Thinking Afresh

A quality transition to the planned expansion will require a huge capital investment in electricity, railways, roads, ports, airports, irrigation, water supply and sanitation systems. India has to find a solution for financing its infrastructure sooner rather than later.

Financing infrastructure has gained prominence in global policy discussion over the past few years. Many inter-governmental conferences have presented and discussed the unprecedented opportunity in this field, the latest being the International Conference on Financing for Development, held in Addis Ababa in July 2015.

The momentum is expected to continue in future conferences as there is renewed interest in exploring ways and means of financing infrastructure in both developing and developed economies. The upcoming conferences include the United Nations Summit in New York in September, the G20 summit in Antalya in November and the UN Climate Change Conference in Paris in December.

Infrastructure in India has long battled a plethora of bottlenecks on various fronts such as underinvestment in creating infrastructure assets and the lack of efficient delivery of infrastructure services. For years, the efforts to create and foster effective partnershipsrevitalise meaning have been thwarted by counter-productive economic and political measures.

The result is a dismal performance on the global infrastructure map as India slipped to rank 54 in 2014, from 39 in 2007 on the World Bank´s Logistics Performance Index. India ranked 85th out of 148 countries in the World Economic Forum´s Global Competitiveness Report in 2014 and is at par with Zambia and Montenegro in terms of the general quality of its infrastructure.

Public Private Partnership (PPP), widely seen as a magic pill for curing the pervasive ills of India´s infrastructure, has not delivered as planned. The burning evidence is the inability of PPP to complete project specific targets. For instance, projects awarded by NHAI fell significantly short of targets in the past two years. During 2013-14, NHAI awarded just 1,215 km, consisting of two PPP projects, against a target of 9,000 km. Only 20 PPP port projects were awarded as against the target of 49 projects.

In addition to the political and economic inertia, another key reason for the poor state of infrastructure is the lack of efficient funding and availability of long term capital. Infrastructure assets are characterised by long gestation periods and a high degree of sensitivity to policy incentives. The requirement for finances to create infrastructure assets is ballooning, given India´s ambition to spur its economic growth and increasing urbanisation. This is only expected to rise with the present government´s strategy to expand the base of the economy in the areas of manufacturing, industries, connectivity, smart cities and broader job creation. The government´s ´Make in India´ initiative to catalyse investments and improve quality of output in manufacturing hinges on availability of productive infrastructure. The 12th Five Year Plan pegs infrastructure investment by the private sector at close to 50 per cent of total investment, higher than slightly more than 35 per cent in the 11th Five Year Plan.

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In the Union Budget 2015, the Finance Minister declared Rs 70,000 crore push for the infrastructure sector. He planned to establish the National Investment and Infrastructure Fund (NIIF) and ensure an annual flow of Rs 20,000 cr to the fund. Capital for infrastructure in India is largely arranged from the domestic credit market and government sources. Over the years, commercial banks have contributed about 58 per cent financing followed by Life Insurance Corporation with 17 per cent of total assets. This financing architecture is capable of providing short-term finance, possibly for only the start of the project.

A glaring dip in the asset quality of banks evidenced by the increase in non-performing assets draws attention to sectors contributing to the problem. A quick look shows infrastructure and core sector accounts for over 35 per cent of total bad loans.

Another source of financing infrastructure is the Official Development Assistance (ODA) that is focused on the sector in BRIC nations, except for Russia. The possibility of co-operation amongst the group countries is being explored through government agreements, policy announcements and concessional credit transfers. Such cooperation arrangements are new to India and therefore require far more careful deliberations and well-designed policy measures.

Fear of China´s economic slowdown and substantial savings rate could be treated as a window of opportunity for India to attract both international and Chinese capital. Recently, China has shown interest to invest in road projects in India as a part of the friendly nations´ agreement. This is a new opportunity for which the Ministry of Finance has sought permission for a policy that allows such investment. As mentioned earlier, most of the infrastructure projects rely on the banking sector and financial institutions. However, most of the banks, especially public sector banks, are suffering from NPA issues. Infrastructure Finance Companies (IFCs) like IIFCL and HUDCO have also disbursed less than half of the loans compared to the last year for urban infrastructure projects.

External Commercial Borrowings (ECBs) are an important source of debt financing instruments facilitating long term funding at lower rates but there is a currency risk in case of the rupee depreciating.

Another instrument for financing infrastructure is Infrastructure Debt Funds (IDFs). However, IDFs´ success has been limited due to their inability to acquire assets from original lenders that have assumed the maximum project risk at the beginning of the loan tenure.

Over the last two decades, policy-makers and market participants have discussed the creation of a bond market in India. In the decade preceding the financial crisis in 2008, when the bond market for PPP collapsed, bonds were the major contributors to long term financing in countries such as the UK.

With substantial credit concentration on commercial banks for infrastructure projects, a long-term bond market comprising a variety of investors and credit seekers can help India alleviate its infrastructure finance problem.

Various estimates show that the world needs USD 1-1.5 trillion per year for infrastructure investment. To bridge the gap of this price tag for developing countries, multilateral agencies such as ADB, World Bank, Asia Infrastructure Investment Bank, The New Development Banks, BRICS, and other G-20 nations will all be required to expand their capital pool.

The bold move articulated in the Union budget to revitalise PPP model for infrastructure development and to let the government bear majority of the risk may also increase the funding from these multilateral agencies and institutional investors for infrastructure projects.

With so many options available for financing infrastructure, it is imperative for the country to stimulate a policy-market discussion on the finer nuances of each financing option. This discussion should look at infrastructure financing issues with a fresh pair of eyes.

This article is authored by Confederation of Indian Industry (CII) with inputs from Prof. Pramod Yadav of Adani Institute of Infrastructure Management, Ahmedabad.