In her Budget speech for 2021-22, the Finance Minister (FM), Nirmala Sitharaman had proposed setting up of a new Development Financial Institution (DFI) termed the National Bank for Financing Infrastructure and Development (NaBFID). In the following month, it passed a bill to establish the NaBFID, its objective being “to coordinate with the central and state governments, regulators, financial institutions (FIs), institutional investors and other relevant stakeholders, in India or outside India, to facilitate building and improving the relevant institutions to support the development of long-term non-recourse infrastructure financing in India including the domestic bonds and derivatives markets”.
The NaBFID will also be involved “in lending or investing, directly or indirectly, and seek to attract investments from private sector investors and institutional investors, in infrastructure projects located in or outside India”. It will also help provide financing options for projects under much trumpeted the National Infrastructure Pipeline (NIP). Under NIP, the Union Government has identified over 7000 projects in all crucial sectors such as roads, highways, railways, ports, power transmission lines, gas pipelines and so requiring investment of over Rs 100 lakh crore over five years.
The Government will infuse Rs 20,000 crore in NaBFID as budgetary support which will be leveraged to generate a financing capability of over Rs 3,00,000 crore. This is peanuts when compared to the mammoth requirement of around Rs 90 lakh crore (excluding about Rs 10 lakh crore: Rs 439,000 crore spent during 2020-21 plus planned spending of Rs. 554,000 crore for 2021-22). But, the moot question is whether the new DFI is a sustainable proposition?
This is not the first time that the idea of DFI has been floated. The first such institution namely Industrial Finance Corporation of India (IFCI) was set up in 1948, followed by Industrial Development Bank of India (IDBI) in 1964. In the private sector, the Industrial Credit and Investment Corporation of India (ICICI) was set up in 1955. This was in sync with the global trend in Europe, Japan, the US, other Asian countries where DFIs were set up primarily to rebuild infrastructure devastated by World War II. After the task was completed, those institutions were wound up.
In India, how far these institutions (read: IDBI/IFCI) helped in building infrastructure is debatable. However, one thing is abundantly clear. They became a drain on the national exchequer through a variety of supports such as Government guarantees, capital commitments including from the Reserve Bank of India (RBI) along with direct and indirect financing by the latter to meet their needs.
In the 90s, the Narasimham/Khan committees recommended – as part of the financial reforms package – their gradual phase out; they were either required to transform into banks or close if any couldn’t. They also recommended development of domestic bonds and derivatives markets to galvanize investors deploy their savings for long-term financing infrastructure projects.
As a follow up, the then Vajpayee Government converted IDBI into a commercial bank in 2003. The promoters of ICICI did this much earlier in 1994 by converting the institution into ICICI Bank. However, the other most crucial recommendation remained unattended. In the absence of sustainable arrangements for channelizing household savings for long-term investment (banks’ source of capital is primarily short-term deposits resulting in what is termed as asset-liability mismatch), currently, much of infrastructure financing is done by Government of India (GOI) by way of budgetary support.
The GOI in turn, raises resources – albeit for providing budgetary support – by imposing cesses, fees and other levies such as Central Road and Infrastructure Fund (CRIF), Permanent Bridge Fees Fund (PBFF) and monetization of the National Highways Fund (NHF). For instance, during 2020-21, out of Rs 42,500 crore allocated to the National Highways Authority of India (NHAI) – the implementing agency – for executing roads and highways projects, the contribution of the mentioned Funds was 49%, 27% and 24% respectively.
In this backdrop, and the present arrangement meeting only a small portion of the mammoth funding needs (Rs 100 lakh crore under the NIP), setting up of dedicated institutions such as NaBFID prima facie appears to be an attractive proposition. In fact, Modi – Government wants to use NaBFID as an anchor DFI – call it the ‘mother’ of a number of such institutions.
To begin with, NaBFID will be 100% owned by the Union Government with equity capital coming by way of budgetary support. Over a period of time, the latter will reduce its shareholding to 26% implying that majority ownership and control (albeit 74%) will eventually be in private hands. It would be a professionally-run body, with only the Government appointing the Chairperson.
The proposed structure of the new DFI points towards the Government going for a hands-off approach as the Act does not provide for an oversight mechanism; it will be free from all the three C’s viz. the Central Bureau of Investigation (CBI), the Central Vigilance Commission (CVC) and the Comptroller and Auditor General of India (CAG). In fact, it goes a step forward by seeking to protect the management for the decisions taken as an “act of good faith”. Up to this point, things are hunky dory.
However, problems begin to creep when we look at this: “The Act empowers the GOI to extend sovereign guarantee in case of a default”. The guarantees cover a wide-range viz. any liabilities of its own subsidiaries, joint ventures, branches and other similar arrangements; letters of comfort, or letters of credit for loans/credit arrangements or debentures/bonds issued by any DFI funding infrastructure projects in India; and guarantee of NaBFID’s bonds, debentures, loans and borrowings from multilateral institutions, sovereign wealth funds (SWFs), and other foreign institutions.
To bail out an entity majority owned and controlled by private parties using tax payers’ funds is a bad idea. Furthermore, to do this when the Government is not even exercising any external oversight makes it abhorrent. FM’s defense that ‘an audited report would be placed in Parliament every year besides NaBFID having to furnish to the GOI and the RBI a copy of its balance-sheet and accounts, together with a copy of the auditor’s report and a report of its working during the relevant year, within four months from the date on which its accounts were closed and balanced’ does not inspire.
One shudders to fathom the contingent liabilities emanating from the above open ended guarantees provided under the Act and their impact on fiscal deficit (FD). Already, the FD for 2021-22 is put at 6.8% of the GDP (gross domestic product) which is almost double of what is permitted under the Fiscal Responsibility and Budget Management (FRBM). For 2025-26, Sitharaman puts it at 4.5%. The NaBFID Act would result in spiraling of these numbers.
Team Modi needs to take a relook at the ‘sovereign guarantee’ clause in the NaBFID Act. It should be deleted. As for giving comfort to investors, if only project proponents can generate the desired cash flows (this would require transparency and efficiency in project execution, simplified processes, enforcement of contracts, freedom from bureaucratic red tape and above all, realistic pricing of services shorn of populism), this will be automatically assured.
On the other hand, if these prerequisites are lacking resulting in shortfall in cash flows then, even offer of sovereign guarantee won’t provide much comfort even as NaBFID too will end being a drain on the exchequer just as the erstwhile IDBI.