PPPs: Partnerships for prosperity

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Are PPPs the Panacea to India's Infrastructure Woes?

THIS WEEK: Are Public Private Partnership projects the panacea to India's infrastructure woes?

INTRODUCTION: Public Private Partnership (PPP) projects in India have come a long way since the first wave of liberalization in 1991. Today, it is hard to imagine a major project being taken up in any of the key infrastructure sectors – be it highway construction, port expansion, airport modernization, E-Governance or capacity building in our power grid – without the involvement of the private sector. With the burgeoning demands of a rapidly growing economy that has historically underinvested in its social and physical infrastructure, it is likely that we are only going to see an acceleration of this trend. Proponents have argued that the country has benefited from the private sector's efficiency, technical knowhow and access to capital from global markets. But are PPP projects the panacea to India's infrastructure woes? Critics have argued that badly crafted contracts, misaligned incentives and hastily taken decisions on project revisions mean that the taxpayers overpay for the services, bear disproportionate downside project risk and give away super normal profits to private players. We examine some of the nuances of this critical element of our economy which can underpin the success or failure of the next wave of our country's economic growth.

ARJUN GUHA: Partnerships for Equitable Prosperity

Public Private Partnerships (PPPs) will remain an important engine of growth for multiple sectors and will enable strong economic progress in India over the next several years. PPPs utilize public assets by leasing them to the private sector through a time-bound and limited concession intended to provide a public service to citizens. Engaging the private sector to provide a public service brings with itself a wide array of technical expertise, access to different sources of capital, appropriate sharing of risk and cost efficiency in addition to the proliferation of best practices in project design, construction and operation.

Arjun Guha

A comprehensive infrastructure study, sponsored by the Australian government, has shown that on average, significant cost overruns and completion delays are perceived in only 24% of PPP projects compared to 73% of public sector projects. Although this report is not completely applicable to the Indian context, the fundamental reasons behind the improvement in efficiency should be understood. One reason for the stark difference in performance is that the risks of cost overruns and completion delays are borne largely by the private sector parties who are much more cognizant of their bottom line.

The private financing of infrastructure projects in the form of debt or equity brings with it increased scrutiny of project execution as well as performance based project financing. The resulting system aligns the goals and incentives of the government, the concessionaire as well as the financier in terms of the service to be provided and the minimum standard at which it must be provided. This system has the propensity to serve as a self enforcing loop in which inappropriate actions are corrected promptly. In effect, the private sector partner who traditionally profited from cost overruns can now be hurt by overruns under the contractual framework that the PPP system enables.

Keynesian economics says the best way out of a recession is a government-led fiscal expansionary policy. Part of the fiscal stimulus of 2008-09 included additional allowances for PPPs to support the tenements of the Eleventh Five Year Plan (2007-12) "towards faster and more inclusive economic growth." However, having entered into 2010, Indian PPPs may be impacted by a possible reduction in viability gap funding as the finance minister designs the union budget to adhere to the goals of the FRBM Act of 2005.

The expectable manifestation of a fiscal pullback will be shrinkage in the viability gap of subsequent PPPs and an increase in projects which are closer to financial self sufficiency. Undoubtedly, this reduction in government subsidy will force project sponsors to realise revenue through tolls and usage charges. There is significant opposition to the concept of charging citizens for the use of a national asset; however, the alternative to usage charges would be to not provide the service at all, or to raise tax rates, impacting even the non users of the service rendered.

The PPP model enables a significantly more efficient use of national resources due to its inherent nature of bringing in the private sector into a collaborative, shared incentive driven relationship compared to a traditional contract agreement. If the government were to initiate a public service project like an overpass network with the traditional model of private contracting, it is quite possible that the project may get held up if a political party with tangential development and budget goals comes into power. In a PPP, the private sector and citizens' interests can be sufficiently protected from such eventualities by contractual robustness, commercial insurance against such risks and the presence of a dedicated public sector task force to ensure continuity.

Historical data compiled by the Australian study shows that a growing majority of PPPs has benefited the higher economic strata of populations much more than the disadvantaged. Looking ahead into the role of PPPs towards India's inclusive growth plans, we will see PPP projects with greater financial viability being concentrated in urban centers of development where users have the capability and willingness to pay for services rendered. On the other hand, projects which serve economically disadvantaged communities will need government subsidy for the foreseeable future on our path to becoming a robust, sectorally diversified economy.