POLITY

Municipal Bonds

Context:

● Recently, the Uttar Pradesh govt listed Lucknow municipal body bonds worth Rs 200 crore at the Bombay Stock Exchange.

● According to the Chief Minister’s Office (CMO), the Lucknow Municipal Corporation is the first civic body in north India to issue bonds, even as the process of issuing municipal bonds by civic bodies started in the country in 1997.

Probable Question:

What are the challenges faced by urban local bodies in the mobilisation of financial resources through Municipal Bonds? Suggest some measures to overcome it.

Key Points:

● Municipal bonds are debt securities issued by the government. It is a sort of credit card using which funds are raised. With the bonds, the civic body will raise money from the market for a fixed time and guarantees to return the principal amount along with interest.

● The Constitution (74th Amendment) Act, 1992 endows the Urban Local Bodies (ULBs) such powers, authority and responsibilities to function as institutions of self-government. The amendment empowers the ULBs to mobilize resources independent of the State Governments for the provision, operation and maintenance of urban services as listed in the twelfth schedule.

● The major sources of revenue to the ULBs are property tax, profession tax, advertisement, user charges, fees/charges for usage of municipal assets and facilities, assigned revenues like a share of entertainment tax, stamp duty etc., and devolution and grants-in-aid.

● Traditionally, ULBs have relied on the grants and subsidized funds provided by the Central and State governments for providing basic urban services. In addition, ULBs borrow funds from development financial institutions, multilateral and bilateral funding agencies, through the Central and State governments. ULBs are also entitled to borrow through the issuance of Municipal Bonds.

Need for Developing a Municipal Bond Framework in India:

● The huge scale of infrastructure development and up-gradation required to meet the growth aims at various levels (State/ Centre).

● Large scale urban migration exerts pressure to create new urban infrastructurewhile also maintaining/upgrading the existing facilities.

● Current sources of revenues in the form of Tax & Non-tax and Grants from state/ central government proves to be insufficient.

● The development of smart cities would entail substantial expenditure for the creation of urban infrastructure such as water supply, sanitation, public health, roads transportation etc. One of the principal concerns for such development of smaller towns into smart cities would be the source of financing.

● In developed countries, municipal bonds are a major source of funding for urban financing. Further, since infrastructure projects have long gestation periods, municipal bonds provide an effective way to match the structure of the asset-liability.

Due to the large investment required, access to the market by urban local bodies to raise funds has become both necessary and a feasible alternative in the future.

Constraints in the mobilisation of resources through municipal bonds:

● Ahmedabad Municipal Corporation was the first to make a public offering in 1998. Since 1998, local bodies in other cities like Nashik, Nagpur, Ludhiana, and Madurai have accessed the capital markets through municipal bonds. However, the share of municipal bonds in the total debt market is still insignificant, only 1% of urban bodies financial needs are met through municipal bonds as against 10% in the US.

● Direct access to capital markets has been feasible for only financially strong, large municipal corporations. One of the main challenges faced by most of the smaller urban bodies while accessing capital markets, is the low creditworthiness, on account of slow governance reforms, poor accounting standards and low institutional capabilities.

● Despite various initiatives such as tax incentives, Pooled Finance Development Scheme, the development of the municipal bond market has not been satisfactory.

● There have been various factors that have limited the growth of the municipal bond market but importantly it reflects the state of finances in these institutions. The following graph shows a comparison of municipal revenue as a percent of GDP across different nations. India lags even behind developing countries such as Mexico, South Africa that have a share of 7.4% and 6% respectively.

Way Forward:

Reforms in areas of tax, non-tax, governance, accounting standards are urgently required in urban local bodies to address the growing mismatch between responsibilities and the financial and institutional capabilities of these bodies.

● Enabling measures such as making all municipal bond issuances tax-free, making investments in municipal bonds by banks part of their priority sector lending and actively encouraging pension funds and insurance companies to participate in municipal bond issuances need to be put into place by respective regulators.

● Credit ratings can be assigned based on assets and liabilities of the cities, revenue streams, resources available for capital investments, accounting practices, and other governance practices. This practice can aid in raising finances for ULBs.

● Spaces like advertisement boards and parking areas can be utilised in a more efficient way. Furthermore, Value Capture Financing should also be explored by municipalities.