POLICY BRIEF 11 POTENTIAL FINANCING OPTIONS FOR LARGE CITIES

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Nicholas Baker
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1 POTENTIAL FINANCING OPTIONS FOR LARGE CITIES

EXECUTIVE SUMMARY In South Afric lrge cities fce myrid of chllenges including rpid urbnistion, poverty, inequlity, unemployment nd huge infrstructure needs.

2 EXECUTIVE SUMMARY In South Afric lrge cities fce myrid of chllenges including rpid urbnistion, poverty, inequlity, unemployment nd huge infrstructure needs. Although these re not unique to lrge cities, the mgnitude of the chllenges in lrge cities is greter nd is incresingly becoming mjor risk to the socioeconomic development of the country. The bility of cities to del with these chllenges depends, to lrge extent, on their bility to generte more of their own revenues. As trnsfers nd own revenues for lrge cities re hevily constrined, it is criticl tht cities leverge non-trditionl nd other innovtive finncing mechnisms. This policy brief summrises the findings of study tht evluted different non-trditionl revenues sources for South Afric s lrge cities. Findings from the study suggest different options to enhnce borrowing for lrge cities s well s strtegies to improve public privte prtnership (PPP) del flows in lrge cities. In ddition, the study brings to the fore the vlue of lnd vlue cpture mechnisms. Finncil nd Fiscl Commission: Policy Brief 11 2

BACKGROUND The twin chllenges of rpid urbnistion nd the ongoing downturn in economic ctivity hve plced tremendous fiscl pressures on the ntion s mny municiplities.

Although lrge cities hve demonstrted significnt fiscl effort (reltive to other ctegories of municiplities), own revenue sources nd trnsfers re insufficient to meet the ever incresing expenditure

3 BACKGROUND The twin chllenges of rpid urbnistion nd the ongoing downturn in economic ctivity hve plced tremendous fiscl pressures on the ntion s mny municiplities. Urbnistion, which is chrcterised by popultions concentrting in lrge cities, hs multiplied the demnd for wter, snittion, rods, wste nd energy infrstructure in lrge cities. Although lrge cities hve demonstrted significnt fiscl effort (reltive to other ctegories of municiplities), own revenue sources nd trnsfers re insufficient to meet the ever incresing expenditure needs. Despite being hubs of economic ctivity nd engines of growth, lrge cities hve not been ble to significntly leverge nontrditionl revenues strems. The inbility of cities to compliment trditionl revenue sources with non-conventionl sources, or even leverge cpitl mrkets, when they hve huge infrstructure needs nd bcklogs begs the reserch questions: Wht re the lterntive nd innovtive finncing mechnisms for lrge cities? How cn lrge cities with no ccess, or limited ccess, to finncil mrkets be enbled to leverge credit finnce to ugment fiscl trnsfers? This policy brief summrises the findings nd policy options tht emerged from study tht sought to interrogte these questions. Finncil nd Fiscl Commission: Policy Brief 11 3

RESEARCH FINDINGS Improving ccess to cpitl mrkets for lrge cities Given their different expenditure needs nd fiscl cpcities municiplities should idelly be treted differently in the lloction of scrce

4 RESEARCH FINDINGS Improving ccess to cpitl mrkets for lrge cities Given their different expenditure needs nd fiscl cpcities municiplities should idelly be treted differently in the lloction of scrce ntionl resources. Tking the principle of differentition step further it cn be rgued tht conditions on grnts should be relxed for lrge cities s they hve reltively better cpcity to mnge grnt funds nd implement lrge nd smll cpitl projects. The borrowing frmework for lrge cities should be linked to the trnsfer frmework whereby lrge cities use their infrstructure grnt funding to leverge privte cpitl. To help deepen the municipl credit mrket system nd enhnce positive competition mong municiplities, locl government credit mrket should be estblished with one of the locl development finnce institutions (DFIs) estblishing municipl credit rting system. Considering its long history in the municipl credit mrket, the DBSA is probbly the most pproprite institution to estblish credit rting system for municiplities. Public privte prtnerships in lrge cities Another mechnism to enble locl governments to ccess privte funding is PPPs. In South Afric the doption of PPPs s n infrstructure delivery model hs been very low, owing to the following constrints: Regrdless of size nd vlue, the process of getting PPP del pproved is cumbersome s ll projects hve to go through similr, rigorous fesibility ssessment nd n even more rigorous procurement process. Infrstructure projects serving the poor re often not bnkble becuse user fees from the poor re not sufficient to cover the pyment to the privte sector. Mny municiplities hve poor debtor books nd re perceived to be credit risk when they pproch finncil institutions for funding of PPP. Specilised cpcity to originte, implement nd mnge PPPs within municiplities is thin. Although the PPP Unit t Ntionl Tresury is doing well in regulting PPPs, it lcks the resources to promote PPPs nd build cpcity within municiplities to originte, implement nd mnge them. Finncil nd Fiscl Commission: Policy Brief 11 4

PPPs re viewed with suspicion by some municipl communities. There is politicl mistrust of PPPs, s municiplities view privte sector prticiption s form of privtistion of stte owned ssets.

5 PPPs re viewed with suspicion by some municipl communities. There is politicl mistrust of PPPs, s municiplities view privte sector prticiption s form of privtistion of stte owned ssets. On the other hnd the privte sector sees municiplities s striving to shift most of the risk to them. Trde unions lso consider privte sector involvement in the provision of public infrstructure services thret to jobs nd incomes. PPP uptke is prtly constrined by the relevnt legisltion. Municipl outsourcing, including PPPs, resides in two lws, the Municipl Systems Act (MSA) nd the Municipl Finnce Mngement Act (MFMA), s well s the Municipl Supply Chin Mngement Regultions. The two cts reside in different government deprtments (Cogt is responsible for the MSA nd Ntionl Tresury for the MFMA). The two cts (section 78 of the MSA nd section 120 of the MFMA) require tht fesibility studies be undertken before municiplity proceeds with PPP. The chllenge is tht the process of trying to stisfy the requirements of the two pieces of legisltion is long, rduous nd full of dupliction. In summry, the discussion on PPPs confirms there is need to improve the PPP del flow of municiplities by incresing the quntum of specilised skills in project development, procurement, negotiting nd overseeing of PPPs; stremlining the PPP pprovl process; nd injecting more resources into inititives tht promote PPPs. Lnd vlue cpture possibilities for lrge cities Evidence from number of countries, both developing nd developed, shows tht lnd vlue cpture (LVC) mechnisms re mjor source of revenue for locl governments. The study evluted the ppropriteness of vrious LVC mechnisms in the context of South Afric s lrge cities. It found tht LVC cn be relible nd sustinble revenue source for mny lrge cities in South Afric. Besides being efficient nd equitble, LVC hs the potentil to generte substntil revenues from municipl lnd. The successful implementtion of ny LVC mechnism lrgely depends on its design, cler legl frmework, effective lnd use mngement systems, well trined nd cpcitted persons chrged with its implementtion, nd n efficient, ccurte nd timely lnd vlution process tht ccurtely identifies chnges in lnd vlues. Finncil nd Fiscl Commission: Policy Brief 11 5

CONCLUSION Lrge cities fce mny chllenges including rpid urbnistion, poverty, inequlity, unemployment nd huge infrstructure needs, which re incresingly becoming mjor risk to the growth nd development

6 CONCLUSION Lrge cities fce mny chllenges including rpid urbnistion, poverty, inequlity, unemployment nd huge infrstructure needs, which re incresingly becoming mjor risk to the growth nd development of the country. The bility of cities to del with these chllenges depends, to lrge extent, on their bility to generte more own revenues. Evidence suggests tht there is lrge cpitl funding gp for lrge cities nd evidence on the ground lso shows tht trditionl own revenue nd trnsfers cnnot close this funding gp. Thus, lrge cities need to leverge non-trditionl nd innovtive finncing mechnisms to close the cpitl funding gp. Empiricl evidence from the study summrised in this policy brief suggests tht lrge cities should diversify nd dopt new, innovtive finncing instruments which include mechnisms to enhnce borrowing nd public privte prtnership del flows within lrge cities, nd lnd vlue cpture mechnisms. The following policy options should be considered to enble lrge cities to improve their revenue bse: 1. Ntionl Tresury improves ccess to credit mrkets for lrge cities by:. llowing them to use their infrstructure grnt funding lloctions to leverge privte cpitl; b. estblishing credit rting mechnism for municiplities, with the Development Bnk of Southern Afric s the most suitble public entity to led the estblishment of this process;nd c. requesting the Development Bnk of Southern Afric to fcilitte the cretion of specil purpose vehicle to fcilitte the pooling together of finncil resources by lrge cities, for the purpose of joint bond issunce nd lending to lrge cities. 2. The Public Privte Prtnership Unit t Ntionl Tresury improves public privte prtnership del flows within municiplities by:. stremlining the PPP pprovl process, b subjecting only high vlue (bove R100 million) nd complex projects to rigorous fesibility studies; b. using the Finncil Mngement Grnt to build cpcity within lrge cities in specilised skills in public privte prtnership development, procurement, negotiting nd monitoring; nd c. incentivising public privte prtnerships through dopting ntionl fcility for finncing fesibility studies in municiplities. 3. Ntionl Tresury cretes wreness of lnd vlue cpture fiscl instruments mong lrge cities, nd extends the scope of the Finncil Mngement Grnt, to cter for cpcity building in the design nd implementtion of lnd vlue cpture mechnisms. Finncil nd Fiscl Commission: Policy Brief 11 6

7 Enquiries: Mkhululi Ncube Finncil nd Fiscl Commission Montrose Plce (2nd Floor), Bekker Street, Wterfll Prk, Vorn Vlley, Midrnd, Privte Bg X69, Hlfwy House 1685 Tel: Fx:

FINANCIAL ANALYSIS I. INTRODUCTION AND METHODOLOGY

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