The relevance of DFIs

GS 3 Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.

Source : The Business Line dated 22/06/2021 https://www.thehindubusinessline.com/opinion/why-dfis-have-regained-relevance-today/article34913371.ece
Reference : https://prsindia.org/billtrack/the-national-bank-for-financing-infrastructure-and-development-bill-2021

Context

As promised in the Budget speech by Finance minister Nirmala Sitharaman, Parliament has approved the National Bank for Financing Infrastructure and Development Bill. This approval has paved the way for establishing the NBFID that would play a significant role in executing the ambitious infrastructure pipeline involving investment of Rs 111 lakh crore.

What is a DFI? (Development Financial Institution)
  • The Bill describes DFI as the principal financial institution and development bank for providing and enabling infrastructure financing throughout the life cycle of the projects concerned.
  • A DFI is basically an organization, either owned by the government or charitable institutions to finance infrastructure projects that are of national importance without expecting the standard commercial return.
  • DFIs are set up for providing long-term finance for such segments of the economy where the risks involved are beyond the acceptable limits of commercial banks and other ordinary financial institutions.
  • Unlike banks, DFIs do not accept deposits from people.  They source funds from the market, government, as well as multi-lateral institutions, and are often supported through government guarantees.  
History of DFIs in India
  • However, during the 1970-80s, DFI got discredited for mounting non-performing assets, allegedly caused by politically motivated lending and inadequate professionalism in assessing investment projects for economic, technical, and financial viability.
  • Due to these factors, Narasimhan Committee (1991) recommended disbanding of the DFI, and the existing DFI were converted into commercial banks.
Why do we need DFIs?
  • Infrastructure boost
    • As per the Economic Survey 2018, India requires around $4.5 trillion worth of investments till 2040 to develop infrastructure. However, the current trend shows India can only meet around $3.9 trillion infrastructure investment.
    • World Economic Forum’s Global Competitiveness Index– India is currently ranked 70 out of 140 countries for its infrastructure quality.
    • According to World Bank’s Logistics Performance Index, India ranks 44th in 2018 globally, up from 54th rank in 2014.
  • National Infrastructure Pipeline
    • NBFID would play a significant role in executing the ambitious infrastructure pipeline involving investment of Rs 111 lakh crore.
  • Banking limitations
    • There are difficulties in bank-led financing of infrastructure; their liability profile is not suited for financing long-term high-risk infrastructure projects.
  • NPA Crisis
    • The gap between banks’ assets and liabilities, already increased by bad debts will become unsustainable in infrastructure investment, given the long funding periods of such projects.
  • Economic boost
    • The government has envisaged attaining the target of becoming a USD 5 trillion economy by 2025.  However, this goal will depend on infrastructure across the country.
The National Bank for Financing Infrastructure and Development Bill, 2021 (Notable provisions)
  • Functions of NBFID: NBFID will have both financial as well as developmental objectives
    •  Financial objectives will be to directly or indirectly lend, invest, or attract investments for infrastructure projects located entirely or partly in India.  Central government will prescribe the sectors to be covered under the infrastructure domain. 
    • Developmental objectives include facilitating the development of the market for bonds, loans, and derivatives for infrastructure financing. 
  • Source of funds: NBFID may borrow money from: (i) central government, (ii) Reserve Bank of India (RBI), (iii) scheduled commercial banks, (iii) mutual funds, and (iv) multilateral institutions such as World Bank and Asian Development Bank.
  • Other DFIs: The Bill also provides for any person to set up a DFI by applying to RBI.   RBI may grant a licence for DFI in consultation with the central government.  RBI will also prescribe regulations for these DFIs.
Way forward
  • Specialized DFIs
    • The Centre must be open to the idea of multiple specialized DFIs modeled on the success of refinancing institutions such as NHB and NABARD.
  • Ensuring Good Governance: While freeing a DFI from political interference or crony lending is necessary, merely having private shareholders or professional managers on board isn’t sufficient to ensure good governance.
    • This has to be backed by a robust system of external checks and balances such as supervision by RBI and proper due diligence by auditors and rating agencies.
Conclusion

Prime Minister Narendra Modi’s clear message about placing trust in the private sector is seen as a bold reform that should attract domestic and global investments. The twin-track of boosting manufacturing with schemes like the Production-Linked Incentive and facilitating investment in infrastructure should take the Indian economy on a sustained double-digit growth trajectory. That is the only way out for creating jobs and meeting the aspirations of millions of Indians.

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