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Friday, January 11, 2008

Will US$500 million Close India’s Infrastructure Gap ???????

Infrastructure in India is on the move. The Golden Quadrilateral linking Delhi, Mumbai, Kolkata and Chennai with four-lane highways for the first time, is now almost complete. Indian Railways has achieved a much-publicized financial and operational turnaround. In 2006 alone, India saw around $7 billion of transport public-private partnerships (PPPs) reaching financial closure.

And there’s more: the creation of world-class airports is underway in Delhi and Mumbai and there are several schemes to build new green-field airports to cater to the booming aviation industry. The capital is now served by a first-class metro system; other large cities are now racing to put in their own metros. The biggest success of all has been the telecommunications sector which has ushered in a new era of information access, particularly for those in rural areas. Indeed there were 7.8 million new cellular connections in September of this year alone.

Yet, the country suffers from a massive infrastructure deficit. Over a third of Indian firms surveyed in the 2004 Investment Climate Assessment cite infrastructure as a “major” or “severe” obstacle to business expansion. Utility interruptions are commonplace in almost every Indian city, with some cities experiencing outages more than once a day. No city in India has water 24 hours a day, seven days a week. In some fast-growing cities such as Chennai, Bangalore and Hyderabad, the quality of drinking water is getting worse.

In 1980, India had higher levels of infrastructure stocks than China. Today to just catch up to China’s present level of infrastructure stocks per capita, India will have to invest 12.5 percent of GDP a year until 2015’ – that is about seven percentage points more than it is currently investing. India has practically no interstate expressways linking its major economic centers, and only 8,000 km of four-lane highways. In the last ten years, China has built 25,000 km of four-to six-lane, access-controlled expressways.

To close the infrastructure deficit – and to sustain GDP growth at 9 percent – the Planning Commission has estimated that India will need to invest an additional $500 billion during the next plan period. This may seem like a daunting figure. Appropriately, there is a vigorous discussion about how much of this $500 billion should come from the public sector, and how much from the private sector. But a discussion about the amount of resources needed to close the deficit detracts from the real problem with India’s infrastructure, which is the under-pricing of utilities. Unless this problem is addressed, even $500 billion may not be enough.

To really understand that the problem is under-pricing, consider the fact that no city in India has 24x7 water (while three cities in Africa do). What is more remarkable is that the number of hours of water available has nothing to do with the supply of water in the city. Three Indian cities have eight hours a day of water, but their supply of water ranges from 106 liters per capita per day in Bathinda to 173 in Dera Bassi to 341 in Goa. Paris (a non-Indian city) does have 24 hours water – but with a supply of 150 liters per capita daily this is close to the median of Indian cities.

So the problem with drinking water is clearly not one of supply. What then is the problem? A large share of the blame lies in the policy of pricing water significantly below its costs. The intentions behind this policy are noble. Water is necessary for life and some would claim it is indeed a right. To enable poor people to have water, government should subsidize it. Unfortunately, the outcomes are almost the opposite. Poor people are the ones who largely don’t have access to piped water. Since water is necessary for life, they have to buy water from water vendors, often paying 5 to 16 times the meter rate.

That under-pricing of water is the culprit can be seen by looking at what happens when water is provided at subsidized rates. The water utilities require subsidies to cover their costs. If they don’t receive these subsidies, they neglect the maintenance of the network, leading to leaky pipes and poor service. If they do receive subsidies from the government, it is the government – and not water users – who controls where the water pipes go. Frequently, governments use these subsidies to curry favor with groups who are likely to vote for them, and these are typically not the poor households for whom the under-priced water was intended. Governments also use their power over utilities to maintain overstaffed workforces. They provide construction contracts to favored contractors who may in turn not be the lowest-cost bidders. Finally, under-pricing of water can lead to excessive consumption which can in time undermine water supply.

These consequences of under-pricing are also found in electricity, especially in the practice in some states of providing free power to farmers. Again, the beneficiaries of the free-power policy are not the poorest farmers. The policy leads to poor maintenance and interrupted supply. And it drains the public treasury to the tune of one percent of GDP in some states. In Andhra Pradesh, the power sector subsidy continues to exceed the state’s spending on public health.

While under-pricing of infrastructure services does significant damage to the quality of infrastructure services, especially to the poor, it is extraordinarily difficult to reform, precisely because it has become an instrument of political patronage. Chief Ministers who changed the free-power policy have lost elections. An attempt to introduce management contracts in Delhi’s water board led to protests in the street and the cancellation of the program. At the same time, there is mounting evidence that poor people are willing to pay significantly higher rates for drinking water, provided they can be guaranteed improved service. A study in Delhi shows that the coping costs that poor people incur greatly exceeds their water bill.

Despite political obstacles, states like Andhra Pradesh, Gujarat and West Bengal have made impressive operational efficiency gains under public ownership while Delhi has done this through private ownership of its electricity utility. This reinforces the point that proper pricing of utilities is not about privatization but about getting infrastructure services to poor people. Maharashtra is looking to improve its power distribution in some key cities by contracting out to private franchisees. In Karnataka the state government, working through a management contractor, is piloting schemes in the cities of Belgaum, Gulbaraga and Hubli-Dharwad that have now introduced 24x7 water supply for 25,000 households who before were receiving water every three to seven days. They are now planning to expand this to the entire system of these cities, covering two million inhabitants.

In sum, everyone needs to recognize that the hoped-for new infrastructure has in the end to be paid for by Indian citizens – either as users of the infrastructure or taxpayers. Our estimates show that about a third of the additional financing needs for power and water can be covered by better pricing and management of infrastructure. Prices for essential services don’t overall have to rise; in fact if utilities become more efficient they might in the end fall. But the money spent by the public sector on these services certainly must be better spent.

The poorest don’t have access to power or piped water and get very little – or no – benefit from government subsidies for these services. It is not just about targeting to the poor. There is evidence to suggest that government money for rural water schemes is spent more effectively on consumer-driven schemes than the traditional top-down, administration-led approaches.

With its GDP growth rate accelerating, and some progress on infrastructure, India has a real chance of eliminating abject poverty in a generation. But it can’t achieve this goal without closing the “policy deficit” in infrastructure. It will not be easy, but there is no alternative.

Forget yourself for others, and others will never forget you.

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