IAS Score

Sources of Urban finance

India’s urban population has grown by 32% from 2001 to 2011 as compared to 18% growth in total population of the country.

With increasing urban population, the need for providing better infrastructure and services in cities is increasing. The government has introduced several schemes to address different urban issues.

However there is a issue of finance related to it. For example, under the Smart Cities Mission, the total cost of projects proposed by the 60 smart cities (winners from the earlier rounds) is Rs 1.3 lakh crore. About 42% of this amount will come from central and state funding towards the Mission, and the rest will be raised by the cities.

Thus government has proposed different sources for urban finance such as:

Value Capture Financing (VCF): VCF is a principle that states that people benefiting from public investments in infrastructure should pay for it. Currently when governments invest in roads, airports and industries in an area, private property owners in that area benefit from it. However, governments recover only a limited value from such investments, constraining their ability to make further public investments elsewhere. VCF helps in capturing a part of the increment in the value of land due to such investments, and use it to fund new infrastructure projects.

Municipal bonds: Municipal bonds are bonds issued by urban local bodies (municipal corporations or entities owned by municipal bodies) to raise money for financing specific projects such as infrastructure projects. The Securities and Exchange Board of India regulations (2015) regarding municipal bonds provide that, to issue such bonds, municipalities must: (i) not have negative net worth in any of the three preceding financial years, and (ii) not have defaulted in any loan repayments in the last one year. Therefore, a city’s performance in the bond market depends on its fiscal performance. One of the ways to determine a city’s financial health is through credit ratings.

Credit rating of cities: In September 2016, the Ministry of Urban Development started assigning cities with credit ratings. These credit ratings were assigned based on assets and liabilities of the cities, revenue streams, resources available for capital investments, accounting practices, and other governance practices.

Of the total 20 ratings ranging from AAA to D, BBB– is the ‘Investment Grade’ rating and cities rated below BBB– need to undertake necessary interventions to improve their ratings for obtaining positive response to the Municipal Bonds to be issued. By March 2017, 94 cities were assigned credit ratings, 55 of which got ‘investment grade’ ratings.

Credit ratings indicate what projects might be more lucrative for investments. This, in turn, helps investors decide where to invest and determine the terms of such investments (based on the expected returns).

Practice question:

1. The credit ratings of cities are based on which of the following parameters?
1. Assets and liabilities of the cities
2. Resources available for capital investments
3. Double Entry Accounting practice


a) 1 and 3

b) Only 1

c) 1 and 2

d) All

Ans: d
Exp: Credit Ratings are assigned based on assets and liabilities of Urban Local Bodies, revenue streams, resources available for capital investments, Double Entry Accounting practice and other governance practices. Besides the Credit Rating of Urban Local Bodies, ratings for individual projects for which resources are to bemobilised through Municipal Bonds would have a bearing on the response to such bonds.

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