CHAPTER 7

Infrastructure and Social Projects—Meaning, Significance, Investment Estimates, and Government Funding Policy

Key Terms: Infrastructure project, Industrial project, Economic Development, Infrastructure indicators, Privatization, Public–Private Partnership, VGF Scheme

There has been a greater emphasis on infrastructure development, in particular in the developing economies, as economic development is directly linked with the availability of right quantity and quality of infrastructure. Further, infrastructure projects differ from industrial projects in terms of size, longevity, and immobility; require mammoth amount of investment; have a long life and many a times are immobile; their tariff are politically sensitive and are relatively less based on economic considerations. It raises issues: What is the meaning of infrastructure? How is it related to economic development? What are its changing features over the years? What are the various approaches for involvement of private sector in development and financing of infrastructure projects? What are the estimates of infrastructure investment in various sectors of the economy? And what is the government policy of financial support for involvement of private sector in infrastructure projects? These issues are discussed in this chapter. Aspects relating to public–private partnership (PPP) are discussed in the next chapter.

Infrastructure Meaning

The term infrastructure has been defined differently and has several connotations. The concept has gained prominence over the years and has a wider coverage with the advancement in technology and urbanization. As per the World Bank, infrastructure is an umbrella term for many activities referred to as social overhead capital and includes

According to the India Infrastructure Report (1996),¹ infrastructure is defined as the physical framework of facilities through which goods and services are provided to the public. Its linkages to the economy are multiple and complex; because it affects production and consumption directly, it creates negative and positive spillover effects (externalities) and involves large flow of expenditure.

Reserve Bank of India with the objective to regulate credit system for the industry and banking industry has described five categories and subsectors which qualify as “infrastructure lending.”² The five categories include transport, energy, water & sanitation, communication, and social & commercial infrastructure. The list has been updated by adding the following two subsectors.

Infrastructure also includes social and community services covering education, medical and public health, housing, social security, urban development, and information and broadcasting; these have different issues.

Thus in narrow terms, infrastructure services include three basic services, namely, transport (roadways, railways, airways, and water transport), power (generation, transmission, and distribution) and communication. In broader terms, they also include social infrastructure services covering education, medical care, and other primary services.

Infrastructure and Economic Development

Infrastructure contributes to economic development, both by increasing productivity and by providing amenities which enhance the quality of life. The services provided lead to growth in production in several ways:

Of late, there has been a greater emphasis on infrastructure development, in particular in the developing economies, as economic development is directly linked with the availability of right quantity and quality of infrastructure. Recognizing that high quality and reliable infrastructure is essential to the US economy and quality of life and a highly interconnected and dependable transportation network helps commuters get to work, moves consumer goods to market at a lower cost, and enables US-based firms to sell goods competitively both domestically and internationally, Build America Investment Initiative was launched by President Barrack Obama on July 17, 2014.³As infrastructure is a prerequisite for economic growth, nonavailability of requisite quality of infrastructure affects all sectors of economy, that is, agriculture, industry, imports and exports, standard of living, and per capita income. For instance, a poor power infrastructure not only discourages investment but also hurts economic output, as total production losses owing to power shortages were estimated to be 1.5 percent of gross domestic product in 1984 in India. Similarly, studies⁴ in Latin American countries show that each dollar not spent on road maintenance increased vehicle operating costs by $3, besides costing an additional $3 for premature reconstruction. Infrastructure investment had been a core component of poverty alleviation program in Latin American countries, and it accounted for 7.1 to 11 percent of GDP. From the perspective of poor, three main macro-economic issues reflecting impact of reform on poverty alleviation were economic growth, employment, and composition of public expenditure. According to the World Bank (1994), “Infrastructure can deliver major benefits in economic growth, poverty alleviation, and environmental sustainability—but only when it provides services that respond to effective demand and does so efficiently. Service is the goal and the measure of development in infrastructure. Major investments have been made in infrastructure stock, but in too many developing countries these assets are not generating the quantity or the quality of services demanded. The costs of this waste—in foregone economic growth and lost opportunities for poverty reduction and environmental—are high and unacceptable.”

Infrastructure shortcoming hits agriculture harder than industry. Estimates are that due to lack of adequate chain of refrigerated warehouses and transporters, lack of food processing facilities, and deteriorated long roads, about 20 percent of agriculture produce and 40 percent of fruits and vegetables are lost.

Infrastructure services over the years have the following features⁵:

The need for infrastructure investment in India has accentuated with the growing urbanization as urban population has increased by more than five times during the last five decades; with the widespread illiteracy and poverty; and with the increase in malnutrition and undernourishment among children and women. Over the years, the economy has faced social change reflected by the expected increase in the old-age-dependence ratio from 6.8 percent in 1975 to 12.2 percent in 2025 to 22.6 percent in 2050. (Old-age-dependence ratio is the ratio of number of persons 65 years and over per 100 persons of 15 to 64 years.)

Further, infrastructure services, namely, access to electricity, electricity consumption, sanitation facilities, and telephone connectivity, are at various stages of development and their intensity varies from country to country. For example, 99 percent of the population in China has access to electricity or 63 for every 100 inhabitants have subscribed to telephone. The corresponding figures for India are 43 and 18, respectively. Intensity of infrastructure facilities in different countries is presented in Exhibit 7.1. The salient features are as under:

Similarly, performance of various infrastructure sectors in India over the years is presented in Exhibit 7.2. Further, paved roads as percentage of total road length, as indicator of infrastructure development for various countries, are presented in Exhibit 7.3. This exhibit indicates that for China, S. Korea, Malaysia, and United Kingdom the percentages were 63.7, 80.4, 80.9, and 100, respectively, while for India the corresponding percentage was only 53.9. Further, “investment efficiency” parameter is developed for every ministry by the Planning Commission by adopting global best practices. The parameters are worked out as:

Infrastructure and Economic Reforms and Private Sector Involvement

With the liberation and economic reforms, the role of the state has changed from that of “producer” of infrastructure to “provider” of infrastructure or a “facilitator.” As per World Bank (WB, 1994), the upsurge in private financing of infrastructure has come due to reasons like

As a result of economic reforms or structural adjustment program, private sector has been involved in infrastructure provision. Broadly there are three approaches toward private sector involvement. These range from complete government ownership of resources to handing over the same to private sector; and reflect moving from government monopoly to private competitive environment. These are inversely related to political commitment to economic reforms, strength of the opposition to change, institutional capabilities, investors’ perceptions, and the domestic economic and legal environment. These approaches are presented in Exhibit 7.4. Political cost of adjustment is reflected on X-axis, while Y-axis contains economic efficiency and economic cost.

Approach “A”: This relates to deregulation and unbundling of services. Private sector entry is allowed for development of new assets through “contractual relationship” and there is no change in the ownership for the existing services with the government. Under this approach, there is an arrangement for involvement of private sector in the delivery of public services, normally called public–private partnership (PPP), which takes various forms. PPP has been adopted in various countries for development of infrastructure services. Development of roads and airports like Mumbai, Delhi, Hyderabad, and Bangalore are some of the examples. In all such cases, there is an arrangement where a private agency agrees to develop the project, administers it for a period, and hands over back to the government on the expiry of the contract. This system has relatively less political commitment to economic reforms and there is a strong opposition to change. As a result, it is subjected to low economic efficiency.

Approach “C”: This relates to complete privatization and handing of resources to private sector. Under this approach, the existing government enterprises are handed over to private agencies and it is a situation of change of ownership and management. Privatization of enterprises in the United Kingdom is an example. Various government enterprises in the United Kingdom were sold to employees, customers, and public with the objective to bring in “popular capitalism.” It requires a strong political commitment toward private sector. Under this approach, there is simultaneous unbundling, deregulation, and divestiture. Divestiture of Hindustan Zinc, BALCO, VSNL, MUL, Modern Food, CMC, HTL, and PPL are examples in India. Other examples of private sector owning and operating infrastructure include all urban water supply infrastructure; three major London airports—Heathrow, Gatwick, and City Airport; privately managed highways which are common in Canada and Europe; and Hong Kong transit system.⁶ Recent example of involving private sector is the contract for the award of construction of 6.15 km railroad bridge on River Padma, also known as Ganga, in Bangladesh. The contract has been finally awarded to a Chinese firm, Major Bridge Engineering Co. Bridging the mighty Padma would be an engineering marvel. It will link the national command region around capital Dhaka to 21 southern districts. The bridge is estimated to boost Bangladesh GDP by an additional 1.2 percent pa. Earlier the project was to be funded by WB ($1.2 bn) and other funding agencies such as ADB and Japan International Cooperation Agency (JICA) but due to certain unpleasant political reasons, the government decided to do the project with its own resources. Bangladesh has allocated taka 121 bn for the project that the Chinese Construction Co. has asked for. Accordingly, the project cost has gone up by about 30 bn taka primarily due to a 3-year delay—initially the project cost was estimated at taka 91.72 bn. The project is likely to be completed by the end of 2018 and its final cost may escalate to taka 160 bn.

Approach “B”: It is a state of mid-way between the other two approaches wherein the public service is unbundled and some of the bundles are open to private sector. Separation of generation, transmission, and distribution functions of an electric company is an example wherein a bundle may be divested to a private agency. Unbundling of telecom services is another example.

Infrastructure Investment during Five Year Plans

Bottleneck to economic development includes lack of infrastructure of requisite quality, besides hundreds of laws at the center and state levels. Considering that economic development is directly linked to infrastructure development, there has been an increasing emphasis on infrastructure covering transport, power, and communication. For achieving a growth rate of 9 percent, there was an ambitious program of infrastructure investment of Rs. 24.24 lakh crores for the Eleventh Plan (2007–08 to 2011–12) which was approximately 2.5 times that of the Tenth Plan. Further, the draft Twelfth Plan (2012–13 to 2017–18) continues to emphasize the thrust on accelerating the pace of investment in infrastructure with an estimated outlay of Rs 65.78 lakh crores, which is 9.95 percent of GDP.

Exhibit 7.5 presents estimates of infrastructure investment for Tenth, Eleventh, and Twelfth Plans. Private sector share in infrastructure was 25 percent, 38 percent, and 47 percent in the Tenth, Eleventh, and Twelfth Plans, respectively.

As against the Tenth Plan target of investment of Rs. 8.71lakh crores, actual investment was Rs. 9.06 lakh crores, that is, 3.97 percent higher than the original estimates. The increase in investment was mainly due to higher investment by the private sector at Rs. 2.25 lakh crores as against an anticipated amount of Rs. 1.72 lakh crores. Thus the private sector accounted for 24.86 percent of the total investment during Tenth Plan; the increase was largely due to higher investment in oil & gas pipelines, electricity, ports, storage, and airports.

Greater focus on infrastructure during Eleventh Plan is reflected by the higher investment of Rs. 24.24 lakh crores which is 7.55 percent of GDP as against 5.08 percent during the Tenth Plan. The sectors involving increased investment mainly included airports, storage, oil & gas pipelines, ports, and telecommunication and these involved higher share of private funding.

Sector-wise infrastructure investment for the Eleventh and Twelfth Plans are given in Exhibit 7.6. The table also presents the private sector participation in various sectors. Sectors having nil participation by private sector include irrigation (incl. watershed), water supply, and sanitation; as against this, sectors like telecommunication, airports, and ports were the most preferred by the private sector. Twelfth Plan envisages greater private participation in storage, roads & bridges, railways, electricity, and oil and natural gas.

With the current saving rate of 34 percent, which can be expected to increase to 36 percent, and the limited budgetary resources, such massive investment in infrastructure has led to involvement of private sector in building infrastructure. As such, the share of private sector in infrastructure financing during the Tenth and Eleventh Plans were 25 percent and 38.2 percent, respectively; the corresponding figure for the Twelfth Plan is envisaged as 47 percent. The private sector investment in various sectors also involves adoption of PPP approach which is based on a concession agreement with the government. In this regard, to quote from the Economic Survey⁷ 2006–2007 (p 178), “There is now a widespread consensus that exclusive dependence on government for the provision of all infrastructure services introduces difficulties concerning adequate scale of investment, technical efficiency, proper enforcement of user charges, and competitive market structure. At the same time, complete reliance on private production, particularly without appropriate regulation, is also not likely to produce optimal outcomes. In India, while stepping up public investment in infrastructure, has been actively engaged in finding the appropriate policy framework, which gives the private sector adequate confidence and incentives to invest on a massive scale, but simultaneously preserves adequate checks and balances through transparency, competition and regulation.” The government is committed to promoting public–private partnership (PPP) in infrastructure development and issued Guidelines for Financial Support to Public-Private Partnership (PPPs) in Infrastructure in January 2006.⁸ (PPP concept, approaches, and experiences are discussed in the next chapter.)

Government Scheme to Support PPP in Infrastructure—2006

Considering the need for private funding, the government issued Guidelines in January 2006 to provide Financial Support for PPPs in Infrastructure for the total project cost other than the cost of the land. The scheme is administered by the Ministry of Finance and budgetary provisions are made in the annual plans to provide one-time or multiple grants as a viability gap funding (VGF) to make the projects commercially viable. As per the scheme, the government provides a support to bridge the viability gap of the project undertaken through PPP. The scheme aims at supporting infrastructure projects that are economically justified but fall short on financial viability.

Eligibility: The projects to be covered should meet the following criteria:

The total VGF under the scheme is normally not to exceed 20 percent of the project cost except that additional 20 percent may be funded by the government.

The guidelines provide for the extent of government support, procedure, appraisal, and monitoring and disbursement aspect. PPP approach is best suited for infrastructure projects as it supplements government resources, improves operating efficiency, and introduces competitiveness.

A study⁹ of 96 highways and road projects availing VGF facility concluded that, “the kind of projects that come up for VGF funding are not those large projects which should be developed with the Central government assistance. These are mostly small projects; these could well be taken up by states or local bodies. The grant under VGF amount to a tacit admission of the irrationality of the existing toll formula for roads, the ‘cost-plus-tariff’ for port services and the continuing government control on power tariff through SEBs.” Similarly, as per the Indian Data Base, 183 projects¹⁰ having a total cost of Rs. 95,138.68 crores had a total VGF approved in principle to the tune of Rs. 16,731.55 crores for the years 2005–2006 to 2014–2015.¹¹

Further, the Parliamentary Standing Committee on Finance 2009–2010,¹² examined the utilization of the VGF scheme and noted that budgetary provisions for supporting infrastructure projects through VGF has always been on the higher side, despite little actual utilization. The committee was of the view that a more realistic approach while assessing the viability of a project should be adopted to ensure greater efficiency in allocation of the resources.

Summing–Up

With greater focus on higher funding by the private sector in the successive five year plans, there is a need to pursue reforms and remove bottlenecks in the flow of funds to infrastructure. Need for reforms including permitting pension and retirement funds to invest in the infrastructure is overdue. Launching of Infrastructure Debt Fund (IDF) of US $2bn in March 2012 by the government is a welcome step as it will facilitate the availability of debt to infrastructure; the IDF is structured as a nonbanking finance company with an initial equity share of Rs. 300 crores. However, the need to develop the debt market in India, in particular in smaller states, requires greater emphasis.

Some sectors like urban development piped water supply, sanitation and sewerage, education and medical care which are the responsibility of the state or local governments should be given higher thrust by adopting PPP approaches.

Further, although the VGF by the Central Government is welcome, it has not been found favorable in some of the states and there is a need to facilitate encouraging the availing of the facility.

Problems in contract negotiations and delays in award of contract are pervasive across infrastructure projects. Further, infrastructure projects require multiple clearances at the center, state, and local levels which result in serious delays and discourage private sector participation.

Lastly, development of infrastructure projects and infrastructure investment are more of a political decision; there is need to follow the following principles for managing of infrastructure¹³ projects:

¹ Rakesh Mohan Committee Report India Infrastructure Report Policy Imperatives for Growth & Welfare Ministry of Finance Govt. of India 1996.

² RBI, Department of Non-Banking Supervision, Notification No. DNDB>265/PCGM(NSV)-2013 dated November, 29th, 2013

³ US Department of Treasury Office of Economic Policy. “Expanding our Nations’ Infrastructure through Innovative Financing” (September, 2014).

⁴ Antonio Estache Vivien Foster and Quenvin Woden. Accounting for Poverty in Infrastructure Reforms—Learning from Latin America Experience. (Washington DC: The World Bank, 2002).

⁵ The World Bank, “Infrastructure for Development, World Development Report.”

⁶ U S Department of Treasury, “Expanding our Nations’ Infrastructure through Innovative Financing.”

⁷ Economic Survey GOI (2006–2007, p. 178)

⁸ Guidelines for Financial Support to PPPs in Infrastructure GOI Jan. 2006

⁹ Hiren Maniar, “Scenario of Viability Gap Funding (VGF) Concept in Indian Infrastructure Projects” Journal of Infrastructure Development 5, no. 1 (2013)

¹⁰ PPP–Infrastructure Project Database. “Viability Gap Funding Projects” (Ministry of Finance, GOI)

¹¹ Dhameja Nand and Dhameja Sarika, Infrastructure Development and Financing including Social Infrastructure Issues and Challenges (New Delhi: Viva Publication, p. 61, 2013)

¹² Standing Committee on Finance 2009-2010, Ministry of Finance, Demand for Grants (2010–11). Eleventh Report, LokSabha Secretariate (April 2010) Dr. MurliManohar Joshi, Chairman

¹³ The World Bank, “Infrastructure for Development, World Development Report.”