Municipal bonds a credible option for civic bodies to raise funds: RBI

The RBI in its report has said that the issuance of municipal bonds by civic bodies may ease out the funding required to ramp up infrastructure.

Key Points from the Report:

• According to the RBI report, the federal government is borrowing a record 14.3 trillion rupees ($176 billion) this fiscal year.
  • It is about a third of its expenditure.
  • Fundraising through bond sales is less than 10% of the municipal’s total borrowings.

About Municipal Bonds:

• A municipal bond (muni) is a debt security issued by a state, municipality, or county to finance its capital expenditures, including the construction of highways, bridges, or schools.
• Municipal bonds were first issued in India in 1997, five years after the 74^th Constitutional Amendment decentralized urban local bodies and gave them autonomy; made them accountable to citizens, and reformed their finances enabling them to access capital markets and financial institutions.
• The Securities and Exchange Board of India (SEBI)’s detailed guidelines for the issue and listing of municipal bonds in March 2015.
• Uses:
• Through muni bonds, a municipal corporation raises money from individuals or institutions and promises to pay a specified amount of interest, and returns the principal amount on a specific maturity date.
• These are mostly exempt from federal taxes and most state and local taxes, making them especially attractive to people in high-income tax brackets.

Need for an alternate mode of finance:

• Many of the civic bodies are financially weak and suffering from a resource crunch.
• There is also the need to ramp up infrastructure in cities.
• Local bodies in India are among the weakest globally, as they don’t have enough autonomy to:
  • levy taxes
  • grant exemptions
  • borrow funds
• It makes them dependent on bank loans or federal and state governments for resources.
• Municipal revenues are dominated by property tax collections and the devolution of taxes.

Suggestions by the Central Bank:

• Levying a tax on residents to pay bondholders
• Backing the bonds, by earnings from particular projects
• Working out a hybrid mechanism where revenues are used to service the debt.
• Pool Financing: Common bond is issued by several municipal bodies to keep costs in check.

Significance:

• There is robust investor appetite for municipal bonds.
• It can provide an avenue for civic bodies to access public funds
• It can create an alternative class of assets for investors
• It can further influx capital in India’s domestic debt market
• It can free civic bodies from relying on loans from the central and state governments and borrowing from banks and financial institutions
• It will provide more financial autonomy to the civic bodies

Benefits of the Municipal Bonds Market in India:

• Municipal Bonds can help the Urban Local Bodies (ULBs) to garner revenue to complete budgetary projects as property tax is the only major source of municipal revenue.
• The growth of the municipal bond market is critical for India’s large cities and towns to upgrade their creaking infrastructure.
• The ability of municipal bodies to be self-sustaining is also critical to the success of the Centre’s pet projects such as Smart Cities and Amru
  • Some developments were visible in the issuance of municipal bonds when Prime Minister Narendra Modi implemented various government programs aimed at building smart cities to upgrade water, sewer, and drainage infrastructure.
  • But it didn’t yield well as there are challenges around transparency and governance of local bodies.

Challenges:

• Reduced investor trust and confidence: Weak financial position and poor governance and management of city agencies have limited their ability to issue bonds, and reduced investor trust and confidence.
• No authentic financial data available: Investors have doubts about local bodies as there is no authentic financial data available.
• The volatility of local markets: Experts have concerns that Foreign inflows of funds will increase the volatility of local markets.
• Other Issues: Low accountability and autonomy of city agencies followed by a lack of an enabling environment.