What is an investment?
Investment can be defined as “A process of putting money in assets for increasing production or financial gains“. Investment is all about putting money in assets. And, the investment models speak about how to put the money into assets.
The relation between Investment and GDP
GDP, the measure of national income is given by the formula:
GDP = C + I + G + NX
where C is the consumption expenditure, G is government spending, and NX is net exports, given by the difference between the exports and imports, X − M. Thus investment, ‘I’ is everything that remains of total expenditure after consumption, government spending, and net exports are subtracted (i.e. I = GDP − C − G − NX). [I correspond to gross investment.]
Factors affecting Investment :
Investment is a function of Income and Rate of Interest [I=f(Y,r)]. Higher the income, the more will be the investment; higher the rate of interest the lesser will be the investment.
More Income->More Savings->More Investment->More Income.
No investment->No Growth->Poverty, Malnutrition, Unemployment etc.
Types of Investment models :
- Public Investment Model: For a government to invest, it needs revenue (mainly tax revenue), but the present tax revenues of India are not sufficient enough to meet the budgetary expenditure of India. So India cannot move ahead on the path of growth without private individuals; even for government to have a share in the investment, they need tax revenue from the private investors.
- Private Investment Model: The private investment can come from India or abroad. If it’s from abroad – they can be as FDI or FPI. As India’s Current Account Deficit is widening due to increased Oil Import, in this age of globalization, we cannot say no to FDI or FPI.
Why private investment in India?
For a country to grow and increase its income, the production has to be increased. More goods and services have to be produced. Infrastructure to support production – transport, energy, and communication – should also be developed.
- Public-Private Partnership Model: PPP means combining the best benefit from both public and private investments. Some of the Project Finance Schemes are as below:
- BOT (build–operate–transfer).
- BOOT (build–own–operate–transfer).
- BOO (build–own–operate).
- BLT (build–lease–transfer).
- DBFO (design–build–finance–operate).
- DBOT (design–build–operate–transfer).
- DCMF (design–construct–manage–finance).
Again, depending on where investment comes, there are two other investment models.
Domestic Investment Model – It can be from Public, Private or PPP.
Foreign Investment Model – It can be 100% FDI or Foreign-Domestic Mix.
And, depending on where the investment goes, or how investments are planned, there are various investment models such as
Sector Specific Investment Models (In SEZ or MIZ etc).
Cluster Investment Model (E.g. : Food Processing Industries.)
Different Models of Investment and Planning related to India :
- Harrod Domar Model: The model implies that economic growth depends on policies to increase investment, by increasing saving, and using that investment more efficiently through technological advances. It suggests that there is no natural reason for an economy to have balanced growth. It was more or less a One-Sector Model. —>Failed to attract investment on consumer goods in India as we lacked good capital goods industries.
- Solow Swan Model: The neo-classical model was an extension to the 1946 Harrod – Domar model that included a new term: productivity growth.
- Feldman–Mahalanobis Model: A high enough capacity in the capital goods sector in the long-run expands the capacity in the production of consumer goods. Thus the essence of the model is a shift in the pattern of industrial investment towards building up a domestic consumption goods sector. It was a Two-Sector Model which was later developed into a Four Sector Model. Also known as the Nehru-Mahalanobis model.
- Rao Manmohan Model: Policy of Economic Liberalization and FDI initiated in 1991 by Narasimha Rao and Dr. Manmohan Singh.
- Lewis model of economic development by unlimited labor supply.
- Induced Investment Model.
- Leverage Investment Model.
- Saving led growth model. — Significance to India.
- Demand-led growth model.
- Consumption led growth model.
Factors affecting Investment Sentiments :
- Savings Rate.
- Tax Rate in the country. (Net income available after tax).
- The rate of Interest in Banks.
- Possible Rate of Return on Capital.
- Availability of other factors of production – cheap land, labor etc and supporting infrastructure – transport, energy, and communication.
- Market size and stability.
- Investment friendly environment in the country (policies of the government).
The government of India Initiatives for Revamping of PPP Models :
Viability Gap Funding (VGF): Means a grant one-time or deferred, provided to support infrastructure projects that are economically justified but fall short of financial viability. The lack of financial viability usually arises from long gestation periods and the inability to increase user charges to commercial levels. Infrastructure projects also involve externalities that are not adequately captured in direct financial returns to the project sponsor. Through the provision of a catalytic grant assistance of the capital costs, several projects may become bankable and help mobilize private investment in infrastructure.
The government of India has notified a scheme for Viability Gap Funding to infrastructure projects that are to be undertaken through Public-Private Partnerships. It will be a Plan Scheme to be administered by the Ministry of Finance with suitable budgetary provisions to be made in the Annual Plans on a year-to-year basis.
The quantum of VGF provided under this scheme is in the form of a capital grant at the stage of project construction. The amount of VGF will be equivalent to the lowest bid for the capital subsidy, but subject to a maximum of 20% of the total project cost. In case the sponsoring Ministry/State Government/ statutory entity proposes to provide any assistance over and above the said VGF, it will be restricted to a further 20% of the total project cost.
Support under this scheme is available only for infrastructure projects where private sector sponsors are selected through a process of competitive bidding. The project agreements must also adhere to best practices that would secure value for public money and safeguard user interests. The lead financial institution for the project is responsible for regular monitoring and periodic evaluation of project compliance with agreed milestones and performance levels, particularly for the purpose of grant disbursement. VGF is disbursed only after the private sector company has subscribed and expended the equity contribution required for the project.
India Infrastructure Finance Company Limited.
IIFCL was set up in 2006 to provide long-term debt for infrastructure projects. Infrastructure projects are typically long gestation projects and require debt of longer maturity. The provision of long-term funds from commercial banks is restricted due to their asset-liability mismatch. IIFCL tries to address the above constraints in long-term debt financing of infrastructure.
IIFCL provides financial assistance to commercially viable projects, which includes projects implemented by a public sector company; a private sector company; or a private sector company selected under a Public Private Partnership (PPP) initiative. Priority is given to those PPP projects awarded to private companies, which are selected through a competitive bidding process.
Only projects pertaining to the following sectors are eligible for financing from IIFCL:
- Road and bridges, railways, seaports, airports, inland waterways and other transportation projects;
- Urban transport, water supply, sewage, solid waste management and other physical infrastructure in urban areas;
- Gas pipelines;
- Infrastructure projects in Special Economic Zones;
- International convention centers and other tourism infrastructure projects;
- Cold storage chains;
- Fertilizer Manufacturing Industry
IIFCL raises funds from domestic as well as external markets on the strength of government guarantees. The mode of lending is either long-term debt; refinance to banks and financial institutions for loans granted by them to infrastructure companies; takes out finance; subordinate debt and any other mode approved by Government from time to time. The total lending by IIFCL is limited to 20% of the Total Project Cost.
In 2008, a wholly owned subsidiary of IIFCL, IIFCL (UK) Ltd, was established in London with the objective of utilizing the foreign exchange reserves of RBI to fund off-shore capital expenditure of Indian companies implementing infrastructure projects in India.
Infrastructure Debt Funds:
The term Debt Fund is generally understood as an investment pool which invests in debt securities of companies. However, an Infrastructure Debt Fund(IDF) registered in India refers to a company or a Trust constituted for the purpose of investing in the debt securities of infrastructure companies or Public-Private Partnership Projects. Thus, in contrast to the general understanding of the term, IDF does not refer to a Scheme floated by a mutual fund or such other organizations but to the Company or Trust who is investing in debt securities. An IDF can float various schemes for financing infrastructure projects.
Purpose– IDF is a distinctive attempt to address the issue of sourcing long-term debt for infrastructure projects in India. Union Finance Minister in his Budget Speech of 2011-12 had announced setting up of IDFs to accelerate and enhance the flow of long-term debt in infrastructure projects. IDFs are meant to
- supplement lending for infrastructure projects
- provide a vehicle for refinancing the existing debt of infrastructure projects presently funded mostly by commercial banks
Structure& Regulation- These Funds can be established by Banks, Financial Institutions, and Non- Banking Financial Companies (NBFCs). IDFs can be set up either as a company or as a trust. A trust-based IDF would normally be a Mutual Fund (MF) that would issue units while a company based IDF would normally be a form of NBFC that would issue bonds. Further, a trust-based IDF (MF) would be regulated by SEBI; and an IDF set up as a company (NBFC) would be regulated by RBI.
IDF –MF can be sponsored (sponsor is akin to a promoter) by any NBFC which includes an Infrastructure Finance Company(IFC). However, IDF-NBFC can be sponsored only by an IFC.
Vijay Kelkar Committee on Revisiting and Revitalising the PPP model :
Several infrastructure projects in India have been hit by various issues related to the Public-Private-Partnership (PPP) model. It is in this context, the Vijay Kelkar panel recommended various measures for revival of PPP model. The panel was appointed by the Union Finance Ministry in the Union Budget 2015-16. Its recommendations are made available to the public.
Some of the major recommendations include:
- It recommended for the strengthening of 3 main pillars of the PPP framework viz. Governance, Institutions, and Capacity. The report endorsed setting up of a 3PI (a PPP institute of excellence) for supporting institutional capacity building activities.
- The Prevention of Corruption Act, 1988 should be amended at the earliest to punish corrupt practices while saving those who made genuine mistakes in decision-making.
- Swiss Challenge Method of awarding contracts should be avoided as it discourages transparency. Unsolicited Proposals encourages unequal treatment of potential bidders in the procurement process, so they should be discouraged.
- For sourcing long-term capital at low-cost, banks and financial institutions should be encouraged to issue deep discount bonds, also known as zero coupon bonds. This will reduce the debt servicing charges during the initial period of the project.
- After successful completion of the projects, equity in the project may be offered to long-term investors including overseas institutional buyers. The divestment amount would be utilized for new infrastructure projects.
- Independent sectoral regulators should be set up as and when a new sector is declared to adopt PPP model. The regulators should follow a unified approach. Without the independent regulators, the projects would be subjected to bureaucratic and political pressure.
- For the rational allocation of risks among various stakeholders, the Model Concession Agreement (MCA) should be revisited. The “One-size-fits-all” approach should be avoided and project-specific risk assessment should be undertaken.
- It should be explored for extension of PPP into new sectors such as health, other social sectors, and urban transport.
- The private sector should be protected against any abrupt changes in the economic or policy environment.
- The government may develop a PPP law with an endorsement from Parliament. It gives an authoritative framework to implementing executives along with an oversight responsibility to the legislature and regulatory agencies.
- Infrastructure PPP Project Review Committee (IPRC) should be set up for evaluating and sending recommendations in a time-bound manner for a stress in projects under the PPP model.
- An Infrastructure PPP Adjudication Tribunal (IPAT) should be set up and its benches will be constituted by the Chairperson as per needs of the matter in question.
- The state-owned enterprises and public sector undertakings should not be allowed to bid for PPP projects. The PPP model meant for leveraging the managerial and operational efficiency of the private sector.
- A dispute resolution mechanism that is quick and flexible is needed to allow restructuring within the commercial and financial boundaries of the project.
- PPP model is not recommended for small-scale projects in view of the transaction costs involved.