Sector report: the $475bn opportunity

Sector report: the $475bn opportunity

India requires nearly $500 billion of new infrastructure.  Anahita Patell and Luis Miranda of IDFC Private Equity consider the challenges involved in delivering it.


India has always been regarded as a land of contradictions and the country’s infrastructure is no exception. Modern cities boast world-class buildings that do not have adequate power; many of these urban centres face a lack of water supply and communities have little or no access to education facilities. The cost of building India’s infrastructure currently stands at over $475 billion.1  Everyone including the government agrees that India’s neglected infrastructure has become the greatest challenge for this fast-developing economy.

Making up for long-term neglect

Going back in time, since the onset of economic planning in 1950, the public sector has had a virtual monopoly over the provision of infrastructure facilities in India. A stringent regulatory regime, the dominance of public sector undertakings and the subsidising of facilities and services have hindered private sector investments in this space. Investment in infrastructure peaked at about 6 percent of gross domestic product (GDP) in 1990. However, the financial crisis in 1991, which introduced key reforms in the Indian economy, brought about a phase of decline in infrastructure investments. The restrictions by the International Monetary Fund (IMF) curtailed public investment in infrastructure and the private sector was not willing to step up to the plate. Political considerations in setting user fees, the imposition of social obligations in public sector undertakings, inadequate funding, the neglect of operations and maintenance and the lack of competition led Indian infrastructure into a period of oblivion. By 2003, investment in infrastructure was a meagre 3.3 percent of GDP.

After 2003, the Indian economy moved on to a growth trajectory. With GDP growth of 7–8 percent in calendar years 2004 and 2005, and acceleration to 9 percent in 2006 and 2007, 2 infrastructure began to show the effects of a decade of neglect. Consequently, every subsector of infrastructure requires substantial investments including roads, ports, airports, power, education, healthcare, railways, water and sanitation. The current state of infrastructure is estimated to cost India 1.5–2 percent of GDP annually.3

The 11th Five-Year Plan projects a 9 percent annual GDP growth rate, and for this growth to materialise, investments in infrastructure will also need to increase by up to 9 percent of GDP. The government has realised that it cannot fund the enormous investment requirement in infrastructure with budgetary resources alone. While direct government investment will continue, it will increasingly stand alongside or even take a backseat to private investments. At least 30 percent of the investment requirement under the 11th Five-Year Plan is envisaged to come from the private sector.

The government has introduced policies facilitating private investment such as 100 percent foreign direct investment (FDI) under the automatic route, that is, without prior approval of the Foreign Investment Promotion Board (FIPB) and the Ministry of Finance. The industries covered comprise power generation, transmission and distribution, telecoms equipment manufacturing, roads, airports, petroleum and natural gas. Several sectors which were hitherto monopolised by public sector enterprises, such as telecoms, ports and airports, have been opened up for private players.

Judging by the success of the mobile telecommunications sector in India, the fastest-growing mobile telecoms market in the world, the government has taken steps in the right direction. A key driver for the privatisation of infrastructure services has been the growing acceptance among consumers to pay for better services. GDP growth has brought about an increase in household incomes and in turn an increase in the propensity to pay for better infrastructure. The success of road concession projects through recoveries from toll charges and the recent new airports at Bangalore and Hyderabad through the ‘User Development Fee’ have shown that the Indian consumer has matured and is willing to pay for better facilities. Building on this success, more sectors have attracted private investment and operations.

Fortunately, even though funding India’s enormous infrastructure is a formidable task, it is not an impossible task. Unlike five years ago, the availability of capital for India’s infrastructure is no longer facing a bottleneck. Indian infrastructure funds have become commonplace in the country’s investment industry. In fact, both domestic and international financiers are queuing up to be a part of the growth story as India opens up its infrastructure sector. A combination of high economic growth rates, an enormous domestic market and a consumption-led economy has powered
India’s growth and has attracted international players in the infrastructure space – both as developers and as investors. According to India’s finance ministry, commitments to Indian infrastructure projects with private participation in 2006 were around double that of Brazil and China, making India the leader among countries with middle and low incomes.

Sustaining the long-term growth in infrastructure and the flow of investment hinges largely on the policy and regulatory environment. A regulatory environment conducive to investment is being put into place by the government for several sectors, increasing the attractiveness of private investment in infrastructure. These legislative and regulatory initiatives are starting to pave the way for greater private sector involvement with international players in particular showing keen interest. The development of the Indian port sector presents a good example of how regulatory changes have promoted private participation.

The challenges abound

Although the mobilisation of financial resources is critical for the successful implementation of infrastructure projects, the present concerns are more non-financial in nature. One area that needs urgent attention is the shortage of ‘bankable’ projects. There needs to be clearly articulated projects defined in a way that private sector players can immediately start executing.

The government is addressing this through capacity building programmes through the public private partnership (PPP) route and by introducing a ‘Viability Gap Funding’ scheme. The Committee on Infrastructure (CoI) was constituted in August 2004 under the chairmanship of the Prime Minister to develop structures that maximise the role of PPPs in infrastructure, suggest institutional, regulatory and procedural reforms and identify measures to refine project formulation, project planning and project management among several other objectives. A holistic approach to infrastructure development has to be incorporated among cross-sector agencies. A striking example, to this effect, is the new airport at Bangalore which was ready but could not start commercial operations for some time since there was no road connection between the airport and the city. Autonomous regulators are being proposed in more infrastructure sectors such as airports and coal. This would give confidence to the private sector developers and financers regarding the availability of fair dispute resolution mechanisms.

One of the key issues faced by the industry today is the lack of appropriately skilled manpower. The commonly held perception that India has a favourable demographic profile – half the population is under the age of 25 and there will be 550 million teenagers by 2015 who will drive future growth – is not completely true. A study by the staffing company TeamLease Services estimated that 57 percent of Indian youth is simply unemployable because they lack adequate skills. This is a shocking statistic.

Efforts to increase the presence of relevant education and vocational training in India across its 1.2 billion population are lagging behind by a mammoth scale. It is no secret that India needs to make its economic growth more equitable. But it is not only about equitable distribution of wealth – it is also, more importantly, about equitable distribution of infrastructure and educational opportunities. Time and again, at seminars and forums, industry participants have expressed the urgent need to provide education and skills training to India’s expanding workforce and to create millions of jobs necessary to allow them to be productive and contribute to inclusive growth. A growing discontentment among the have-nots would derail the Indian economy.

Land has emerged as a major constraint in infrastructure development and land acquisition has become a contentious issue. Demonstrations in Singur and Nandigram have highlighted the need to implement and put into operation transparent mechanisms for the transfer of land. The encouraging news is that a National Rehabilitation and Resettlement Policy (R&R Policy, 2007), has been put in place which takes a broader view of compensation than the Land Acquisition Act (1894). It not only deals with monetary compensation but also addresses livelihood issues and provides for a grievance procedure. Although the availability of capital is not a constraint for India’s infrastructure today, the availability of the right type of capital to mitigate risks is necessary. In this regard, India needs to have a vibrant debt market to provide infrastructure projects, characterised by long-term tenures of 15 to 25 years. However, banks and financial institutions are unable to lend debt beyond eight to ten years due to asset liability mismatches.

Consequently, projects must be refinanced which makes the estimation of project cash flows and project returns difficult. Restrictions on the quantum and use of External Commercial Borrowings (ECBs), that is, foreign debt, also limit the available debt alternatives. The government needs to develop the corporate bond market in India to facilitate a more efficient financing of infrastructure projects. The government is also considering the idea of using part of the country’s foreign exchange reserves, estimated at $305 billion 4 for infrastructure financing.

A longer version of this article was published in Investing in Infrastructure, a book published by PEI Media in 2009. For details, visit

1 Report of the Committee on Infrastructure Financing – May 2007.
2 Source: Planning Commission, Annual Report 2007–08.
3 IVCJ Journal 2006–07.
4 Reserve Bank of India website – Reserves as on 1 August 2008.