Substantial reforms to the country’s capital and labour markets are the key to India achieving its infrastructure goals, at least according to International Monetary Fund (IMF) senior adviser Kalpana Kochlar, who recently outlined what steps the fund believes to be taken if the country is to meet its ambitious investment targets.
Kochlar laid out the task ahead with stark numbers. Over the past three years, India has invested an average of 4.5% of its annual GDP on infrastructure development, which is half of the 9% of GDP that India’s Planning Commission has set as its goal for the level of infrastructure investment by 2011/2012. To meet this goal, investment in infrastructure will have to increase by a hefty 1% of GDP increase each year between now and 2011/12.
Working out how much needs to be spent is one thing but the harder part of the equation is working out where this huge amount of money is going to come from and to what extent it will be publicly or privately funded and what role local and foreign capital markets can play in raising this money.
India at least starts from a position of strong public finances. “From dissavings of around 1% of GDP a decade ago, public sector savings shot up to an impressive 3% of GDP in 2007/08. But given the pressures from the 6th Pay Commission, the agricultural loan waiver, and continued commodity subsidies it will likely be difficult to increase or even to maintain this level of savings in the absence of substantial improvements in tax revenue collection,” Kochar wrote.
However, it seems clear that even the strongest public finances are not sufficient to raise the necessary funds and that India will require foreign capital to meet its infrastructure spending goals. This is why foreign investors and bankers are excited by the prospects, even as they ponder the Herculean investment required.
However, Kochar cautioned that even with the current huge appetite for investment in India, sufficient funds would not be able to be raised without a significant retooling of India’s financial and labor markets. Kochar is rather blunt about the prescription: “India needs to rethink its capital account framework in the light of the need for $500bn in infrastructure investment.”
Specifically, he recommends “refraining from ad hoc changes in capital controls in the name of macroeconomic management, and quickly expanding the country’s real and financial absorptive capacity. In particular, there is an urgent need for an expedited and time-bound plan to develop the corporate bond market,” including raising the limits on foreign participation in this market, permitting greater capital outflows, creating fiscal space to finance infrastructure investment by curbing wasteful spending, and implementing structural reforms of labour and product markets.
India is one of many countries working to mobilise private participation for infrastructure projects – indeed, countries right across the region have been upgrading their infrastructure at a furious pace – and successful projects have shown investors that they can obtain healthy financial returns.
Successfully bringing projects to financial closure requires optimising outcomes for the host-government, for project promoters, and for creditors. Therefore, resolving various issues is becoming more urgent for countries, like India, that are counting on private resources.
These issues include the harmonisation of regulatory structures, determining the right role for competition and for choice, finding the right balance between different modes of finance. All of these are required in order to build confidence among the key parties in a project. On the financing side, there is also a pressing need for innovative financial structures to deal with a multitude of contractual, political, market, operational and credit risks. But there is also an urgent need to build credible structures to ensure that projects are environmentally responsive, socially sensitive, economically viable, and politically feasible.