Opinion Op Ed 26 Sep 2019 Masala bonds are Ker ...

Masala bonds are Kerala’s brave new infra model

Published Sep 26, 2019, 2:14 am IST
Updated Sep 26, 2019, 2:22 am IST
The masala bonds were the brainchild of then chief economic adviser Raghuram Rajan in 2013 to tide over the acute current account deficit crisis.
Chief Minister Pinarayi Vijayan
 Chief Minister Pinarayi Vijayan

On May 17, Kerala’s Marxist chief minister Pinarayi Vijayan rang the customary bell at the London Stock Exchange, opening the day’s trade and heralding the listing of masala bonds for Rs 2,160 crores floated by the Kerala Infrastructure Investment Fund Board (KIIFB), the first sub-sovereign from India to tap the offshore rupee international bond market.

Some were aghast at Mr Vijayan purportedly giving up his ideological moorings for the sake of international capital. But many hailed his fiscal realism amid budget constraints that hamper infrastructure spending.


Detractors now are on the rebound with both the Congress and the BJP accusing KIIFB of “being corrupt, indulging in reckless borrowing and keeping the CAG out of the audit purview”. But, to date, there has been no convincing parade of materials to prove their point.

The masala bonds were the brainchild of then chief economic adviser Raghuram Rajan in 2013 to tide over the acute current account deficit crisis. And Kerala was the first entity at the sub-sovereign level to latch on. The first offshore rupee-denominated masala bond issue, anchored by a sub-sovereign entity under its control, has made the state a star among its peers looking to raise offshore rupee borrowings at competitive rates.


But first things first.

The KIIFB is state-controlled. It leverages in a calibrated manner using prudent asset liability management in the time of a yawning revenue income-expenditure mismatch and consequent infra lag in a state internationally acclaimed for its high quality of physical life indices despite years of low per capita income.

The famed Kerala “model”, according to economist M.A. Oommen, “is only an ex-post facto generalisation of a historically evolved transformative experience in delivering broad-based healthcare (low infant mortality, high life expectancy, high female-male ratio), universal elementary education and social justice to a society once deeply divided by caste and class inequities of the worst order”.


Mr Vijayan trumpets the KIIFB as the bold new “model” for infra funding. This is Kerala’s course correction, committed to sustain social sector achievements and raise resources for its second generation reforms. This, when the Centre prioritises “backward” states for grants, leaving the advanced ones to fend for themselves.

The sub-sovereign borrowing helps the state to steer clear of the Fiscal Responsibility and Budget Management (FRBM) Act that puts a cap of three per cent of state Gross Domestic Product for budgetary borrowing. The FRBM Act addresses fiscal deficits by the Centre and states but even the Centre has overshot its limits by a few notches, at seven per cent.


Kerala’s major chunk of revenue expenditure — 56 to 60 per cent — is spent on salaries, pensions and interest repayments. Not a big negative, given its concern for the health and education sectors, the principal domain of any state government.

Based on the three per cent cap on GSDP, Kerala would be left with Rs 24,000 crores in 2018-19. But the amount for capital expenditure out of this would be roughly Rs 5,000 crores, leaving the rest for other revenue outgoes. In pre-KIIFB days, the state accounted for less than 1.5 per cent of GSDP on infra spending.


The KIIFB, with a 50-member staff, has chartered financial analyst, former whole-time member of Sebi and former chief secretary K.M. Abraham as its CEO. It has on hand 588 projects involving `45,000 crores, arguably a first for a state government as distinct from all-India agencies like the NHAI (National Highways Authority of India).

KIIFB borrowing carries a state guarantee. It is nurtured and sustained by a staggered accrual of fuel and motor vehicle taxes, which illustrates the fact that the extra-budgetary resource mobilisation is state budget-guaranteed. The KIIFB has already received `6,000 crores in tax revenue income and spent `2,300 crores. It is an omnibus special purpose vehicle (SPV), handholding 25 other SPVs, set up by various government departments and agencies to implement projects, ranging from smart classrooms to roads to information technology.


But the Opposition has been crying foul, accusing the KIIFB of the very sins of omission and commission that it abhors. It has a robust, multi-layered audit, appraisal, transparency and quality control mechanism.

On the audit side, the KIIFB is bound by the Comptroller and Auditor-General’s (Duties, Powers and Conditions of Service) Act Section 14 (1) for a comprehensive review of all its income and expense. It has its own statutory audit, too. At its last board meeting, the KIIFB decided to introduce a peer review audit system to boost the confidence between investors and the KIIFB in tune with international requirements of external borrowing. In addition, it has an internal audit regimen.


The Fund Trustee and Advisory Commission (FTAC), headed by former CAG Vinod Rai, is the apex body. An in-house monthly audit is done and the report submitted quarterly. Every six months, the KIIFB presents audited accounts to the FTAC, which if satisfied, issues a fidelity certificate. Audited accounts along with the fidelity certificate are submitted for the Assembly’s scrutiny every year.

Norms for transparency and quality control are of a high order. Separate administrative and technical inspection wings inspect the work site and offices to ensure quality in execution. They have observation sheets issued by the KIIFB and a lapse leads to an observation memo, which binds the SPV to mandatory rectification. The technical inspection wing also lends expert advice to SPVs on projects. All transactions are paperless, adhering to the green protocol.


Payments are made directly to contractors. Contractors can watch these through mobile applications. There is an online grievance portal that offers advice and information on the implementation of the projects.

There has been a classic criticism, that involving accusing the LDF government of adopting “the destructive mode of development”. Finance minister Thomas Isaac debunks this charge with the oft-quoted Keynesian mantra for public spending in times of economic slowdown. Economist John Maynard Keynes advocated increased government expenditure and lower taxes to stimulate demand and pull the global economy out of the 1930s depression in the United States.


Due for disbanding in 2010, the KIIFB bounced back, achieving fiscal targets. It is now seen as a model for other states to follow. To cap it all, its inbuilt checks and balances, for instance deploying drones to make on-site assessments of work, position it as the answer to rampant corruption in project tendering and execution.

Other fiscally stressed states are reaching out to understand the dynamics of the controlled leveraging model that KIIFB has put in place, Mr Abraham said. In fact, when the Union government announced the sovereign bond, in their annual Budget, many thought that they were going the KIIFB way.


There are others who fear that budgetary support to the KIIFB may dwindle in case of an economic deceleration.

But, Mr Abraham says, the income-expenditure scenario is worked on mathematical models.

The hallmark is controlled leverage and asset-liability management. Options in case of a dip in revenues are to scale down projects or increase government contribution to the KIIFB to stanch the sluggishness. Whatever the future, the KIIFB has truly been Kerala’s innovation in managing state finances.