Urban Infrastructure Investment Mechanisms, Possibilities, and Special Financing Vehicles Infrastructure Development Finance Company Ltd. Background Structure Current financing mechanisms Strengths and weaknesses of current mechanisms New possibilities: Pooled Finance initiatives, Viability Gap Funding, Urban Funds Bringing private capital into Urban Infra 2 1
Background Galloping Urbanization Urban Population was 26% in 1991 likely to increase to 36% in 2011 Rate of urban population growth likely to be almost thrice that of total population growth Urbanization picks up after reaching 25% according to international experience Economic reforms and globalization will make cities primary wealth creators 4 2
India s economic growth has been led by urban areas India has become increasingly urban 1981: 23 per cent, 1991: 26%, 2001: 29 per cent Economic growth led by urban areas : industrial and service sectors accounted for 1981 : 62 % of GDP 2001: > 75% of GDP More urbanized states recorded high growth rates Tamil Nadu, Maharashtra, Karnataka, Gujarat, Delhi-Haryana At the local level, larger cities in faster growing states have grown rapidly Chennai, Hyderabad, Mumbai, Bangalore 5 Demand Supply Gap Annual investment needs in Urban Infrastructure are about Rs. 400 billion* as against an availability of Rs. 50 billion, (excluding new mass transit and township development projects) *give or take a few hundred billion! 6 3
Urban Infrastructure Needing large investments in Urban Transport WatSan Desalination Reuse of pre-loved water Solid Waste collection, transportation & disposal Almost all States looking at SEZ development (main developer as well as component developers) with private sector participation Investments are being actively sought even for the traditional industrial area developments which now include Biotech parks, hardware parks, and so on 7 74 th Constitutional Amendment Introduces fundamental changes in system of urban governance provides for regular and fair conduct of elections through State Election Commissions provides a framework for assignment of appropriate civic functions (as per 12th Schedule of Constitution) States required to constitute State Finance Commissions to improve municipal finances 8 4
Current Financing Mechanisms Government Funding Virtually the entire investment, construction, operating, and maintenance is by government Direct budgetary devolution (tax-payer money) Debt raised against government guarantees, (and letters of comfort ) Financing primarily by HUDCO and LIC 10 5
Local Authority Funding After the 74 th Amendment, there is increasingly, funding generated by the ULB Escrowing revenues such as property tax, entry tax/ octroi Selling/ securitizing land 11 Multilateral/ Bilateral Funding World Bank, ADB, DFID Based on reform agenda Fairly detailed appraisals done Sectoral or project-wise Generally addresses needs of urban poor However, for commercial loans, based on Government of India Guarantees as security 12 6
Private Sector Interest? Urban Infrastructure, has not yet found investor interest in the absence of clear directions on various aspects - Risk, social/ political, Regulatory, cost recovery mechanisms, etc. Various attempts are being made to convert Urban Service (water, waste-water, Solid waste, etc) into Bankable projects This is likely to open a new area for investments And a new breed of Operating companies to provide these services 13 Strength & Weakness Of current Financing Mechanisms 7
Strengths Fairly simple financing mechanism, from budget or Government secured lending Quick if political will is there Suits a basket of projects approach, since there is no need for detailed diligence. Lenders are also OK, since the money is lent against the surrogate credit assessment of the State 15 Weakness Practically no diligence on the project financials Viability, user-charge recovery, and such minor issues are non-critical, high gestation period for loan sanction Financial requirements are increasing way beyond direct budgetary/ guarantee capacity State budget deficits and statutory guarantee limits constraining State Gov. funding capacity No impetus to reform 16 8
Future Possibilities & Some Progress Stories Beginnings well made May not be complete success stories, but: Tamil Nadu Tirupur, Alandur, TNUDF Pooled Finance Municipal Bond issues Ahmedabad, Hyderabad, Nashik Sukhthankar Committee, Maharashtra Urban infrastructure funds IFCG, Feedback U- Fund and MUIF BATF in Bangalore Water O&M PSPs (attempts!) in Pune, Goa, Bangalore, Hyderabad 18 9
Pooled Finance TNUDF sponsored issue, successful in Tamil Nadu USAID (DCA) guarantee for 50% of principal Karnataka (KUIDFC) pursuing similar issue Government of India s proposed PFDF, also a pointer in this direction Yet to take off Issues of listing Trust-financed Bonds (SEBI), would have to be addressed to ensure a market for these instruments 19 Pooled Finance (2) Proportion of Pooled ULB Finances Debt Service Ratio of 1.3 to 1.5 Government Budgetary Support PFDF/ Government Bond Service Fund State Intercept Rated Bond Instrument USAID Guarantee 20 10
Viability Gap Funding Proposed by Government of India To Prop-up marginally viable projects Established and clear guidelines for allocation Problem may be in the lack of developed and structured projects, that are eligible to claim this assistance Also will take time to disseminate info/ capability to the ULB level 21 Capital Market Access Bond issues of Ahmedabad, Hyderabad, BMP, Nashik etc., have not led to large-scale replication Issues of market appetite, end-use Limited number of ULBs which can access financing on a standalone basis Pooled Finance seems a more appropriate structure for small ULBs 22 11
Access to domestic institutions For the Local Body Reluctance of Local bodies to accept FI conditions typically stipulated to mitigate project risks ULBs have option of (a) FIs assistance (cash flow basis; with conditions) Vs (b) MLA funding/ Govt. Institutions ( GoI/ State guaranteed; soft push, if any) ULB prefers the latter to the former (obvious!) For the Domestic Institution Guaranteed lending (state/ central) is no more riskfree, from regulatory considerations 23 Earmarked Urban Funds The CCF, URIF, PFDF, IFCG and MUIF were envisaged by GoI/ State Govt., 3 years ago Did not take off very well Too small a corpus, too long a wish-list of reform interventions sought Proposal to consolidate the existing Central Govt. funds (Mega City, IDSMT, etc.), to make them better oriented to the proposed end-use 24 12
Bringing Private Capital ---into Urban Infrastructure Large-scale Interventions Possibility in the short/ medium term subject to De-linking of City projects from State Government finances through direct assistance by Central Government Closer MoUD State Govt. City Government s interaction in project preparation, financing and implementation issues However, specific projects/ basket of projects are amenable for PPP forms Aggressive application of viability gap finance, annuity financing and dedicated city funds to enable early financial closure (such as road development funds) 26 13
Conclusions & Way Forward Reasons to be optimistic Realization of need for improvement of Urban Services, and concurrently, the finance needed for doing so Various precedents are being tried and tested, and experience is maturing But yet a long way to go 28 14
Conducive Macroeconomic Policies 400 300 Source : World Bank WP 5, 2003 200 100 0 East Asia and Pacif ic Europe and Central Asia Latin America and the Caribbean Middle East and North Africa South Asia Sub-Saharan Africa Investment in Infrastructure Projects with Private Participation by Region, 1991-2001, $ Billion. 29 Fiscal Policies Fiscal policy Tax policy Widening of tax bases User charges Policy of fiscal transfers decentralization of powers and finances 30 15
Capacity Building For ULBs Making Local Governments Credit Worthy Make property taxes more buoyant Make subventions from higher levels less discretionary Decentralize more services Freeing Property markets (ULCRA, DDA and even in China s SEZs) Making Urban Infrastructure Projects Commercially viable There is a need for many borrowers, investors and intermediaries Urban infrastructure projects will require credit enhancement 31 Core Issues In Financing Urban Infrastructure Capacity building of ULB s Institutional, administrative and managerial Financial Capacity & Independence Reasonable and equitable USER CHARGE collection Property tax reform Key State-level financial intermediaries help TNUDF, KUIDFC Financial Regulatory Issues: ULB lending is on par with commercial lending, for accounting, prudential norms, and provisioning Efficient Service Provision PSP as appropriate 32 16
Developing Capital Markets for Urban Infrastructure Who are the lenders? Banks and other Domestic FIs, Multilateral and Bilateral Institutions, Mutual Funds, Insurance Funds, Provident Funds, Individuals What does Government do? Policy/ Regulatory Frameworks Equity for Project Agencies Guarantee Mechanisms Funds/ Programs for capacity building Fuel Bond Markets : Govt. borrowings Fiscal incentives 33 Conclusions Cities have coped reasonably well in the past But under stress now: Challenges faced by huge investment and O&M requirements No reason why the problem cannot be addressed in the future Clear policy and regulatory frameworks needed Local capacities must be strengthened Decentralization to be actually implemented Mobilize and leverage all resources possible including private investment/ PPPs 34 17
Thank You 18