Adani case brings back the question of infrastructure financing in India

The projects need cash, and Adani could well face serious shortfalls. Whether the govt bails them out by giving money or takes them over is a billion-dollar question

It's been about two weeks since US-based short seller Hindenburg Research said in its report that Adani Enterprises had been manipulating its stock valuations. We can only guess why it did so, if at all it did.

Immediate issues aside, this episode has once again raised a 25-year-old question dating from when India first started exploring private investment in infrastructure: should infrastructure be built with taxpayers' money or risk capital?

The question keeps coming up because governments want to spend more on welfare but also need to build infrastructure. That's how the idea of roping in the private sector, which can raise money in the market, namely, risk capital, came in.

In reality, however, the term risk is a misnomer because infrastructure risk has always been hugely mitigated by governments via formal and informal guarantees. This makes it virtually risk-free. This is a universal practice. Only the ways of doing it are different. And that's why so many foreigners invested in the Adani stocks.

However, when risk mitigation is inadequate for whatever structural or political or economic reasons, as always happens in India, the venture goes bankrupt. In 1999 I wrote a monograph on this for the Asian Institute of Transport Development, and my conclusion then still holds: risk capital and infrastructure didn't go well together. Country after country has discovered this. India is no exception.

The best way out, as suggested by learned economists, is to raise capital through long-term bonds, which are simultaneously a sort of tax while being market-based and tradeable. The efflux of time reduces their risk to almost nil. But inflation acts as a tax.

The term is usually 30 years or one generation. However, a necessary condition for such bonds' success is an abundance of capital in private hands.  

But risk capital is most averse to uncertainty. Since 1945 US world dominance has hugely reduced extreme uncertainty. Until China started its games, we had garden variety uncertainty, priced into the bonds. That's fine.

But this has also created what economists call "moral hazard" problems: if you know someone will help you, you tend to take greater risks. It's like bungee jumping.

This is the context in which India's infrastructure finance policies must be framed. Ignoring this context has caused so many projects to go belly up or for promoters to run to the government, tin cup in hand. Thus, in the end, it's the taxpayers who have paid for the infrastructure.

This suggests that there's no real alternative to tax-funded infrastructure. The only issue is, if welfare expenditure is to keep rising, whether the money is to be found in higher taxes and/or cesses — or via explicit and implicit guarantees.

This is a serious policy choice involving trillions of rupees. A major political determinant here is the need for election campaign finance routed to the parties in power via gold-plated and guaranteed projects awarded to private-sector adventurers. India has seen a succession of them since 2004.

Whether you call corruption of this order a negative or positive externality depends on how you view things. It's probably a bit of both.

Anyway, how the government solves the financing problems of the ongoing Adani projects will indicate our future course of action.

The projects need cash, and Mr Adani could well face very serious shortfalls. Hence the billion-dollar question: will the government bail the projects out by giving them money, or will it simply take them over?