RBI'S FRAMEWORK TO ADMINISTER PROJECT FINANCING
1. Context
The Reserve Bank of India (RBI) recently proposed new regulations to improve long-term financing for infrastructure, non-infrastructure, and commercial real estate projects. These regulations are meant to strengthen the existing system. The public is invited to comment on the draft until June 15th.
2. The Purpose of the Framework
- Infrastructure projects typically have long gestation periods and a higher likelihood of financial non-viability.
- Depending on the scale and technology involved, these projects may require loans with extended tenures.
- They also often encounter multiple obstacles, leading to delays or cost overruns.
- According to the Ministry of Statistics and Programme Implementation’s March review of 1,837 projects, 779 were delayed and 449 faced cost overruns.
- These delays were attributed to land acquisition, obtaining forest and environment clearances, and project scope and size changes.
- These factors deter banks, which have priced the associated risks in a specific manner on their books.
3. Key Revisions in RBI's Proposed Framework for Long-Term Infrastructure Financing
- The Reserve Bank of India (RBI) is proposing a new framework to address potential problems (credit events) in long-term infrastructure financing.
- These credit events could include loan defaults, delays in project completion (extending the DCCO), needing additional debt, or a decrease in the project's Net Present Value (NPV).
- A key change involves provisioning. This means setting aside money upfront to cover potential losses.
- The RBI proposes a significant increase in provisioning from the current 0.4% to 5% during the construction stage (before the project starts commercial operations).
- This is expected to make lenders more cautious but may also discourage some infrastructure developers in the short term.
- The 5% provisioning requirement will also be implemented gradually.
4. Prudential Conditions
- The framework stipulates that all mandatory prerequisites must be met before financial closure, which is the finalization of financial conditions.
- An indicative list of these prerequisites includes obtaining environmental, regulatory, and legal clearances relevant to the project.
- The Date of Commencement of Commercial Operations (DCCO) must be explicitly defined.
- Financial disbursals will be made, and progress in equity infusion will be agreed upon based on the stages of completion.
- Banks are responsible for deploying an independent engineer or architect to certify the project's progress.
- The RBI also proposes that a positive Net Present Value (NPV) be a prerequisite for obtaining project finance.
- Additionally, it seeks to mandate that lenders have the project's NPV independently re-evaluated annually. This measure aims to help lenders prevent the build-up of financial stress and to ensure they have an actionable plan in place.
5. Revised Repayment Norms
- Repayment norms can be revised. However, the proposed framework stipulates that the original or revised repayment tenure, including the moratorium period, must not exceed 85% of the project's economic life.
- The RBI’s proposed framework also sets criteria for revising the repayment schedule due to an increase in project outlay resulting from changes in scope and size.
- This revision must occur before the DCCO, following a satisfactory reassessment by lenders regarding the project's viability, particularly if the risk in project cost excluding any cost overrun is 25% or more of the original outlay.
- Additionally, the framework introduces guidelines for triggering a standby credit facility, which is to be sanctioned at the time of financial closure to cover overruns due to delays.
6. Initial Observations
- Ratings agency ICRA noted in a report that the higher provisioning requirement for projects under implementation could negatively impact the near-term profitability of non-banking financial companies (NBFCs) and infrastructure financing companies.
- However, during their recent earnings calls, the State Bank of India (SBI), Union Bank of India, and Bank of Baroda expressed confidence that the proposal would not have any “significant” impact on their financials.
7. Way Forward
The RBI's proposed framework represents a significant shift towards more cautious and prudent project financing, aimed at mitigating risks and ensuring financial stability. The increased provisioning requirements and stricter prudential conditions reflect a robust approach to managing potential credit events. However, these changes might dampen the enthusiasm of some developers in the short term.
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For Prelims: RBI, NBFC, SBI, DDCO,
For Mains:
1. Infrastructure projects in India often face challenges like delays and cost overruns. How does the RBI's proposed framework address these concerns? Discuss the potential impact on project financing activity. (250 words)
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Previous Year Questions
1. With reference to the Indian economy, consider the following statements: (UPSC 2022)
1. An increase in the Nominal Effective Exchange Rate (NEER) indicates the appreciation of the rupee.
2. An increase in the Real Effective Exchange Rate (REER) indicates an improvement in trade competitiveness.
3. An increasing trend in domestic inflation relative to inflation in other countries is likely to cause an increasing divergence between NEER and REER.
Which of the above statements are correct?
A. 1 and 2 only B. 2 and 3 only C. 1 and 3 only D. 1, 2 and 3
2. With reference to Indian economy, consider the following statements: (UPSC 2015) 1. The rate of growth of Real Gross Domestic Product has steadily increased in the last decade.
2. The Gross Domestic Product at market prices (in rupees) has steadily increased in the last decade.
Which of the statements given above is/are correct? (a) 1 only (b) 2 only (c) Both 1 and 2 (d) Neither 1 nor 2 3. Which one of the following activities of the Reserve Bank of India is considered to be part of 'sterilization’? (UPSC 2023) (a) Conducting 'Open Market Operations' (b) Oversight of settlement and payment systems (c) Debt and cash management for the Central and State Governments (d) Regulating the functions of Non-banking Financial Institutions 4. In India, which one of the following is responsible for maintaining price stability by controlling inflation? (UPSC 2022) (a) Department of Consumer Affairs (b) Expenditure Management Commission (c) Financial Stability and Development Council (d) Reserve Bank of India 5. With reference to India, consider the following statements: (UPSC 2021) 1. Retail investors through demat account can invest in ‘Treasury Bills’ and ‘Government of India Debt Bonds’ in primary market.
2. The ‘Negotiated Dealing System-Order Matching’ is a government securities trading platform of the Reserve Bank of India.
3. The ‘Central Depository Services Ltd.’ is jointly promoted by the Reserve Bank of India and the Bombay Stock Exchange.
Which of the statements given above is/are correct? (a) 1 only (b) 1 and 2 only (c) 3 only (d) 2 and 3 only 6. Consider the following statements (UPSC 2021) 1. The Governor of the Reserve Bank of India (RBI) is appointed by the Central Government.
2. Certain provisions in the Constitution of India give the Central Government the right to issue directions to the RBI in public interest.
3. The Governor of the RBI draws his power from the RBI Act.
Which of the above statements are correct? (a) 1 and 2 only (b) 2 and 3 only (c) 1 and 3 only (d) 1, 2 and 3 Answers: 1-C, 2-B 3-A, 4-A, 5-B, 6-C |
Source: The Hindu
