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IFR: Exactly a year ago, India embarked on its 12th five-year plan with a target for investment in infrastructure of US$1trn, nearly double that in the previous five-year period. Some 47% of this, that is to say US$470bn, is to come from the private sector. Before we delve deeper into where that funding is coming from, why is infrastructure development so important for India?
Atsi Sheth: This window of opportunity has been really created by two trends. One has to do with the demand and the other with supply.
The demand side has to do with India’s domestic economic growth story. Over the last 10 years, India’s economic growth has accelerated beyond what it was in the past five decades. This transformed the corporate sector, which is now much larger and more exposed to international competition. India’s trade to GDP ratio is double what it was 10 years ago. If the corporate sector is to achieve higher scale and compete effectively against firms in countries where infrastructure is much better, including other emerging markets, the corporate sector somehow has to address infrastructure bottlenecks or pay for better infrastructure. There is now an increased ability and willingness to pay for better infrastructure, which is good news on the demand side.
The good news on the supply side is more international. We have historically low interest rates and a very uncertain economic outlook globally. This is sort of good news for India because global capital is looking for real assets that are long-term and will yield returns. India has both the scale and potential to produce these assets.
Now, are these two trends enough to catalyse the surge in infrastructure that you see? Is it enough to create US$1trn of investment? The answer could be ‘yes’ or ‘no’ because there is no sure-fire recipe.
There are several parts to infrastructure success. If you look around the world, Chile is country that made a successful transition from an emerging market to a high-income country and its infrastructure is largely privately funded. It developed when the pension sector was privatised in the 1980s. The insurance sector also developed during the 80s, creating a pool of long-term domestic capital that was looking for long-term domestic assets to invest in. Could this be relevant to India? Could the pension and insurance fund serve this role in India as well?
At the other end of the spectrum you have South Korea. Since the 60s it has pushed infrastructure in conjunction with its push for export-led growth. There, the funding was largely public. The corporate bond market did not grow like Chile’s did, but only when Korea’s financial markets grew and its economy developed. Now, both the domestic corporate bond market and international corporate bond markets are playing a bigger role in Korea.
Let’s throw in China too, which incidentally is rated the same as Korea and Chile at Aa3 by Moody’s. In China, nearly 80% of the funding is from banks and it is implemented at the local government level rather than the state government level.
I throw up these examples because they show that there is no one-shot, sure-fire recipe. It also doesn’t mean just because you have two trends converging, one of these recipes will necessarily come about.
IFR: What exactly are we talking about when we say private sector will contribute US$470bn by 2017?
Pradeep Singh: Well, what exactly we are talking about is quite a tall order to address. The opportunities and challenges have been talked about over and over again – a US$1trn investment and a GDP growth rate that is one of the highest in the world. A share of that US$1trn that is supposed to come from the private sector, on a further acceleration path. It used to be 25% in the 10th five year plan, it became 33% in the last 11th five year plan and it’s projected to be 47% in the current five-year plan.
The challenges are familiar ones: execution challenges, environmental challenges and land acquisition challenges. Banks are running out of balance sheet, hitting prudential limits and single group lending limits. They are not going to fund this anymore. We need to find alternative, non-bank sources of funding. We need to go to the international markets, the corporate bond market. There is an asset-liability mismatch.
The issues are well-known. Therefore, the bigger question is why are they not getting addressed? What is the politics? What is behind the underlying lack of capacity, the conflicts of interest, the vested interests and corruption? All of those issues are coming together. We should be paying more attention to these nuisance issues if we really want this big infrastructure opportunity to be converted into reality.
IFR: How has India planned for this private sector involvement?
<div class="inline_image_right inline_image" data-attachment="207892" style="width: 220px;"><p class="picture"><img alt="IFR Asia Funding India’s Infrastructure Roundtable 2013: Part 1" src="/MediaFiles/Browse/aadca4ab-9fbc-49c8-9f97-b8dcf193eed2"></p></div>Amit Kapur: In terms of infrastructure development, we have reached a second stage of what started as a public-private-partnership initiative. In 1991 we invited the private sector into partnership because we didn’t have enough public funds. We changed the policies to give them ownership, to give them the right to build and operate infrastructure, and now we are seeing a slew of PPP projects that are facing various implementation challenges. The idea was to try and push as much operational risk and costs on to private sector.
“Remember, a PPP is not just bidding out an asset, handing it over to the private sector and working with disclaimers. It’s a public good.”
We have now come to realise that the private sector needs to be involved through the life of the project. You can’t walk away with disclaimers because public assets are ultimately public goods and services. If a private player fails, the burden to supply water, electricity, highways etc comes back to the government. The accountability stays with the government.
It does not matter how much the private sector has invested in capital outlay of a project. The important thing is the asset was created, through a government concession, for the public’s welfare and to help economic growth. So how do you make those assets sweat for the public’s welfare?
We need to have a road map which is firm, clear and which hopefully will not change in the five-year cycle.
The third aspect, which is critical, is legal enforcement, which we are seen as being poor at. There is not an awareness, for some reason, that we have seen a change regulatory/adjudicatory mechanisms. The adjudication cycle of 20 to 25 years has come down to four years. This is one of the fastest in the world. I am talking about the electricity and telecom industries where the regulatory authorities have been given the power to adjudicate, and then you have the dispute resolution up to the Supreme Court in three to four years. Businesses can plan and work towards a solution.
The debate is between the taxpayer and the ratepayer, so please don’t look away from the fact that every time you take a populist subsidy decision or you, as a lender, do not raise your voice against it when the government makes a decision, you are putting the financial health of the country in peril. Remember, a PPP is not just bidding out an asset, handing it over to the private sector and working with disclaimers. It’s a public good.
IFR: Given that the decision-making process has slowed and could stay that way until India’s general elections in 2014, how does the government intend to maintain its PPP programme growth?
<div class="inline_image_right inline_image" data-attachment="207897" style="width: 220px;"><p class="picture"><img alt="IFR Asia Funding India’s Infrastructure Roundtable 2013: Part 1" src="/MediaFiles/Browse/c801eefa-bfcd-4f92-806c-a1c3392a8d94"></p></div>Sharmila Chavaly:I am not sure if all of you know this but we have one of the largest PPP landscapes in the world with about 1,000 PPP at various stages in India. You can look at countries like Chile, Korea or China but they are not exactly perfect comparators. India has a political system that is largely based on consensus building so decisions are slow. But decisions are almost always irreversible, regardless of which party is in power. Two, as Atsi has said, funding so far has been basically through banks, which is possibly a version of what the Chinese have done but entirely different at the ground level. There is also a very strong realisation that this money is not enough. The Chile kind of a system at this stage is not immediately replicable in India because we have to develop our pension and long-term funds.
“One of the lessons we have learned from the UK, is that we need specialist operation and maintenance contractors to come in once an asset is delivered. We don’t have that in India.”
Amit is right in saying that we have reached the next level of PPPs in India. When people are quick to criticise the government’s policies and decisions, they don’t realise that both the public sector and private sector in India have absolutely no experience in dealing with contracts that stretch for 15–30 years. Both were used to the maximum contracts of three to five years. Now if we look at the reported stress signs, for instance in the road sector, they are because the private sector was not aware of what would happen five years down the line.
We have realised that the private and public sectors have to grow together. One of the things which we need to look at is the need for new instruments in PPP, including equity takeouts. Without getting into the controversy of whether we are looking at ongoing contracts or new contracts, one of the lessons we have learned from the UK, which has vast experience in this, is that we need specialist operation and maintenance contractors to come in once an asset is delivered. We don’t have that in India. So one thing we are exploring from the policy side is how to encourage equity takeouts to bring in specialist operation and maintenance players.
The other thing we are looking at is getting long-term capital to come in – for example the Infrastructure Debt Funds (IDF) – so that these draw out a tail at the de-risk stage of a project’s implementation, once the construction risk has virtually been taken out. Banks have naturally been reluctant to let go of assets just at the point at which the risk has been removed. This is something which we have incentivised through our IDF scheme.
There is an avid interest in long-term funds coming into India, basically because the returns are very good, and the opportunity is so huge that the demand is bound to grow. Even if you have to take into account the notional hedging due to currency volatility, the rate of return you get on an Indian project is about 2%–3% above any kind of risk-free rate that you would get in the West.
Next: Part 2.
