The Hindu Business Line : Funding infrastructure

ANY LIST OF hurdles to the country's economic growth is sure to have poor infrastructure at the top. This is especially true of the transport sector. If ports are to be de-congested, proper roads laid and the large but rickety rail network brought on track, the country must invest considerably and quickly too. But with the fiscal deficit hovering at around 10 per cent of GDP (counting those of the Central and State governments), and committed expenditure — on salaries and pensions, subsidies, Defence and interest payments — hard to cut, the question is where the money is going to come from. The Finance Minister, Mr P. Chidambaram, may have a solution. His Budget for 2005-06 proposes a special purpose vehicle (SPV) to implement infrastructure projects that are financially viable but face difficulties in raising resources. The Finance Ministerwants to draw on the foreign exchange reserves, especially for project imports.

Not new, this idea was mooted a few months ago by the Planning Commission Deputy Chairman, Mr Montek Singh Ahluwalia, who suggested that $5 billion a year be drawn from the foreign exchange reserves for the next two-three years and spent on reducing the wide infrastructure deficit. With the country's robust foreign exchange reserves position, the idea is obviously attractive. For a government in a political bind, a healthy foreign currency reserve is like a pot of gold and there will always be the temptation to draw from it through elegantly crafted schemes. If the assets to be acquired for a project are to be paid for in foreign exchange then the adverse impact on the domestic economy is minimal; as the Finance Minister explains, the rupee component of the foreign exchange accumulated has anyway already entered into the system. Again, it certainly helps if funds are earmarked for well-identified projects with proper monitoring and high return.

But that does not mean there are no concerns. First, the foreign exchange reserve, though impressive, has elements of vulnerability. Some of the increase in the reserve has been the result of increased flows in portfolio investments and short-term debt. According to one estimate, only a fifth is made up of foreign direct investment, the more stable source of such reserve accretion. Which means the country is vulnerable to sudden shifts in investor preferences. Second, what happens if the size of the project is large — for example, building a highway — but the foreign exchange component constitutes only a small portion of the total cost? The mechanism of the special purpose vehicle is only a device to get around the problem of higher fiscal deficit, as the debt component of the project would not reflect in government borrowings. If the project delivers on its promise of returns and in good time, the government may still extricate itself out of a tight fiscal situation.

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