Karnatakas’s Water Woes: Unable to repay loans

Infrastructure: Karnatakas’s Water Woes: Unable to repay loans
taken for water projects, four towns in Karnataka are stuck
between a rock and a hard place

Avinash Celestine Business World May 22, 2006

Prime Minister Manmohan Singh’s speech at the Asian Development
Bank’s (ADB) annual general meeting would have been music to the
ears of multilateral lending agencies. He pointed out that India
would, over the next few years, need $150 billion for its
infrastructure needs, and called on lending agencies like the
World Bank and ADB to use their ‘expertise in infrastructure
financing’ to meet these requirements.
These loans come with strings attached, which require such
projects to recover user charges to make them financially
viable. What has been the experience of small towns in India?
Can those affected by such projects really bear the debt burden?
The answer, from ADB’s first urban infrastructure project in
India, is ‘not necessarily’. In 1995, in Karnataka the ADB
provided $85 million towards improvements to the urban
infrastructure of four towns near Bangalore — Mysore, Tumkur,
Channapatna and Ramanagara. Eleven years on, what BW found when
it travelled to the cities of Mysore, Ramanagara and Channapatna
was that, with debt repayments falling due, all four cities are
unable to pay the full amounts due. Cities like Mysore have, so
far, paid just 20 per cent of the amount due. Ramanagara and
Channapatna have not managed to repay any part of the loan at
all (see ‘Can’t Pay Up’).
This is hardly surprising, given that the interest rate on the
loan was 12 per cent. What’s interesting is that last year, the
interest rate was reduced to 8.5 per cent with retrospective
effect, following the recommendations of the 12th Finance
Commission, which had asked the Centre to pass on loans to
states at a lower rate, without any ‘markup’ over the rate at
which multilateral institutions lent to the country. (The
‘markup’ was due to the Centre taking on the exchange rate

Initial projections showed the projects to be financially viable
at the earlier higher interest rate. The reason? Projections
about the extent to which the local municipalities could recover
costs by hiking water tariffs or property taxes were completely

Take the case of Mysore. Water supply in the town has risen by
over a third since the project and the water charges on metered
connections have risen by 30 per cent in the past year. Flat
rate charges (on non-metred connections) have risen between 33
per cent and 55 per cent since the project was completed. As on
March 2006, the Mysore City Corporation owed Rs 45.74 crore on
the project. It had paid up only Rs 9.25 crore. The city loses
Rs 4 for every kilo-litre it pumps. (A bulk of the loan
repayment has come from the Mysore Urban Development Authority).

“There is no further tariff revision on the agenda for at least
another couple of years,” says a senior engineer with the Mysore
City Corporation. “There was strong opposition to these rate
hikes itself.” The 74th constitutional amendment in 1992 gave
the locally elected municipal councils greater powers in setting
charges like water tariffs.

The ADB loan documents project a 251 per cent increase in the
monthly water and sewerage bill for each city in real terms
between 1996 and 2005. These projections seem wildly optimistic
for, according to them, the Mysore City Corporation should have
been comfortably able to service its debt at a 12 per cent rate
of interest and still have a net positive cash flow in 2004. The
ADB projected that property tax revenues would rise by 123 per
cent in four years to Rs 34.66 crore in FY 2004. Mysore’s city
financials show that actual property tax revenue was only Rs
11.95 crore in that year. Similarly, water and sewer tariff
revenues were supposed to rise by over 200 per cent to Rs 58.5
crore by FY 2004 (all in nominal terms). They rose to only Rs
10.72 crore.
It’s a situation that has been repeated in other parts of the
country. Ratlam in Madhya Pradesh withdrew from similar projects
last year. A study done on the ADB’s water policy in India by
WaterAid, an NGO, cites Ratlam Municipality as saying that they
would be unable to bear the debt burdens imposed by such
projects. Interestingly, the same study, which was critical of
the ADB, pointed out that the project in Karnataka was ‘a model
for all ADB urban projects in the country’. But the criticisms
made in that report could just as well apply to other projects
across the country funded by other multilateral banks.
Gopalchandra Daud, who was municipal commissioner of Ratlam last
year, told BW: “One of the reasons we had rejected the project
was because of the high interest rate of 12 per cent. We had
asked them to reduce the rate to 6 per cent.” Interestingly,
Daud said that the city corporation had already raised local
taxes by 40-50 per cent. He also said that the consultants on
the project were to be paid as mu ch as Rs 5 crore-6 crore,
which the town felt was too high. In Ajmer, for a similar
project, the Water Aid report points out: “Tariff charged by the
department is woefully inadequate to cover the cost of
production of water.”

The Karnataka project involved substantial improvements to the
water supply and sewage system, building of roads and
infrastructure like truck and bus terminals, and the development
of industrial sites. (the bank also provided $20 million to HDFC
to finance low cost housing; the Karnataka government put up an
additional $19.3 million). The aim was to improve the
infrastructure of these four towns and, thus, enable them to
decongest Bangalore, which even then was beginning to creak
under the pressure of its rapid growth.

The problem mounts with each default. The Karnataka Urban
Infrastructure Development Finance Corporation (KUIDFC), which
administers the loan, imposes a 2.5 per cent penal interest rate
on overdue amounts. Given that cities like Ramanagara and
Channapatna haven’t begun repayments, they are effectively
charged interest at 11 per cent on the loan and will continue to
do so till they are able to begin paying back the loan. However
KUIDFC told BW that the penal interest “is currently not claimed
in the regular demand notice”.
Towns, unable to pay up, have made state governments do so

While Woochong Um, director (energy, transport and water
division), ADB, did not speak on the Karnataka project, at the
Hyderabad AGM he did admit: “Our influence is limited (in terms
of getting local bodies to raise rates and taxes). However, we
feel conditionalities are important. And non-adherence to
conditionalities affects future loans to the same government or
organisation.” Still, ADB has continued to provide further loans
to Karnataka, Madhya Pradesh and Rajasthan.

Interestingly, in the original project documents prepared in
1995, the ADB mentioned the lessons that its sister
organisation, the World Bank, had learned from its funding of
urban infrastructure projects: “The main problems encountered by
the World Bank relate to the weak financial resource base of
local governments… and lack of political will in raising taxes
and tariffs.” The ADB further added: “Each issue was taken up
with the government and the state in the policy dialogue and
corrective measures as appropriate were agreed upon.”

A cynic would argue that it doesn’t really matter — after all,
the local municipalities are getting what are in effect grants,
from multilateral bodies, to develop their infrastructure. If
the local bodies default, the onus falls on the state government
to pay back the money. Theoretically, its possible for the state
government to deduct the interest due on the loan from the other
grants given to the municipalities. This hasn’t happened in the
case of the Karnataka project except for Mysore, where Rs 1.03
crore is deducted each quarter towards the interest payments.
But it is still the State government that bears the cost. The
bank gets its money either way


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Filed under JNNURM, Privatisation of Municipal Services, Urban Infrastructure Finance, Urban reforms Agenda

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