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Kerala: Why the ADB Loan for Urban Development?

Against the backdrop of Kerala's recent furore over the acceptance of a loan from the Asian Development Bank, this article examines the salient features of the loan. It asks why such a loan is relevant for the sustainable urban infrastructure development of Kerala and recommends certain modifications of some of the clauses of the agreement.

KERALA

Why the ADB Loan for Urban Development?

Against the backdrop of Kerala’s recent furore over the acceptance of a loan from the Asian Development Bank, this article examines the salient features of the loan. It asks why such a loan is relevant for the sustainable urban infrastructure development of Kerala and recommends certain modifications of some of the clauses of the agreement.

M A OOMMEN

O
n December 8, 2006, the government of India (GoI) entered into a loan agreement with the Asian Development Bank (ADB) for an amount of $ 221.2 million for what has been officially referred to as Kerala Sustainable Urban Development Project (KSUDP). On the same day as part of the loan agreement, the government of Kerala entered into a project agreement with ADB to signify the state’s readiness to carry out the project as per the design standards, specifications, work schedules or whatever details were mutually agreed upon regarding the project. This sparked off a controversy and provided a staple item for the media in the state which has the largest media density (both electronic and print) not only in India, but probably anywhere else in the world. If the controversy relates only to the “violation of procedures” (see, The Hindu, January 12, 2007), it ceases to be a substantive issue. Once you choose to eat the beef, it is immaterial whether you use fork or fingers. The real question is whether the state has made a reasoned choice and a better alternative was available before the government and the five corporations concerned, whose residents constitute the ultimate stakeholders.

A Bit of History

This is not the first time Kerala is taking loans from multilateral agencies. From the latter part of the 1970s to date, Kerala has taken loans from the World Bank to the tune of $ 648.3 million for the development of agriculture, water supply, power and forestry. In 2002, the United Democratic Front (UDF) government took a loan of $ 300 million for modernising the government and for fiscal reform from the ADB, making a total of over a billion dollars, if we include the Japanese loan of $ 110 million, for water supply. Not only

Economic and Political Weekly March 3, 2007

Figure: Trend in the Percentage of Capital Outlay to Total Expenditure of Kerala1980-81 to 2004-05

20 18 16 14 12 10

8

6

4

2

cover the rehabilitation, improvement and expansion of (i) urban water supply,

(ii) sewerage and sanitation, (iii) urban drainage, (iv) solid waste management, and (v) roads and transportation. Part two will focus on urban community upgrading to help the poor.

It is specified that the MCs will oversee the implementation of community infrastructure services and livelihood promotion programmes in close coordination with Kudumbashree, the state’s poverty eradication mission with a respectable track record in poverty reduction. While the

Percentage

1980-811981-821982-831983-841984-851985-861986-871987-881988-891989-901990-911991-921992-931993-941994-951995-961996-971997-981998-991999-20002000-012001-022002-032003-042004-05

third part comprises elaborate sub-projects for local government infrastructure, the fourth part comprises capacity building to support project implementation activities by the project management unit (PMU) under the local self-government department and the project implementation units (PIUs) to be established by the five MCs. Without going into the details of quality specifications and other details, we may spell out the population coverage target of infrastructure envisaged by 2011 when the project is scheduled to be completed:

  • (i) 1.3 million people will have access to piped municipal water supply system;
  • (ii) 0.3 million poor people will gain access to piped drinking water and proper sanitation; (iii) 1.9 million people will have access to proper sanitation either through sewerage or on-site facilities with access to regular septic tank or pit desludging;
  • (iv) 0.4 million people will be served by well-functioning drainage system; and
  • (v) 1.2 million people will have access to better road facilities – traffic and pedestrian movement.
  • The implementation will be by an empowered committee (EC) to be established by the state. Needless to say, the commitment and efficiency of the EC will determine the quality of implementation of the entire project.

    The estimated total cost of the project, including physical and price contingencies is $ 316.1 million or a little over Rs 1,400 crore. The contribution of ADB is $ 221.2 million or 70 per cent of the total cost and the share of government of Kerala is $ 59.8 million or 19 per cent and that of the five municipal corporations $ 35.1 million or 11 per cent. The counterpart fund of around Rs 400 crore ($ 94.9 million) will have to be raised before December 31, 2011 when the project ends. This may not be a heavy burden as it involves also the imputed value of the facilities and services provided by Kerala. Unlike the state

    Year Percentage

    Sources: Based on the data from (1) Budget in Brief, issued by the department of finance, Government of Kerala, various years; (2) Reserve Bank of India, State Finances: A Study of Budgets,

    various years.

    that, during the period 2000-04, Kerala received technical assistance of $ 3.75 million from the ADB. More than 60 per cent of this was for providing technical support to the Kerala sustainable urban development project.

    During the Country Programming Mission in 2000, the GoI confirmed the selection of Kerala to receive support from the ADB. It was the Left Democratic Front (LDF) government that came to power in 1996 which pressed for a project for the sustainable development of the five municipal corporations (MCs), viz, Thiruvananthapuram, Kollam, Kochi, Thrissur and Kozhikode. Incidentally, it may be noted that the ADB, dominated by Japan, does not have the ideological predilection of the World Bank to roll back the state (which probably explains its readiness to leave a multi-pronged technical project of the state to the relatively inexperienced urban local bodies). An ADB mission visited Kerala on December 17-21, 2001 to hold discussions with the concerned municipal governments. Following further discussions with the state government, another ADB mission visited Kerala from February 26 to March 3, 2003 to undertake fact-finding for the technical assistance (TA) to prepare the KSUDP. The mission held discussions with state and central government officials as well as elected representatives of the selected municipalities and reached an understanding on the objectives, scope, cost and implementation arrangements of the TA. The TA report to India for preparing the KSUDP was produced in May 20031 (available on the ADB website). This probably was the document on the basis of which several rounds of negotiations were made. There were debates and even protests. The UDF government signed a negotiation draft on November 23, 2005.

    Following the general election to the local bodies, a new set of local governments came to power in the first week of October 2005, and all the five corporations passed resolutions welcoming the project. The new LDF government which came to power in May 2006 also initiated discussions with the ADB and the loan agreement was finally signed on December 8, 2006. This once again raised several controversial issues, which include such fundamental questions like why go for an ADB loan with conditionalities when Kerala’s banking sector is flush with money? With all these no one seems to question the receipt of Rs 1,435 crore worth of tsunami relief fund from the ADB, which too has conditionalities.

    Salient Features of Loan

    The broad macro goal is to increase growth potential and reduce urban poverty by 2014. Within the overall objective to improve and expand the urban environment, economy and living conditions of the people, the project focuses on the five municipal corporations of Thiruvananthapuram (capital city), Kollam, Kochi, Thrissur and Kozhikode. Broadly speaking, the project, has four parts. Part one will

    Economic and Political Weekly March 3, 2007 government, the existing debt burdens of the corporations are very low.2

    The ADB charges the London Inter Bank Offer Rate (LIBOR) for the loan plus 0.6 per cent. The LIBOR is used as the base for determining the lending rate charged by the banks engaged in medium-term lending of euro currencies for a variety of purposes. The actual rate charged by the ADB will be a six-month average of LIBOR and not what prevails on a particular day. There is also a commitment charge of 0.75 per cent per annum. The repayment period is spread over 25 years from January 15, 2011 which include a grace period of five years. Since the commitment charge commences after 60 days of the signing of the contract, by now the loan might have started attracting the charge.3 The foreign exchange risk has to be borne by the GoK.

    The loan agreement is not a simple document as it may appear at first sight because the details appended to it are spread over several documents such as the report and recommendations of the ADB president (RRP), the ADB guidelines and handbooks and so on and highlighting them is beyond the scope of this brief note. Suffice to note that details have been worked out in regard to appointment of technical support units, design and supervision consultants, award of contracts (international bidding only for contracts above $ 10 million or Rs 44 crore), environmental assessment, compensation to be paid in regard to land acquisition, location of sewerage process plant, consultation with local community and so on. It is important to mention that the scandalously huge number of foreign consultancies that characterise donor agency loans have been reduced to just one. Elaborate arrangements for monthly monitoring of all activities are also provided for. There are certain conditionalities which no one can dispute such as the clauses relating to HIV/ AIDS awareness, prevention of child labour, strict implementation of statutory labour legislations (including equal pay for equal work), strict monitoring of performance, transparency guarantees, accounting and auditing norms and so on.

    Rationale and Relevance

    Without entering into the polemics enveloping the ADB loan, I shall endeavour to raise a few questions to put the issue in perspective: Why go for an ADB loan with much conditionalities, why not mobilise domestic resources? What is the rationale in choosing an urban development project as a priority? Is the KSUDP an economically and financially viable project? In other words, is it going to impose an extra burden on the present and future urban community than what is reasonable?

    A constant refrain of several left wing intellectuals and activists has been why go in for an ADB loan with conditionalities and why not tap the domestic resources lying idle with the banking system? A word about conditionalities seems to be in order. As already pointed out, this is not a structural adjustment loan. No bank will offer a loan without some conditions. Your bargaining skill and collateral are crucial. Surely the centre imposes more conditionalities on the transfers (even when some of them are constitutional entitlements) including debt relief made to states than those insisted upon by the ADB.

    The deposits of the public and private sector banks (including foreign banks but excluding cooperative banks) as at the end of June 2006 was of the order of Rs 79,676 crore and the NRI component being Rs 32,247 crore or a little over 40 per cent.4 The total credit and investment was Rs 56,418 crore and the credit (including investment) deposit ratio at the end of June 2006 works out to 70.8 per cent. In such a scenario the margin of investible resources available for long-term investment cannot be significant. Even if we grant that the banking sector will spare Rs 1,400 crore for this project, the moot question is whether they will be made available for 25 years at or around the LIBOR (e g, 5-6 per cent). The average prime lending rate of banks is well over 12 per cent and the recent (January 31, 2007) Reserve Bank of India’s credit policy has already signalled a high interest rate regime; the suggestions for tapping the banking source seems simplistic. With the wholesale price index inflation rate already reaching 6.73 per cent by the first week of February, and the consumer price index well above 8 per cent, the real rate of the ADB loan will be negative. Not only that, the GoI which has very large foreign exchange reserves over $ 185 billion as on February 2, 2007 and a high projected export potential, the rupee will emerge as a stronger currency in the future. There is very little foreign exchange risk for GoK.

    Those who still insist only on local resources for infrastructural investment may do well to see the reality that during the last 25 years (1980-81 to 2004-05) the percentage of capital outlay to total expenditure of Kerala government has been declining at the rate of -5.49 per cent per annum. This is brought out in bold relief in the figure. The real question is: should not the state try to initiate measures to reverse this situation in a manner that will not be unduly burdensome to the future generation?

    The case for the sustainable urban infrastructure development of Kerala which historically evolved as a rural-urban continuum, but currently confronted with the somewhat strange phenomenon of a bulging urban poverty overhang and groaning under the heavy load of the liquid and solid wastes of a growing consumer society (confounded by the medical wastes that keep multiplying everyday) stands on unassailable grounds. The logical culmination of the innovative decentralised regime initiated by the GoK is to make the local environment liveable and pleasant first in the urban context where it is badly needed and then in the rest of the space in the continuum fashion. The poor quality of urban infrastructure in the major cities of Kerala, including its capital, is due to the lack of planned investment and proper management which can be remedied best by a critical input such as those envisaged in the KSUDP. Spreading out meagre annual allocations thinly can only be counterproductive. Although poverty levels as measured by the calorie-norm based headcount ratio (based on the NSS consumer expenditure survey) has fallen to

    9.4 per cent in rural areas, it was as high as

    20.3 per cent in urban areas in 1999-2000. The incidence of urban unemployment (as high as 47.1 per cent for females reckoned in terms of usual status measure as per the NSS 61st round (2004-05) as against 15.6 per cent for all India) is also very high. Kollam, Kozhikode and Thrissur have no sewerage systems while the inadequate facilities in Kochi and Thiruvananthapuram leave many things to be desired. Most sewage is discharged into open road drains which flow into canals. Wastes and encroachment along drainage channels which are poorly designed result in localised flooding during monsoons and periods of heavy rains. There is a clear lack of institutional responsibilities for waste management. Poor traffic engineering and management has led to an alarming increase in transport accidents and deaths. With or without an ADB loan, can a sensible government be unresponsive to these realities?

    Is the KSUDP economically feasible and financially viable? According to the RRP, which is a vital document of the ADB, all the project components (water

    Economic and Political Weekly March 3, 2007

    supply, sewerage and sanitation, etc) are “economically viable with the estimated economic internal rate of return (EIRR) values exceeding the economic opportunity cost of capital in all cases”. Sensitivity analysis indicates that the EIRR is most sensitive to the extent to which the new urban services attract and retain the targeted number of users and beneficiaries. The reported financial rate of return is also equally robust except the sewerage schemes.

    The ADB has drawn up a detailed financial plan to ensure the repayment of loans. Surely some of them appear objectionable.5 But they are not part of conditionalities. They form part of the specific assurances. Even so, there should have been greater appreciation of the fact that GoK today devolves 5.5 per cent of its own tax revenue to the local governments for maintenance, besides the 3.5 per cent for general purposes and the untied plan grants which have been on an average around 30 per cent of the annual plan during the last decade. It is important to acknowledge the fact that the local bodies in Kerala have a respectable record of generating own revenue (M A Oommen, ‘Fiscal Decentralisation to Sub-state Level Governments’, EPW, March 11, 2006), while underscoring the tremendous potential to augment the own revenue of local bodies. Already property tax and service tax reforms are in the pipeline in Kerala. Again, it is not proper for the ADB to put a target to reduce the supply of non-revenue water (NRW).6 It should be the sovereign privilege of the concerned local body to give water or any service free or price it. Moreover, the ADB’s observation that because the proposed tariff hike will only be about 5 per cent of the average household income, it is not high, is not correct. Actually, it is not the average for all households but the share of the hike to the income of the poor households that ought to have been considered especially because the project seeks to reduce the NRW margin substantially. While the bank as a prudent lender has every right to insist that the counterpart funds flow as scheduled or the repayment happens as agreed upon, the tone of clause number 9 in the schedule 6 of the loan agreement (repetition of what was there in the earlier draft of November 23, 2005) requires modification at some appropriate time. It reads: “The state shall ensure that all the MCs pass a resolution by March 2008 to introduce service tax and/or revenue mobilisation measures in each MC to meet shortfall of revenues needed to fund O&M of the expanded water supply”. Equally peremptory is the clause 8 which says: “By not later than March 2007, the state shall formulate a policy on conversion of stand posts to individual metered house service connections, and/or metering the stand posts, for the purpose of efficient demand side management and reduction of NRW”. Given the economic potential of the urban local bodies, the language of and the compulsions following from these clauses need modifications. This can be taken up in due course. Even so, one cannot but help show the other side of the medal as well. Anyone who sees the daily leakage of public water taps and pipes and misuse of them for washing of vehicles and animals will have no difficulty in testifying to the poor demand and supply management of water. For every tap (whether functioning or not) the MCs have to pay Rs 2,628 per tap to the Kerala Water Authority and it is only prudent management to meter and measure it. Why object to it and cry wolf? To conclude, every choice has its costs as well as benefits. So long as benefits far outweigh costs you are on the safe grounds. We need reasoned choices and not much ado about nothing.

    l:'

    Email: maoommen@gmail.com

    Notes

    1 The document contained several questionable inferences. For example, it says: “Kerala prospects for prosperity are threatened by chronic mismanagement of the economy manifested in the growing fiscal deficit”. The fiscal deficit of a state that could boast of social and human development attainments comparable to that of the so-called “developed” countries such as high female-male ratio, a fertility rate way below the replacement rate, near universal literacy rate without regional or gender disparities, high life expectancy and low infant mortality rate and so on cannot be due to “chronic mismanagement”. The ADB document has also failed to examine the failure of the intergovernmental transfer system in India to adequately address the persistent problem of vertical mismatches in resources and responsibilities of a state like Kerala.

    2 The share of interest and debt repayment (based on the accounts of 2000-01 to 2003-04) to total revenue of the Thiruvananthapuram corporation is less than 0.5 per cent.

    3 No one seems to be worried about it, not even the government. The commitment charge to begin with will be only for $ 33.18 million, and not for the entire amount.

    4 See the relevant tables in Agenda and Background Notes for State Levels Bankers Committee, Kerala, Canara Bank, Trivandrum.

    5 Any day a financial plan is better than the practice of public sector banks in Kerala, which entice customers to take loans but employ “goondas” for prompt recovery.

    6 Incidentally the NRW is an expression that suits a bank, but not a democratic government.

    Economic and Political Weekly March 3, 2007

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