The global economic downturn has raised concerns about the effectiveness of conventional economic policies, which were designed for stabilization, and not for reviving growth in developing countries. Rural distress, spatial disparities, the gender divide and climate change, all combined with the threat of low and jobless growth for a prolonged period, make it important to reshape economic policy.
Monetary policy has taken the lead in efforts to revive global growth, with successive outbursts of interest rate cuts. However, macroeconomic stability was never a concern for young, fast-growing economies, as they can run external deficits by borrowing from advanced countries with an ageing population. Global risks were contained, as external deficits and debtor positions were concentrated in advanced economies. It seems monetary policy has run its course.
There are many fiscal tools for stimulating growth, from restructuring the tax system to scaling up investment. As fiscal resources are limited, policymakers can scale up investment through public-private partnerships (PPPs). Investments in physical and human infrastructure are the key drivers of growth in emerging economies. A detailed examination of millions of enterprises across 500 districts in India has shown that these play a key role in promoting entrepreneurship, job creation and growth (Spatial Determinants Of Entrepreneurship In India).
India’s infrastructure financing gap is huge, estimated at $1 billion a day, and is growing exponentially. While it has maintained external macro stability by imposing capital controls on foreign borrowing, it has created domestic financial instability by using commercial banks as the principal source of debt funds for infrastructure projects. This isn’t the right vehicle, as banks lack the experience in such financing, and crowd out lending to private entrepreneurs. Banks attract short-term deposits, which create an asset-liability mismatch in lending for long-term infrastructure investments.
Looking forward, given the low interest rates, a glut in global savings, and considering that long-term institutional investors and pension funds are looking for new investment opportunities, there is a huge potential for developing economies to tap financing from advanced countries. The traits of infrastructure projects, such as their size, long-term steady revenue stream, and inflation-beating returns, make them attractive for institutional investors.
PPPs offer vast potential for investments by using the resources and expertise of the private sector while sharing risks and responsibilities. This will also give policymakers more time to focus on policy, planning and regulation, by delegating day-to-day operations to the private sector.
The finance ministry needs to play an active role in coordinating with line ministries and state governments to strengthen the institutional and legal framework for PPPs. Problems of moral hazard and adverse selection can be solved by reducing the opaque structures of projects, and by providing the information required to improve their risk-return profiles.
Integration of the preparation, design and execution of investment projects also matters a great deal.
Factor-market distortions have been the biggest constraint on PPPs. India is the most land-scarce country in the world, and land markets are much more distorted than labour or capital markets. The scope of PPPs for infrastructure projects that are land-intensive is constrained by these market distortions. Policymakers can reduce them by providing more resources to commercial courts so that judgements flow faster, and to small claims courts so that entrepreneurs are assured greater enforceability of contracts. Greater digitization of land data will also help.
Conventional wisdom suggests that infrastructure investments through PPPs are used to move public investment off the budget, and debt off the government’s balance sheet. This poses huge fiscal risks in the long-run. However, a detailed examination of the global experience with fiscal contingent liabilities over the last two decades has shown that fiscal risks in bailing out PPPs are low (1-2% of gross domestic product) compared to bailing out state-owned enterprises (5%), and bailing out banks (10%). PPPs should not always be viewed as a fiscal liability. A well-structured PPP can help turn a loss-making state-owned enterprise around.
However, the finance ministry should not ignore contingent liabilities associated with PPPs. Their risks need to be dealt with by ensuring an appropriate level of risk-sharing upstream, and by budgeting liabilities during project implementation. Sector-specific institutional frameworks with independent regulators should also be established.
India has many success stories with PPPs, such as building fine airports in Mumbai and Delhi. The next frontier for PPPs will be in rural areas, where 60% of the population lives with poor or no access to physical and human infrastructure. Rural areas have greater growth potential compared to urban areas, given its young population. The manufacturing sector has already moved out of costly and congested cities to rural areas to stay competitive. But its growth is being constrained by poor physical and human infrastructure. This calls for reshaping the country’s fiscal policy to improve public financing of infrastructure.
Ejaz Ghani has taught economics at Delhi University and Oxford University, and worked for the ILO and World Bank