Abstract:
Viability Gap Funding is a novel concept in India and extending this to social infrastructure meant a huge step in India’s infrastructure sector. However, one does not come across a lot of discussion on this issue, due to lack of literature available.
This article aims to bridge this gap by introducing the concept of Viability Gap Funding across the globe and then talks about its introduction in India specifically. The article then transitions into examining the need for or rationale behind viability gap funding in public private partnership projects, while critically analysing the balance in disequilibrium brought by Viability Gap Funding and questioning its efficacy. The central theme of the article, however, investigates the intentions behind VGF – Revenue or Subsidy. This conundrum is discussed at length, finally leaving it to the discretion of the reader to decide whether or not Viability Gap Funding is truly viable.
Keywords: VGF, Revenue, Subsidy, Infrastructure, Social infrastructure
Background
‘“The viability gap funding [VGF] provided for economic infrastructure will now be extended to social infrastructure[i]”’, asserted the Hon’ble Finance Minister of India, Ms. Nirmala Sitharaman in the month of November 2020, and the Ministry notified the allocation of Rs. 8,100 crores for this programme spanning over FY 2020-21 to FY 2024-25. Out of this, Rs. 2,100 crores would be exclusively dedicated to the development of social infrastructure-based Public Private Partnership (PPP) projects. After almost a year since this momentous announcement, one can’t help but wonder what this has meant and would mean to a business-owner in the private sector in India. This brings us to the question — What is Viability Gap Funding?
VGF across the globe
Viability Gap Funding is not a new concept to the Indian economy or even to the global economy. To simply define, it is a one-time or deferred grant, provided by the Government to support infrastructure projects that are economically justified but fall short of financial viability[ii]. VGF has been implemented across various developing nations such as Mexico, Pakistan including India.
To talk of Mexico’s Viability Gap Funding, it launched as Fondo Nacional de Infraestructura (FONADIN), and is primarily aimed at procuring newer contracts for highway concessions. It is to make PPP projects financially more viable. In Pakistan on the other hand, the VGF scheme was launched as Infrastructure Project Development Facility (IPDF), which was aimed at bridging the gap between expected revenues and costs for PPP projects to make such projects financially viable. In doing so, the fund aims to make infrastructure services affordable for the country’s most socioeconomically disadvantaged groups[iii]. When investigated closely, the common underlying objective of both these schemes in both the countries is to boost the financial viability of Public Private Partnership Projects. This is no different in India either.
VGF in India:
International organisations like the World Bank and International Monetary Fund have several times expressed their belief in the Viability Gap Funding Schemes, especially in the developing and/or emerging economies and have also made available the necessary grants thereby giving the idea a financial backing. In 2013, the World Bank agreed to provide viability gap funding (VGF) and assistance in annuity-based build, operate and transfer (BOT) projects to develop highways in India[iv].
In India, the concept of viability gap funding dates to 2006, when the Department of Economic Affairs, Union Ministry of Finance introduced the Scheme for Financial Support to PPPs with a view to support infrastructure projects undertaken through PPP models. Public-Private Partnerships (PPPs) involve collaboration between a government agency and a private-sector company that can be used to finance, build, and operate projects, such as public transportation networks, parks, and convention centers[v].
In 2016, the Narendra Modi Government for the first time launched a VGF scheme called ‘Ude Desh Ka Aam Nagrik’ abbreviated to UDAN, which is the regional air connectivity scheme. Now, the recent trends indicate that VGF schemes would extend not only to economic infrastructure but also to social infrastructure which means boost in the infrastructural development of merit goods and service such as education and healthcare. Having said this, one needs to ponder over the preliminary theme of this issue, that is the need for and efficiency of VGF considering social infrastructure PPP projects.
Need for VGF in PPP projects:
As stated above, the Finance Ministry has exclusively allocated Rs. 2,100 crores for social infrastructure projects. While the purpose of VGF is bona fide, it does come with a pinch of salt—ambiguity. The scheme fails to outline the services that come under the purview of ‘social infrastructure’. On the other hand, limiting the scope of social infrastructure merely to health, education, waste-water treatment, water supply and solid waste management would indicate a preferential treatment towards such projects and an inherent prejudice towards other social welfare projects. According to the announcement of Press Information Bureau in November 2020, the aforementioned types of social welfare projects are followed by an ‘et cetera’ with no clear definition as to how to interpret the same.
Furthermore, the scheme also remains silent on existing social infrastructure that can be improved through private-sector intervention. If it is assumed that only new infrastructure projects come under the scheme, then one must question the WHY of this move. If this scheme is rolled out to improve the social welfare of the State, then the same must be applicable in the same manner for the development of existing infrastructure projects and not only to new ones, as it permeates a sense of bias towards newer projects and questions the purpose of these schemes altogether. There also exists no mechanism to affirm the flexibility of the scheme, thereby leading to difficulties in the determination of the scope for the usage of Rs. 2,100 crores. Nevertheless, owing to the allocation of such large amounts of taxpayers’ money, the same must come under the ambit of Right to Information (RTI) in order to enforce accountability upon the scope of this scheme.
However, setting aside social infrastructure, the scheme has a clear sense of direction towards physical infrastructure-based PPP Projects. Clause 3 of the 2006 Guidelines for Public Private Partnership projects through VGF discusses about the eligibility of such projects. It states the following:
‘“The PPP Project should be from one of the following sectors:
(i) Roads and bridges, railways, seaports, airports, inland waterways;
(ii) Power;
(iv) Infrastructure projects in Special Economic Zones; and
(iii) Urban transport, water supply, sewerage, solid waste management and other physical infrastructure in urban areas;
(v) International convention centres and other tourism infrastructure projects;[vi]”’
Nonetheless, the need for having Viability-Gap-Funded PPP projects is to bring out a synergy between the quality provided by a private sector and the inclusivity provided by a public sector. PPPs have time and again proven to be a great option for such synergy. For example, in the case of ‘Namma Metro’ in Bangalore, the PPP ensured the right balance between the quality of service of a private sector as well as inclusivity from a public sector perspective. While the Metro is an example of physical infrastructure, VGF is all the more needed for social infrastructure projects. This is because of the systemic economic problem of market disequilibrium when merit goods and services come to the forefront.
The Disequilibrium Mayhem
From an economics perspective, merit goods such as Education and Health are often under- consumed and under-produced due to the existence of information-failure and lapse in value judgement. The two most important intangible facets of demand-and-supply equilibrium in the market is based upon prevention of information-failure and better value judgement. Merit goods are those goods whose positive externality is greater than what can be realised.
For instance, a person availing the Covid-19 vaccine not only protects himself from the virus but also prevents the further spread of the virus. This would be a classic example of merit goods. But at the same time, it isn’t wrong if one speculated that a certain population has certain reservation against the vaccine. This reservation and bias exist either due to misinformation or information failure which in turn leads to the suboptimal consumption of the vaccine. The same issue persists in terms of education too. This gives rise to a pressing need for government-intervention in order to promote the optimal level of production and consumption of such merit goods and services.
It is only through this equilibrium in the market can an economy overcome or avoid its deadweight loss and move towards economic growth and development through social welfare. Therefore, in order to regain and re-establish this market-equilibrium, central sector schemes like Viability Gap Funding/Financing plays a quintessential role. However, a microscopic view into the same may put the efficacy of the scheme at peril.
Efficacy of VGF
While it is a matter of difficulty to place a finger on the efficacy of past initiatives undertaken through VGF, currently, the Finance Ministry aims to disburse the funds on a rolling basis over a period of five consecutive financial years from 2020 to 2025. According to the Press Information Bureau, the funds allocated to economic infrastructure, that is Rs. 6000 crores, shall be disbursed with an appreciation of Rs. 100 crores each year starting at Rupees 1000 crores in the financial year 2020-2021. The social infrastructure on the other hand, will receive a constant amount of Rs. 400 crores over four years and Rs. 500 crores in the final year. Here, the funds allocated and disbursed for social infrastructure has not considered the real value of currency in the next four years owing to plausible inflation in the near future. The business sector and the economy as a whole currently is suffering a trough and the recovery of the same would take considerable time[vii].
Therefore, at this position in the economic cycle it is laborious to critique the future effectiveness of this scheme and also to point out the reasoning behind the Rs. 100 crore appreciation in the final year. Nonetheless, one can examine the purpose and effectiveness of taxation policy of the VGF scheme. This now brings us to the subsequent theme of this issue, that is, whether VGF is merely a money-making scheme to the government or a subsidy granted out of bonafide intentions.
VGF: Revenue or Subsidy?
The Viability Gap Funding undoubtedly sounds foolproof theoretically. However, when put under the microscopic view of scrutiny, one can find significant grey areas where the Ministry remains silent or leaves room for questions and ambiguity.
In the month of May, 2020, the Hon’ble Finance Minister announced a stimulus package under which the government would spend ₹8100 crores to provide 30 per cent viability gap funding instead of the then 20 per cent to boost private sector investment in social sector infrastructure creation under Public Private Partnership (PPP)[viii]. Further, the scheme also allows for VGF up to 40 per cent of Total Project Cost (TPC) for pilot or demonstration projects in the health and education sector.[ix]
To consider the stance of the Ministry on taxing the Viability Gap Funding, it has varied from project to project. In 2017, the Centre launched the regional connectivity scheme or popularly called UDAN, the funding of which would not come under the purview of Goods and Services Tax (GST). The first phase of the scheme aimed to connect forty-three served and under-served airports in tier-2 and tier-3 cities[x]. Here, VGF was considered as a subsidy given to the private sector aviation industry. GST would be exempted for a period of one year since the commencement of RCS operations across the thirteen airports undertaking RCS.
‘“Ministry of Finance vide Notification No 7/2017- Service Tax dated 02.02.2017and Notification No 12/2017 -Central Tax (Rate) dated 28.06.2017 has granted exemption from levy of Service Tax/GST on disbursement of VGF to Selected Airlines Operators (SAOs) for a period of one year from the date of commencement of operations of the Regional Connectivity Scheme (RCS) Airport as notified by Ministry of Civil Aviation”’
- Notification No 7/2017- Service Tax dated 02.02.2017 and Notification No 12/2017 -Central Tax (Rate) dated 28.06.2017.
The aforementioned project was funded in a 80:20 ratio between the Centre and the State governments. However, the 2020 announcement stated that the investments into PPP projects under social infrastructure category would be divided into a 30:30:40 ratio, with 30 per cent Viability Gap funded by the Centre, the next 30 per cent funded by the respective state governments and Union territories and the remaining 40 per cent self-funded by the private sector businesses undertaking such projects.
These investments and funds also come with a condition subsequent to qualify for the VGF. It is said that these projects should entail full recovery of operating costs to qualify for the VGF. Separately, pilot projects in health and education, with at least 50 per cent operational cost recovery, can get as much as 40 per cent of the total project cost from the central government. The Centre and States would together bear 80 per cent of the capital cost of the project and 50 per cent of operation and maintenance costs of such projects for the first five years[xi]. These conditions subsequently put at stake the interests of many private business owners in an economy as unstable as ours given the recent events that have transpired. Additionally, there seems to be a stark irregularity in how different social infrastructure projects are treated which leads to ambiguity and arbitrariness. There also seems to be no clarification for this positive discrimination between the different types of social infrastructure projects.
This series of bewilderments leads to the debate of Revenue v. Subsidy. It is a known principle that the sole objective of any private sector business is profitability and that of public sector is serviceability. However, for the purposes of economic development the economy must strike a balance between the two and this is what leads to Public-Private Partnerships. It is for this very goodwill that the private sector business owners feel motivated to participate in PPP projects. While goodwill facilitates the good deeds, it does not help the business stay afloat, and this is why all businesses predominantly rely upon supply-side policies such as subsidies from the government while participating in such schemes.
In light of this argument, VGF poses an opposite view. VGF is only granted if there is 100 per cent recovery of operational costs in some cases. The VGF is considered to be a Supply-Side Policy and not a Fiscal policy for the government to generate tax revenues out of such projects. The sole intention of any supply-side policy is to boost the supply of a particular good or service, and that of fiscal policy is to increase revenue and decrease government spending. If the VGF is now taxed, then the intention of the scheme is at a conflict. So, what must be the way forward?
Concluding Remarks:
The recent Guidelines for Financial Support to Public Private Partnerships in Infrastructure under Viability Gap Funding Scheme released in the month of December 2020 explicitly stated the following: ‘“It is also imperative to promote Public-Private Partnerships in the social sector to bring in private-sector investments and efficiencies. Typically, social sector projects need high capital investments with low financial returns. Therefore, Government of India (GoI) has decided to enhance the VGF support for social sectors”’
This statement right here indicates the prominence of public sector efficiencies and difficulties in undertaking a social sector project for a private sector, that is, low financial returns. This point right here weakens the whole argument of mandatory recovery of operational costs. No private business owner must be deprived of the right to avail VGF merely because of the inherent nature of social sector projects having low financial returns and high capital investments. Low profit making or loss making PPP projects in the social sector must be placed on the same pedestal as thriving or surviving PPP projects as this is subject of serviceability and not profitability.
In light of this, a very common question that arises in the minds of rational persons participating in the economy- both producers and consumers- is whether or not Viability Gap Funding is a money making machine or a subsidy to support serviceability. Therefore, in order to determine its taxability and avoid this apprehensive debate to prevent such an excruciating debacle, the Ministry of Finance must carefully reappraise what the Viability Gap Funding intends to do and stands for in the long run – Revenue or Subsidy? Only time can tell.
[i] Social infra PPPs eligible for viability gap funding, The Hindu, (November11, 2020 23:04PM), https://www.thehindu.com/business/social-infra-ppps-eligible-for-viability-gap-funding/article33077808.ece.
[ii] Financial Support to Public Private Partnerships in Infrastructure, Drishti IAS, (November 12, 2020), https://www.drishtiias.com/daily-updates/daily-news-analysis/financial-support-to-public-private-partnerships-in-infrastructure.
[iii]Schur, M., Public Private Partnership Funds Observations from International Experience, 6 Asian Development Bank Working Paper Series, p.12., 2016, https://www.adb.org/sites/default/files/publication/202486/eawp-06.pdf
[iv] World bank agrees on VGF scheme for roads, Business Standard,(January 21, 2013, 00:54 AM), https://www.business-standard.com/article/economy-policy/world-bank-agrees-on-vgf-scheme-for-roads-109120300069_1.html
[v] PPP Investment Model, Drishti IAS, (May 1, 2019), https://www.drishtiias.com/to-the-points/paper3/ppp-investment-model
[vi] Clause 3, Guidelines For Financial Support To Public Private Partnerships In Infrastructure, 2006 (India)
[vii] https://www.indiabudget.gov.in/economicsurvey/doc/echapter.pdf
[viii] Neetu Chandra Sharma, Govt to rejig viability gap funding norm to attract private invest in healthcare, Mint, (June 8, 2020, 2:03PM) https://www.livemint.com/news/india/govt-to-rejig-viability-gap-funding-norm-to-attract-private-invest-in-healthcare-11591603194535.html
[ix] Gaurav Noronha, Finance Ministry notifies updated viability gap funding scheme, The Economic Times, (Dec 10, 2020, 10:59 PM) https://economictimes.indiatimes.com/news/economy/policy/finance-ministry-notifies-updated-viability-gap-funding-scheme/articleshow/79667000.cms?from=mdr
[x] UDAN: No GST on Viability Gap Funding disbursement, Business Standard, (December 27, 2017, 21:12 PM) https://www.business-standard.com/article/economy-policy/udan-no-gst-on-viability-gap-funding-disbursement-117122700708_1.html
[xi] Supra 1
Author Bio
