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Vijay Kelkar Committee on PPP Reforms

 

What is a Public Private Partnership (PPP) model? And why have industry insiders declared it as broken even though India has 1200 such projects in operation (the largest number internationally for any economy) with a total investment of over Rs 7 lakh crores (US $ 100 billion)? And does it matter?

PPP defined

We really do not have a definitive peg to hang the definition of PPP on. This is where  the report of the Vijay Kelkar Committee on Revisiting and Revitalising PPP Model made public last week does salutary service. It presents a simple definition: "A PPP is a large project in which the government, or a subordinate authority of the government, has not more than a minority share; which provides a public good or service; which is operated for a defined time period - usually medium term - by a private firm, under a "concession", which defines contractual, mutually binding obligations and provides to the concessionaire a market-determined revenue stream to ensure commercially viability."

By proposing a definition, the report makes four important distinctions from what the practice is today.

First, it is high time India had a PPP policy duly presented to Parliament so that an appropriate regulatory regime could be specifically designed, possibly under a new legislation. The report is mindful of the current political economy, which has created an impasse in Parliament. This is why it recommends against an immediate resort to legislation to solve implementation problems, as has been the trend in recent times, albeit ineffectually. Second, a PPP is designed to combine the relative comparative advantages of public and private ownership. This design advantage is completely subverted when government uses a notional PPP route to set up a special purpose vehicle with a state owned enterprise (SOE), even if the latter is incorporated under the Companies Act. The report implicitly acknowledges, what is internationally accepted, that SOEs are just not as efficient or nimble as a private firm. Nor would they be able to pull-in the additionality of managerial experience and private investment, which is one of the main objectives of a PPP.

Third, not all instances of public-private joint investment are PPPs. A firm producing steel and set up with an assured buy-back arrangement from government would not be a PPP because steel is a private, and not a public good. This is how Tata Steel's Jamshedpur plant was set up way back in 1907. But what of units proposed to be set up for defence equipment, under the "make in India" route, on a similar basis? This remains unclear and hence the need for a policy.

Lastly, by specifying the need for a "market-determined" revenue stream and commercial viability, the report deftly strikes a three-in-one blow for transparency, competition and efficiency. All three are hallmarks of a successful PPP. Related body blows are struck against crony capitalism and gold-plating through the emphasis on long term, high quality service as a monitored output linked to the revenue stream, rather than just one-time payment for construction of an asset.

What needs to be fixed?

So what ails PPPs today? Industry pundits ascribe deep problems with the manner in which PPP projects are designed, bid-out, financed and implemented as key reasons for the logjam in private investment, along with an unfavorable international economic environment after the 2008 financial crisis.

Happily the report also acknowledges that the PPP ecosystem has come a long way from when it all began in the mid-1990s.

• There are now standardised documents for every stage of the procurement and contractual cycle, introducing transparency and predictability for investors. Development finance is also available under the India Infrastructure Project Development Fund to meet the significant transactions costs of doing a "good" PPP.

• An Appraisal Committee weeds out early flaws in PPP proposals.

• Financing of projects is supported by the India Infrastructure Finance Company.

• The Reserve Bank of India (RBI) has been continually adapting banking norms to facilitate PPP lending.

A great deal of capacity building has been done through training programmes, tool kits, outreach, pilot projects and structured exchange of learning along with real time support from PPP cells in state governments and at the centre.

So with all this under our belt, why did the PPP break?

First, the domination of public sector banks often results in less-than-sensible due diligence and risky lending for large, politically important PPP projects. The report has studied this aspect in some detail.  Banks must strictly not finance, and government must not bid out, projects till all clearances and authorisations have been received. 

The report suggests that "monetizing" the existing public assets can help by leasing out the operation and maintenance functions. Such O&M concessions require lower, initial private investments whilst providing the benefit of a robust revenue stream. Alternatively the government could front load the proportion of public financing in a PPP - an evolution of the existing viability gap funding - with the concessionaire repaying the enhanced government support over time through the revenue stream earned by it or "take out" financing from risk finance companies. 

Next, improved and time-bound dispute resolution systems can reduce regulatory delays. The report recommends that independent regulators could also help solve some disputes and oversee contract management. According to CRISIL, more than one-third of highway PPPs get stuck because actual revenue earnings from traffic are less those assumed in the bid documents. The expectation that independent regulation can solve commercial problems is not justified by the experience over the last two decades. With honourable exceptions (mostly at the central level) independent regulators tend to be handmaidens of the government of the day. Worse, they adopt a narrow bureaucratic, defensive approach to recognizing and working with private developers to resolve unforeseen business risks, which inevitably crop up.

The conundrum

Here, then, is the conundrum. India needs to invest 7 per cent of GDP in infrastructure. The only way out is to shrink the scope of direct ownership and management of public assets by letting the private sector have a larger share. The trick is to keep a close eye on the heightened macroeconomic and project risk the government would incur, should a more aggressive fiscal policy be followed.

Speeding up statutory clearances, improving dispute resolution mechanisms by rationalizing the risk incurred by government negotiators and decision makers of being unfairly fingered as being corrupt and, simultaneously, increasing accountability along the governance chain to also reduce petty corruption (which usually has a disproportionately higher fiscal impact).

The options

This report makes 49 key recommendations across the three pillars of institutional development, transparency and financing, all of which deserve careful consideration.

Two recommendations herald bold new beginnings in governance. First, removing the hanging sword of Damocles of government audit of a concessionaire's accounts, post the award of contract, subject, of course, to the highest standards of corporate governance being followed and the quality of service being maintained. This can substantially reduce risk for the private partner. Second, making concessions majority owned by government and SOEs ineligible for PPP benefits can contain "gaming" to avoid unfair capture of centrally-provided viability gap funding.

But four others reek of defensiveness and could be abandoned. First, banning the Swiss challenge option is unnecessarily conservative. Second, a 3PI (a PPP institute of excellence) is a public waste. Instead, facilitating a virtual network of academic and consulting talent in IIMs, National Law Schools and IITs could provide competitive, high quality learning and evidence based research at lower cost.

Third, the recommendation of avoiding small PPPs is regressive. At the heart of decentralization and local government are small infrastructure and social sector PPPs which provide local jobs and build local entrepreneurs. Simpler regulations for these projects work well without diluting accountability since the community oversees implementation closely.

Fourth, there are good reasons why PPPs need to be fast forwarded. But scaremongering that India could "grow old - lose the demographic dividend - before it becomes wealthy" is not one of them. 

• Panel on reviving PPP headed by Vijay Kelkar; has time till end-August to submit recommendations

• 3P India was announced by the finance minister in FY15 Budget as an advisory body/think-tank for PPP

• Officials say Cabinet never took up 3P India proposal last year

• Panel might say that setting 3P India will create much-needed infra advisory body

• Suggestions might also be on pitching India's PPP success stories across sectors

• Streamlined PPP model, better dispute mechanism to again attract private players

Though PPPs have delivered some of the iconic infrastructure like airports, ports and highways, which are seem as models for development globally, but the rigidities in contractual arrangements, the need to develop more nuanced and sophisticated models of contracting and develop quick dispute redressal. A mechanism is needed an institution to provide support to Mainstreaming PPPs called 3P India will be set up with a corpus of Rs 500 crore." At present, over 12,007 PPP projects are under implementation across the country, involving about 7.2 lakh crore rupees worth of investment. The committee was requested to look into measures to improve capacity building in the government for Effective implementation Of PPP projects, review of experience of PPP policy, analysis of risks Involved in such projects in different sectors and an existing  framework of sharing of such risks between project developers and  the government. A National Investment and Infrastructure Fund (NIIF), with a similar stake by the Centre, were notified but with the intention of funding projects rather than advising. The Kelkar panel, officially called the Committee on Revisiting & Revitalizing the PPP Model of Infrastructure Development, was tasked with reviewing PPP policy, analyzing the risks involved in PPP projects in different sectors and the existing framework of sharing of such risks, suggesting an optimal risk-sharing mechanism between private investors and the government, and suggesting measures to improve capacity building in government for effective implementation of the PPP projects. 

Funding would be a source of worry whether it is PPP or SCS. As it is, PPPs are responsible for the burgeoning NPAs of public sector banks with the debt equity ratio permitted being 7:3. The specialized infrastructure financing agencies like IDFC and IIFC also choose to lurk behind by asking banks to initiate financing preferring to step in when things are hunky dory which seldom is the case. 

The efforts to suggest a revitalization of PPP comes at a time when the government's focus is on increased public spending in infrastructure to boost economic growth, at a time of weakened corporate sector balance sheets. This year, the central government is likely to spend an additional Rs 70,000 crore in capital expenditure. In fact, the capital spending for the April-September 2015 could be the highest ever, when compared with similar periods in past financial year. 

 

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