Eight Lessons From Developed And Developing Economies That Highlight The Need For A Development Finance Institution

Union Finance Minister Nirmala Sitharaman announced the setting up of a development finance institution (DFI) today (1 February) to fund infrastructure projects.

This DFI would have a funding of Rs 5 lakh crore over three years initially.

In July last year, writing for Swarajya, IAS officer Gulzar Natarajan had argued for such a DFI itself.

According to Natarajan, the conventional wisdom that PPPs and private investments will be able to do the heavy lifting for the infrastructure sector is not borne out by experience of other countries.

Designing policies in this pursuit, oblivious of the reality, he says, is unlikely to get us much far in mobilising infrastructure to power the country’s economic growth.

In this regard, he offers eight important takeaways from the global experience of private participation in infrastructure and its financing from both developed and developing countries:

One, only certain types of infrastructure assets are commercially viable and attractive enough for private investors.

Two, many categories of infrastructure assets need public finance to de-risk and make them commercially attractive.

Three, infrastructure projects in general are characterised by significant delays and cost over-runs as well as renegotiations which end up generally benefiting private providers.

Four, there is no evidence that, in general, private sector delivers greater value for money than public sector in the construction and management of infrastructure assets.

Five, long-term infrastructure contracts are characterised by several problems – cutting corners on quality, skimping on investment obligations, asset-stripping, excessive dividend payouts etc.

Six, infrastructure finance is increasingly characterised by the separation of asset ownership and its management, and constant changes in ownership, both of which pose problems of accountability and perverse incentives.

Seven, the pool of long-term finance available, from both domestic and foreign sources, to invest in infrastructure is much limited than what is widely believed.

Finally, eight, the endeavour of public policy should be not to expand the envelope of available finance, but the envelope of infrastructure assets which can be de-risked and made commercially viable enough.

These lessons imply, as per Natarajan, that that public finance, direct and indirect, will have to be the major source of infrastructure financing and governments should bear a large share of the project risks for many categories of assets, and that the private sector should be leveraged only as an instrumentality to deliver public goods.

It is here that the importance of a DFI comes in.

Also read: Infrastructure push: Why India needs a new development finance institution