orchestrate various fiscal policies or
regulations for financing their infrastructure development. The fact is that government funding has
always been and will always be insufficient to finance infrastructure in a big and diverse country like
Indonesia. This has indicated the need for the government to explore and implement other sources
of infrastructure financing. Especially for urban areas where land is scarce and expensive, some city
governments should have been inspired by the idea that the increase of the value of land can be
mobilized in benefit of the community. This is the concept of Land Value Capture. Value capture
refers to the process by which a portion of or all land value increments attributed to the 'community
effort' are recouped by the public sector either through their conversion into public revenues
through taxes, fees, exactions and other fiscal means, or more directly in on-site land improvements
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for the benefit of the community . Figure 2 illustrates the “virtuous circle” that connects the
infrastructure development with accessibility and value capture in the case of urban transport. The
provision of infrastructure will create access for the community to conduct their economic activities.
Thus the access creates value and the value could be captured to finance infrastructure and therefore
creates further access, and thus value. Accessibility induces development In urban areas since both
transit and highway accessibility will create more demand. In public transport, demand leads to
increased capacity and enhances accessibility. In urban highway, however, increased demand will
increase congestion and reduces accessibility.

6
Smolka and Amborski,2000

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Value Capture Financing (VCF) represents an innovative means of maximizing a city’s assets. It is a
finance mechanism which not only shares the risks and costs of urban development between public
and private actors, but also the rewards. VCF sees some of the costs associated with making urban
development succeed internalized within the balance sheets of the developments themselves. Public
goods are consequently provided by urban development without the proportional draw on the public
resources which would otherwise finance them. This potentially means that value capture is an
attractive idea to the public sector (as it provides additional resources for public goods) and for the
private sector (as it ensures that the value created by development is at least partly locally re-
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invested rather than being more broadly dispersed) .

It is clear that infrastructure creates access and acess creates value. The value of access comes from
the ability to reach people and destinations and to convey messages from all over places in the city.
Telecommunication network through internet backbone is now making it possible for people to
communicate in real time regardless of space and time barriers. It has been possible also because of
electricity grid in the city. Transport networks provide all the possibility for people and goods to
physically travel from one point to another. It must be realized, however, that although the benefit of
accessibility accrues to the community at large, most of it goes to private landowners who gain so
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much because land value captures much of the benefit of accessibility .

Urban InfrastructureDevelopment

Urban Highway Demand

Pubic Transport Capacity Urban Road Congestion

Urban Road Capacity

Public Transport
Accessibility
Urban Road Accessibility

Value Captured

Figure 2: Virtuous Circle of Development, Accessibility, and Value Capture

Source: Adeel Lari, et.al.,2009

7
Joe Huxley. Urban Land Institute, 2009
8
Levinson, D. and E. Istrate, 2011

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6. Instruments for Value Capture

The term value capture refers to family of public finance mechanism that raise funds in proportion to
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the increase in land value associated with new or improved public infrastructure . This method has
not been used in Indonesia yet since urban infrastructure is traditionally financed through a mix of
funding from APBN, APBD, grant transferred from central government to city governments (DAU and
DAK) , if any, and possibly from user fees such as gasoline tax. Value capture can be classified as non-
user beneficiary sources that also include development impact fees, air rights, special assessment
districts, or joint development. Ideally, a congested urban transport system could be “self-financing”
by charging private cars drivers the marginal cost of any additional delay they impose on other users
(marginal cost pricing) and using the resulting revenue to pay for the cost of infrastructure. Value
capture policies rely on three broad categories of instruments: taxes fees, and regulatory framework.
Fiscal tools require some form of either a tax or fee to be paid by the private landowner to facilitate
the capture of the value for the public sector. Regulatory instruments, on the other hand, will lead to
some form of public benefit that the landowner essentially finances out of his increased land values.
This may be imposed through some type of “in kind” contribution by private landowners for the
public benefit. Table 1 briefly describes the instruments for value capture categorized in four cases of
land development and infrastructure development.

Table 1: Instruments for Value Capture

Instruments Description
Case 1: New land development, new infrastructure
Development To ensure that a new development pays for any new infrastructure required
Impact Fees (DIF) to support it. These charges may be established in a number of ways, so long
as a legal nexus can be found that ties the need for the new infrastructure to
the new development.
Joint Development is development adjacent to (or on top of) a piece of infrastructure that serves
(JD) it, such as a transit station or a highway interchange. The land development
may be joined with the new piece of infrastructure in terms of location,
timing, and organization. The joint development may be built by the same
organization (public or private) or coordinated by different parties, with the
land development cross-subsidizing the infrastructure.
Case 2: Existing Development, New Infrastructure
Special District Fees Fee levied over a certain area in a city for an identified new transportation
project to fund the infrastructure in part or in whole. For small and medium
cities this fee can be used to fund fund streetlights, repaving, sidewalks,
other local transportation public works, and transit stops.
Tax increment Funds an infrastructure project by borrowing against the future stream of
financing (TIF) additional tax revenue the project is expected to generate. Tax increment
financing can be applied to new development or redevelopment.
Case 3: New Development, Existing Infrastructure
Air Rights Air rights capture the real estate value of transportation by selling or leasing the
space above (or below) transportation facilities for development. Typically this is
imposed after the road, rail line, or transit station is constructed so it recovers value
after creation, though it could be applied simultaneously with infrastructure creation.
In the latter case, it would be a form of joint development. Governments have used
air rights to fund development around transit systems. Air rights work when land is

9
Ibid, p.8

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 Instruments Description
expensive (that is, when accessibility is high), justifying the added construction costs
associated with building over existing infrastructure. It also works for land uses that
value high accessibility, or when there is a desire to create a new public amenity
when land is scarce.
Case 4: Existing Development, Existing Infrastructure
Land-value taxes This property tax separating the value of a property associated with land from
(LVT) that associated with the infrastructure. Because the value of the land is
determined by its accessibility, which is created by the community at large
via transportation networks and the location of activities, a tax only on land
value better captures the benefits of transportation than a tax on both land
and structures.
Transportation This fees replace the share of general fund tax revenue going to transportation with a
utility fees charge that is roughly proportional to expected transportation use.59 An example
would be to use standard trip generation rates as the basis for charging rather than
using property improvements. Although these fees tie the benefits to costs of
infrastructure and are much simpler to implement than a more comprehensive user
fee, their only aim is funding; they are not a travel-demand management tool. Oregon
uses transportation utility fees to pay for maintenance in about a dozen of
communities in the state, where they generate about $6,000 per road mile per year.
Source: Levinson and Istrate, 2011 and Adeel Lari et.al., 2009

7. Conclusions

The fast growing of urban areas in Indonesia coupled by massive urbanization is in fact sending a
strong message to government of the urgent need for more urban infrastructure development and
provision. But the classical problem of budget constraints and lack of regulatory frameworks prohibit
the government of rapidly building the infrastructure to catch up with the increasing demand. The
development of infrastructure in urban areas increases the value of land due to greater accessibility
the facility has provided. This economic externality value accrues to the land owners and government
or the providers of infrastructure has not gained any economic or fiscal benefit from the land value. It
is theoretically and practically plausible to internalize the externality by capturing the increased value
of land for the purposes of infrastructure financing. It is very necessary for both central and local
governments to search for other means of financing urban infrastructure.

Value capture is a financing technique in which the rising value of urban land due to infrastructure
development is taxed or levied as to contribute to the investment costs of developing the
infrastructure. In public economy, this technique is essentially to internalize the externality. A set of
fiscal and regulatory instruments can be imposed to the landowners to capture this added value of
the land. Land Value Tax (LVT), for example, generally capture the value created by the provision of
public goods, including the accessibility afforded by urban transportation networks. Tax Increment
Financing (TIF) uses taxes levied on the increment in property value within a development to finance
development-related costs. Tax increment financing has been used in some instances to finance
transportation projects. Special Assessments (SA) impose charges on property owners near a new or
improved transportation facility based on geographic proximity or some other measure of special
benefit. Transportation Utility Fees (TUF) derive from the notion that transportation networks can be
treated like a utility, similar to other local services such as water and wastewater treatment, which
are financed primarily from user charges. Transportation utility fees are assessed on characteristics
thought to be more closely related to transportation demand than property taxes, which currently
account for a large share of local transportation revenues.

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Development Impact Fees (DIF) are one-time charges collected by local governments from
developers for the purpose of financing new infrastructure and services associated with new
development. Joint Development (JD) refers to the spatially coincidental development of a
transportation facility (e.g., a public transit station) and adjacent private real estate development,
where a private sector partner either provides the facility or makes a financial contribution to offset
its costs. The term “joint development” could also be used to refer to jointness in timing of
development or ownership of transportation infrastructure, though for the purposes of this report,
the above definition is used to refer to various forms of cost-sharing or revenue-sharing
arrangements. JD arrangements generally promote efficiency, as the voluntary nature of the
transaction ensures that the expected benefits of the private sector partner exceed the cost (or share
of costs) of the transportation improvement that he or she anticipates. Air Rights are a form of value
capture that involves the establishment of development rights above (or in some cases below) a
transportation facility that generates an increment in land value. Air rights agreements promote
efficiency to the extent that the increment in land value generated by the facility exceeds the cost of
its development. The sale of air rights may also promote benefit equity, since the costs of a
transportation improvement can be allocated more proportionally among non-user beneficiaries.

The implementation of value capture, however, requires a set of regulatory framework, and possibly
a strengthening of the current institution in the local government dealing with property and land-
based taxation. Most urban administration in Indonesia does not seem to be ready with this financing
scheme. Imposing a new type of tax or levy could be a political issue requiring a careful and nice
public relation undertaking. It is strongly recommended that further research be conducted to
investigate this option before any strategy of value capture can be implemented in Indonesia cities.

REFERENCES AND BIBLIOGRAPHY

Adeel Lari, David Levinson, Zhirong (Jerry) Zhao, Michael Iacono, Sara Aultman, Kirti Vardhan Das, Jason Junge,
Kerstin Larson, and Michael Scharenbroich. Value Capture for Transportation Finance. Technical
Research Report. Center for Transportation Studies, University of Minnesota, June 2009.
Dikun, S. et.al. Technocratic Paper to Support RPJMN 2015-2019. IndII – AusAid. December 2014
Huxley, J. Value Capture Finance. Making Urban Development Pays Its Way. Urban Land Institute, 2009.
Levinson, D.M. and E. Istrate. Access for Value: Financing Transportation Through Land Value Capture.
Metropolitan Policy Program at Brookings, April 2011.
Martim O. Smolka and David Amborski. Value capture for Urban Development: An Inter-American Comparison,
2000.
Yoshitsugu Hayashi. Issues in Financing Urban Rail Transit Projects and Value Captures. Transportation Research.
Part A: General, Vol. 23A, Issue 1 (January), 1989.
Land Value Capture 101: How to Fund Infrastructure With Increased Property Values.
http://blog.tstc.org/2013/08/19/land-value-capture-101-how-to-fund-infrastructure-with-increased-
property-values/
Nichols, C.M. Value capture case studies: What is value capture? Metropolitan Planning Council, 2012.
http://www.metroplanning.org/news/6311/Value-capture-case-studies-What-is-value-capture.
Value Capture for Public Transportation Projects: Examples. Policy Development and Research. American Public
Transportation Association. August 2015. https://www.apta.com/resources/reportsandpublications/
Documents/APTA-Value-Capture-2015.pdf