The Union Budget 2023-24 has emphasised incentives to urban local bodies (ULBs) through property tax governance reforms and ring-fencing user charges on urban infrastructure. Ring-fencing is a legal or financial arrangement of separating the activities, assets and liabilities, revenues and costs associated with the functional unit as if it were to operate independently.
Municipalities currently function in a way that different functions overlap in such a manner that revenue and operational costs of different functions cannot be determined independently. However, by ringfencing the status of functions, one could tell much about the cost-effectiveness of operating and if municipal bodies are getting value for what they have put in.
For instance, water supply, which is a function of municipality upon which user charges are collected, could be ring-fenced to obtain accurate information about cost efficiency. This aims to improve credit worthiness of ULBs and help them raise funds through municipal bonds. Fiscal autonomy in the form of availability of funds as well as power to make financial decisions, is one of the core elements of effective decentralisation. Municipal bodies have been struggling long enough to build their capacities to raise finances.
Indian cities are experiencing a myriad of issues as a result of their fast urbanisation, including poor infrastructure, congestion and environmental damage. The RBI believes that the municipal bonds are a reliable source of funding for ULBs. A muchneeded secondary market for municipal bonds in India may arise as a result of efforts to list municipal bonds on stock exchanges. According to the World Bank report “Financing India’s Urban Infrastructure Needs: Constraints to Commercial Financing and Prospects for Policy Action, 2021”, India will require to invest $840 billion over the next 15 years into urban infrastructure to effectively meet the needs of its urban population.
The Union government on 11 January 2023 identified 35 municipal bodies in the country that can raise funds from the market by floating their bonds for infrastructure development. Currently, only those municipal bodies with “A” credit rating are able to access bonds which are based on the overall financial performance and there are many municipal bodies in the country which need to improve it.
The first step in raising funds from the markets by issuing municipal bonds is credit rating. Credit rating provides a reliable assessment of an instrument’s inherent risk. By highlighting this aspect in the budget 2023-24 and providing incentives to civic bodies for credit worthiness, many ULBs could access the market now to raise resources. Since the municipal bond market in India is still developing, credit rating can be crucial in luring in new investors. The Central government has previously included credit rating of Municipal Corporations in the reform agenda of the Smart Cities and AMRUT programme.
However, the untapped potential for bond financing by Indian cities was highlighted by the fact that of the 94 cities given credit ratings in 2018, only 59% obtained a rating of investment grade or above. The data from the past two decades also show that only major ULBs with strong technical capabilities can meet the standards of bond issuance. The initial cost of bond issuance is prohibitively expensive for India’s 200+ municipal corporations and many smaller ULBs. From the Finance Minister’s Budget speech 2023-24, it is evident that capacity building of ULBs has been envisioned by incentivising them to raise finances and be self-sufficient.
This kind of push from the central level would motivate the ULBs to step in to mobilise finances from the market, leading to more investment. Cities being the engines of growth have a huge role to play in paving the way towards India’s dream of achieving a $5 trillion economy. Improving the leveraging of resources by ULBs can be done by driving a programmatic effort to get the relatively capable cities to tap capital markets. Lizbeth Jibi Godwin is Associate, Research, at Centre for Public Policy Research, Kochi.
