Budget FY23 must ease infra-funding

A dedicated Credit Enhancement Agency is imperative to enable more bond financing of infrastructure

It is well recognised that sustained recovery needs to be built on increased infrastructure investment.
It is well recognised that sustained recovery needs to be built on increased infrastructure investment.

By Kumar V Pratap

Though we are seeing early signs of recovery (FY22 GDP growth rate is projected at 9.2%), this brings the GDP to about the same level as FY20 (given the sharp negative GDP growth rate of 7.3% in FY21). It is well recognised that sustained recovery needs to be built on increased infrastructure investment. The government has been making efforts in that direction through increased public spending, given that private infrastructure investment has still not recovered from the heydays of the Eleventh Plan period (2007-12), when it was 2.7% of the GDP, resulting in infrastructure investment of about 7.2% of GDP in that period. 

While it is true that some of the success in private participation in infrastructure in the Eleventh Plan Period led to the disproportionate incidence of NPAs in the banking sector, bank finance continues to be the main source of debt financing of infrastructure. However, banks are an inoptimal source of infrastructure financing given the asset-liability mismatch inherent in such financing.Given that project finance is used extensively in financing infrastructure projects, with its highly leveraged structure, there is a need for increased bond financing and institutional investment financing of infrastructure. These sources of infrastructure finance do not suffer from asset-liability mismatch.

The typical credit rating of a project financed infrastructure project is ‘BBB’, which does not qualify for investment by institutional investors as their threshold for investment is typically ‘A’ and above. Therefore, credit enhancement is required for the bonds issued by the entity to enable them to be subscribed by institutional investors. For this, a dedicated Credit Enhancement Agency is imperative to enable more bond financing of infrastructure.

Such an entity was mooted earlier and needs to be put in place for more bond financing of infrastructure.Related to this is the need for a new credit rating system for infrastructure projects. The typical credit rating metric followed by the financial institutions is based on Probability of Default (PD) under which a one day, one rupee default makes the project delinquent. However, since infrastructure projects have the comfort of a signed concession agreement between the public entity and the private sector, credit rating agencies in India have devised an Expected Loss (EL) scale, which is Probability of Default multiplied by Loss given Default (LD).

LD has been found to be low for infrastructure projects, giving a better EL based rating to such projects. While Pension Fund Regulatory and Development Authority (PFRDA) and Insurance Regulatory and Development Authority (IRDA) have adopted aspects of the EL scale, there are reservations in adopting it for the banking sector given the need for compatibility with Basel norms. More widespread adoption of the Expected Loss scale in credit rating of infrastructure projects would augment infrastructure financing.

Brownfield asset monetisation through the Toll-Operate-Transfer (TOT) and Infrastructure Investment Trust (InvIT) models have come of age in India, especially the latter, because of the compelling rationale of lowered risk in operational assets compared to under construction assets. As such, brownfield infrastructure assets become amenable to investment by institutional investors, which produce long-term steady returns with low correlation to business cycles.

While the Centre is incentivising such transactions at the State level by topping up their total realisations to the extent of 33%, given the core nature of such assets and the asset efficiency payoff from such transactions which would have an impact on the overall competitiveness of the Indian economy, the Union government entities that go this route may be allowed to retain at least 50% of the asset monetisation proceeds, without being adjusted against the Gross Budgetary Support that the Centre gives to such monetising entities.

 Finally, reasonable user charges may be imposed on public services. For example, user charges in social infrastructure like public health, education and water supply, and economic infrastructure like power, metro rail, and passenger trains are so low that they do not recover even operational costs. In the scheme of financing of the National Infrastructure Pipeline (NIP), reasonable user charges will be reflected in higher internal accruals and retained earnings of the enterprises, both public and private. The NIP has budgeted only 1-3% (roughly Rs 1-3 lakh crore) from this source, which may be much more with reasonable user charges.

This is easily seen through an analysis of the power distribution sector. There is a revenue gap of Rs 0.72 per unit of electricity consumed in the country (Power Finance Corporation, 2020). The total energy generated in the country in 2018-19 was 1,547 billion units (Economic Survey 2019-20), of which about 22% is lost in Aggregate Technical and Commercial losses.

So, if cost recovering tariffs are imposed in the power sector (through a policy direction to Electricity Regulatory Commissions emanating from the budget announcement), the additional potential revenue generation is to the extent of Rs 86,900 crore per annum. Since the NIP is a six year infrastructure plan of the country, the total resource generation potential from making the power tariffs cost reflective is Rs 5,21,400 crore, which is much higher than that estimated in the NIP financing plan, and that too from just one major infrastructure sector.

Senior economic adviser, GoI, and former joint secretary (infrastructure policy & finance), department of economic affairs, ministry of finance. Views are personal

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