Infrastructure: will the 'partnership' work?

Unlike previous Budgets, the finance minister's speech stressed the need for leveraging public funds to encourage private participation in infrastructure sectors, and proposed a "viability gap funding" (VGF) mechanism to attract Rs 60,000 crore in roads, rail, airports and sea ports. Under the new scheme, for BOT (build, operate, transfer) projects in roads, the government will provide a ?subsidy? in the form of an annuity flow to meet the shortfall between anticipated revenue and loan repayment obligations; for the rail sector, in the form of equity to an already established special purpose vehicle (SPV); for airports, in the form of equity to two new companies being formed; and finally, for seaports, the VGF will cover differences between user charges and debt service obligations. On an annual flow basis, these sectors will entail an outgo of Rs 2,000 crore from the railway and general budget in the medium term. About 67 per cent of Rs 60,000 crore is expected to be invested in roads. Does the VGF concept conform to the existing BOT practice based on toll, annuity or SPVs in the roads sector? In 1997, the government issued an elaborate framework for the BOT mechanism, which includes a tolling policy. Under the mechanism, a toll-based, capital grant subsidy from the government linked with investor?s equity is also permitted. Other than this, the ?annuity approach? is one of the preferred options where the private developer is paid annually during the concession period after an independent engineer certifies that the quality of service available to road users is in accordance with the concession agreement. This approach is essentially based on deferred payments by governments in place of tolls. In essence, these are construction and maintenance contracts, which hardly commercialise highway projects. Experts argue that this approach does not bring any additional resources, and is based on high-cost debt and equity, which are subsequently passed on to governments through annuity payments. Finally, under the SPV approach, the National Highway Authority of India (NHAI) or the government provides equity support to the project for leveraging public funds. Under the BOT scheme, the NHAI has undertaken 20 projects worth Rs 2,670 crore under toll-based schemes, Rs 2,354 crore under annuity, and Rs 1,798 crore under SPV. The new VGF concept in roads does not seem to fall under any of these schemes. Under toll-based BOT, the commercial risks lie with the private developer, while under VGF, it does not: if there is a shortfall between anticipated and actual revenues, the government will extend subsidy support. With suitable changes, the VGF concept may look like the toll-based BOT under which a one-time capital grant (linked with equity participation) could be given to the developer. However, in any case, the grant release should not be linked to the project?s physical performance, as being envisaged in paragraph 50 of the Budget speech. Under the annuity-based BOT, traffic risks are not borne by the private developer, who receives only deferred payments from the government over a fixed period. Finally, under the SPV category, NHAI puts up 30 to 40 per cent of the project cost as equity support, while under VGF there will be subsidy support based on different norms. Can an annual subsidy of Rs 2,000 crore attract Rs 40,000 crore from the private sector in roads? The Budget document assumes that during 2003-04, about 3,000 km of roads will be taken up for four-laning, which implies an investment of Rs 12,000 crore. Assuming the maximum level of subsidy at Rs 2,000 crore, it will call for an investment of Rs 10,000 crore from the private sector during 2003-04. Current experience shows that unless project preparations are at an advanced stage, such investment during the next fiscal will be difficult to attract. Some implementation issues: under the VGF concept, who will determine the level of annual subsidy to be given to a private developer, as this would require determining, on an annual basis, the current level of revenue as against the anticipated revenue? And what are ?prudent and reasonable? loan repayment obligations on the part of the developer? Should a policy-making body such as the ministry deal with such implementation issues? Second, how long should the government bear the subsidy? Continuing the subsidy during the entire period of the BOT contract would have an adverse fiscal impact. Third, where is the Budget provision for such subsidy during 2003-04? In sum, what we need at this stage is the clarity of the VGF concept.