March 26, 2022: In developing countries, one of the main concerns remains limited government spending capacity to bridge the infrastructure financing gap. It is for this reason that attracting private investment is critical to ensure the sustainable management of infrastructure, SECP Chair Aamir Khan said during a keynote address at a capacity building session for financing infrastructure through capital markets.
The session was organized by Infrazamin Pakistan to increase the reach and understanding of all stakeholders about the role and importance of capital markets.
He gave examples where both government and non-government bonds have been issued to fund infrastructure projects, such as the Metro Manila Flood Management project in the Philippines, the Mumbai urban transport project in India or the Izmir metro extension project in Turkey. All of these projects have directly impacted and enhanced the lives of the masses, as well as helped develop their respective bond markets, he added.
In Pakistan, the development of public and private infrastructure has made some progress over the past decade. As a result, significant investments have been made in road networks, urban transport and telecommunications. These advancements have not only improved the mobility and connectivity of the general public, but have also helped those at the bottom of the pyramid improve their livelihoods. In addition, he explained to the participants, it has also brought financial inclusion for the underprivileged and unemployed and created employment opportunities for the female population. And all this has been achieved by investing a very small percentage of GDP.
It should be a matter of concern to all of us that Pakistan’s infrastructure spending is one of the lowest in the region and well below the investment requirements of 8-10% of GDP, when looking at past and future demands. And the problem is growing every year, because the infrastructure projects are financed either directly by the government or by commercial banks against government guarantees. Given the limitation of funding from these sources, the investment gap will continue to grow. Therefore, all stakeholders need to sit together and map out the obstacles we face in adopting financing alternatives through the capital markets.
The SECP chairman expressed his firm belief that Pakistan’s capital markets represent an untapped opportunity and the most viable solution for bridging the gap in infrastructure financing needs that I have mentioned. It will also help address the country’s very low savings rate, a long-standing barrier to the economy’s expansion. Pakistan Energy Sukuk’s 200 billion PKR transaction in 2020 is a testament to the potential of capital markets. This significantly reduced government borrowing costs and allowed investors other than banks to participate directly.
Over the past two and a half years, SECP has introduced several regulatory enabling provisions. He mentions that the SECP has simplified the process for issuing government and government-guaranteed debt securities; the market making framework has been revamped to address liquidity, and as a result 16 financial institutions have been registered with PSX as Market Makers; The introduction of secured and unsecured debt securities, including GDS, through the execution of issuance agreements has been introduced;
The Infrastructure Fund, as a separate category of private fund, is allowed to invest up to 70% of its net assets in the infrastructure sector. In addition, the SECP has issued green bond guidelines to raise funds to finance infrastructure projects that make a positive contribution to the environment.
He further explained that infrastructure mutual funds, in an open-ended structure, are now required to invest 70% of their net assets in the infrastructure space; and PPP-REIT schemes under the updated REIT regulations, can now perform the development, upgrade and maintenance of infrastructure projects.
These measures, Khan said, are complementary to the 2016 SBP Prudential Regulations for infrastructure financing, which expanded the scope of infrastructure financing to include social, cultural and commercial infrastructure projects.
The government of Pakistan, for its part, has also implemented several reforms to facilitate private sector involvement in this area. The formation of a dedicated Public Private Partnership Authority and recent changes in 2021 to the Public Private Partnership Authority Act have revitalized this space. As a result, the regulatory process for developing and structuring infrastructure projects on a PPP basis has been streamlined. Therefore, a number of mega projects have been approved by the Public Private Partnership Authority such as Karachi Circular Railway, Sukkur-Hyderabad Motorway and Kharian-Rawalpindi Motorway.
In addition, he said, recent changes to the Companies (Asset Backed Securitization) Rules 1999 have streamlined matters related to management and transfer of ownership. Historically, this has been the main hurdle to using SPVs for infrastructure financing. In addition, the adoption of the ABS rules has allowed federal and provincial governments to facilitate the issuance of structured debt securities and raise funds through the capital market.
And finally, the government has taken the initiative to transform the Pakistani credit guarantee company into an NBFC structure. SECP has already authorized the creation of the new entity, the National Credit Guarantee Company Limited. In addition, necessary changes have been made to the NBFC regulations, allowing credit guarantee companies to take greater exposure to contingent liabilities of up to 10 times their equity. The NCGC will promote the credit enhancement mechanism in an efficient and timely manner while supporting the development of the local bond market.
Following the current situation, the challenges and the measures put in place so far to address them, the SEC chairman has pointed out the areas where further action is required.
First, he said, it is imperative that infrastructure finance instruments be structured in such a way as to appeal to investors. One such attraction is the provision of credit guarantees, in line with the global debt issuance, while meeting the needs and preferences of local investors.
Second, improvements in the risk management structure in the project design phase are vital. Given the long duration and complexity involved, especially in the case of a PPP structure, a forward-looking approach should be implemented, clearly taking into account a life-cycle risk assessment. Third, amendments could be made to the PPP Act to further improve the governance and risk management framework. Fourth, the operationalization of a Viability Gap Fund is critical to attract and boost private sector involvement in social infrastructure development, he concluded.
The importance of the agricultural sector for creating jobs, saving valuable currencies and guaranteeing food security should also not be overlooked. Looking at infrastructure needs, efforts should be focused on redirecting infrastructure financing to this sector. Pakistan is a country vulnerable to climate change. Therefore, we must take environmental sensitivities into account when attracting private capital, with a view to sustainability.
He stressed for an effort to work for a technical listing of privately placed infrastructure investment pools such as Neelam Jhelum and Dassu Hydroelectric Projects. Similarly, the GOP should consider using capital markets for all future government-guaranteed infrastructure projects.
Finally, he suggested that the necessary tax breaks should also be introduced to encourage direct investment in infrastructure projects by private and institutional investors. He concluded that using capital markets is the only viable option to meet the country’s financing needs.
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