As the country gets set to roll out a road map for its infrastructure needs under the 12th Plan (2012-17), funding projects may become a formidable task for the government. Given the pace of economic growth, the need for developing robust and efficient infrastructure has become inevitable.
While the 11th Plan (2007-12) witnessed progress in attracting funds into infrastructure, total annual capital investment in the sector in the past has been around 5% of the country’s gross domestic product (GDP), compared with at least a 10% share in other rapidly growing Asian economies.
The investment projection of $500 billion (in the 11th Plan) is expected to double to more than $1 trillion in the next Plan.
In the past, infrastructure projects have been financed through budgetary allocations, the public sector, and grants by the Union and state governments. Given the limited capacity of the government to fund these projects now, there is a need to look at alternative options and to balance long-term investments with reasonable returns on investments.
India is the fourth largest and the second fastest growing economy globally. Domestic macroeconomic situation in the country remains upbeat, albeit with some concerns. Primarily powered by domestic factors, growth in the first half of 2010-11 was pegged at 8.9%. For this fiscal year, growth is pegged at about 8.5%. The fast pace of growth has increased stress on creating physical infrastructure—roads, railways, ports, airports, electricity, bridges, freight corridors. To achieve a targeted growth, it is essential to invest in the creation of infrastructure. Gross capital formation (GCF) in infrastructure is measured as a percentage of GDP. Experience of fast-growing economies suggests that to augment growth, GCF in infrastructure has to be accelerated to 10-12% of GDP. In India, GCF in infrastructure until the end of the 10th Plan was estimated at 4-5%.
At the beginning of the 11th Plan period (2007-12), critical infrastructure facilities in the country suffered from a substantial deficit, both in terms of capacity and efficiencies. It emphasized the importance of investment in infrastructure for achieving a sustainable and inclusive economic growth of 9% by gradually scaling the GCF in infrastructure from 5% to 9% by the end of its period. Recognizing the deficit in physical infrastructure across different sectors, the government outlined investments of $500 billion over the Plan period. The contribution of the private sector in the total investment in the first two years of the 11th Plan period was around 34%, higher than the target of 30%. Increase in private investments can be primarily attributed to higher levels of investments in projects such as oil and gas pipelines, airports and the telecom sector. A number of initiatives were taken to accelerate investments in infrastructure and attract private investment, such as improvising policies to enhance private investments, maximizing the role of public-private partnerships (PPPs), viability-gap funding, and creating institutions for funding infrastructure projects. The wider private participation in building infrastructure has augured well for the sector. Taking into account the pace of developments in the first two years of the 11th Plan, GCF in infrastructure is expected to scale to 8.37% of GDP in the final year, yielding an average GCF at 7.6% of GDP for the entire period.
Projections for the 12th Plan suggest that India’s economy is likely to enter a more robust environment with a higher growth trajectory of 8-10%. In order to sustain the momentum, aggregate GCF in infrastructure will require a significant step up from current levels to more than 10%. In line with GDP and GCF growth projections, investment in infrastructure sector during the Plan is estimated at $1.025 trillion, a two fold hike over the estimated investment in the current period. Around 50% of investment is expected to come from the private sector.
Gross capital formation
But as we approach the 12th Plan, funding infrastructure projects may become a daunting task. Official estimates indicate that over the 12th Plan period, funding for infrastructure sector is likely to fall short by 30%. Budgetary allocations and public sector funding alone may not be adequate to meet the staggering investment needs of the next Plan period.
Historically, a large portion of funding for these projects has come through debt financing, but this has been largely confined to banks, which remain constrained in funding due to their asset-liability mismatch.
Insurance and pension funds have stayed away from funding infrastructure projects on account of risk perceptions by banks.
Over the years, the chief deterrent for private investments in infrastructure projects has been the long gestation nature of such projects, leading to protracted pay-back periods. The long-term and cost-effective financing needs of these projects invariably lead to distorted project returns.
Yet, given the future potential of the infrastructure needs of the economy, the sector remains the favourite among investors. Both domestic and foreign investors are waiting to be a part of the growth story as India opens up its infrastructure sector.
But as the current policy and fiscal framework significantly undermine and dissuade the much-needed investment in infrastructure, there is a need for initiating radical decisions and innovative solutions.
There is a need to revisit India’s foreign investment policy, sectoral policies, external commercial borrowings, fiscal policies, regulatory framework, and to mobilize domestic institutions such pension funds for funding infrastructure projects. A cumulative reform could help the country attract billions of dollars in investment, create employment and drive the overall economy to double-digit growth.
Sujit Ghosh is a partner at BMR Legal.
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