Project appraisal and follow-up capabilities of many banks, particularly public sector banks, need focused attention and upgradation so that project viability can be properly evaluated and risk mitigants provided where needed, said Mr H.R. Khan, Deputy Governor, Reserve Bank of India.
“Infrastructure projects involve huge financing requirements, most of which are met by banks and other financial institutions directly and indirectly. Thus, it is very important to make the project commercially viable to ensure regular servicing of the loan.
“This will lead to sustainable development of infrastructure without jeopardising the soundness of the financial sector,” said Mr Khan in his address at the Diamond Jubilee International Conference on Frontiers of Infrastructure Finance 2011 at the Indian Institute of Technology, Kharagpur.
Corporate Bond Market
A vibrant corporate bond market will reduce the dependence on the banking sector for funds. Further, coordinated regulatory initiatives could be considered in the areas involving standardisation of stamp duties on corporate bonds across the States, encouraging public issuance and bringing in institutional investors in a big way, said Mr Khan.
He felt that it is important to broad base the investor base by bringing in new classes of institutional investors (such as insurance companies, pension funds, provident funds, and so on) apart from banks into this market.
“We also need to reorient the investment guidelines of institutional investors like insurance companies, and provident funds since the existing mandates of most of these institutions do not permit large investment in corporate bonds.
“As of now, the insurance and pension funds are legally required to invest a substantial proportion of their funds in Government Securities. These investment requirements limit their ability to invest in infrastructure bonds. Further, they can only invest in a blue chip stock, which is also acting as a limiting factor since most of the special purpose vehicles created for infrastructure funding are unlisted entities,” explained Mr Khan.
There is a need to create depth, liquidity and vibrancy in the Government Security and corporate bond market so as to enable raising of finance and reduce dependence on the banking system.
At the same time, there is a need to widen the investor base and offer adequate risk mitigating financial products, such as, credit default swaps.
Credit Enhancement
One of the major obstacles in attracting foreign debt capital for infrastructure is the sovereign credit rating ceiling. Domestic investors are also inhibited due to high level of credit risk perception, particularly in the absence of sound bankruptcy framework.
The Deputy Governor said a credit enhancement mechanism can possibly bridge the rating gap between the investment norms, risk perceptions and actual ratings. Ideally, the credit enhancement should not be provided by the banks as they are already over-exposed to the sector.
Further, such bank-based backup facility will not lead to genuine development of corporate bond market.
“We need to think creatively of other mechanisms (for credit enhancement) involving national or supranational support,” he said.