Urban Infrastructure Investment

1. Infrastructure Development Finance Company Ltd. Urban Infrastructure Investment Mechanisms, Possibilities, and Special Financing Vehicles

2. Structure • Background • 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

3. Background

4. 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

5. 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

6. 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!

7. 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

8. 74th 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

9. Current Financing Mechanisms

10. 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

11. Local Authority Funding • After the 74th Amendment, there is increasingly, funding generated by the ULB • Escrowing revenues such as property tax, entry tax/ octroi • Selling/ securitizing land

12. 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…

13. 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

14. Strength & Weakness …Of current Financing Mechanisms

15. 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

16. 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

17. Future Possibilities & Some Progress Stories

18. 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

19. 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

20. Pooled Finance… (2) Proportion of Pooled ULB Finances Government Budgetary Support PFDF/ Government Debt Service Ratio of 1.3 to 1.5 State Intercept Bond Service Fund USAID Guarantee Rated Bond Instrument

21. 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

22. 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

23. 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 risk-free, from regulatory considerations

24. 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

25. Bringing Private Capital ---into Urban Infrastructure

26. 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)

27. Conclusions & Way Forward

28. 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

29. Conducive Macro-economic Policies Source : World Bank WP 5, 2003 Investment in Infrastructure Projects with Private Participation by Region, 1991-2001, $ Billion.

30. Fiscal Policies • Fiscal policy • Tax policy • Widening of tax bases • User charges • Policy of fiscal transfers – decentralization of powers and finances

31. 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

32. 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

33. 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

34. 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

35. Thank You