The NHAI financing conundrum

The National Highways Authority of India (NHAI) poses a conundrum to the Government of India. It has a debt burden of Rs 3.44 trillion, a steep 14-fold increase from Rs 24,188 Cr in 2014-15. In order to address this problem, the Union Budget 2022-23 has proposed to finance the entire NHAI expenditure for next year through budget transfer of Rs 1.34 trillion. This allocation is double that of 2021-22.

I had blogged here arguing that the roads construction targets of NHAI are unrealistic and that it ought to be financed primarily through public finance (budget or public debt). The Government of India is now proposing to do exactly that.

In fact, the idea that national highways in India can be financed mainly (or even significantly) by leveraging private capital through the likes of BOT (for greenfield projects) and monetisation (of brownfield assets) does not square up with facts. There is no country in the world, including the United States, which has managed to achieve either in any large-scale manner. 

India's experience too bears this out. In the initial years of the NHAI, the low hanging fruits involving the commercially viable routes were all tolled out. But in the last decade EPC and HAM (both are effectively public financed) have emerged as the preferred NHAI construction approaches, and there have been hardly any BOT project. Similarly, after the initial euphoria on monetisation, subsequent monetisation bids have evoked lukewarm interest and some have had to aborted. Both are a reflection of the market's lack of appetite to finance such projects, and not due to any lack of enabling policies. 

I have also blogged on multiple occasions that expectations of large scale monetisation and alternative financing of NHAI, including significant foreign investments, are misplaced. 

On the face of it, the cleanest structure in terms of accounting would be to transfer the road assets to the books of NHAI and also treat the toll revenues as its income. The NHAI thereby becomes a revenue generating entity which leverages the toll income from its road assets to raise debt and finance its new projects. 

However, this may create a problem for the government in so far as it both reduces the government's revenues (the toll revenues going to the Consolidated Fund of India) and also its capital expenditure (the toll revenues being assigned to the NHAI). But to the extent that revenues were anyway a pass-through, this change would not have any substantive impact. 

But this raises an important issue. A typical private company would optimise leverage to make its equity go longer in its investments. In the case of NHAI, it can appear that the Government of India is committing to  finance the entire NHAI capital expenditure budget from 2023-24 from budgetary resources (its equity).

The government have clarified that it has resorted to this approach so as to reduce the burden on a deeply indebted NHAI. It has claimed that a few years of budget support would enable the NHAI rein-in its debt ratios and help reach a sustainable growth path. This explanation appears entirely reasonable. 

There may be one more reason to favour this. While budget financing can appear like equity funding, the large fiscal deficit means that the government is effectively borrowing to finance this equity investment. In other words, government is channeling its debt to NHAI. 

This raises the question of why should the government do this round-about approach when the NHAI can raise debt on its balance sheet. Here it should be pointed out that the Government can raise debt at cheaper rates than NHAI. And given the volumes and long tenor, the savings from this arbitrage can be significant.

In conclusion, the government is right in restricting debt issuance by NHAI and sharply increasing its budget allocation so that NHAI can get its debt under control. Once debt has been pared down, it can allow NHAI to regain access to the debt markets. But more broadly, it's a welcome acknowledgement of the reality that India's highway construction program has to be largely public financed. 

The experts advocating PPPs and fancy financial engineering are a distraction. At least some are self-serving and represent market interests who stand to benefit commercially.