Challenges
The opportunity to expand munici-
pal bonds market in India is exten-
sive, but the existing institutional
and legal constraints limit potential
growth. India’s ability to deepen its
municipal bond market and to raise
finance for its infrastructure needs
depends on several key reforms.
India’s municipal bond market
faces hurdles of low ratings, reluc-
tant investors and unclear regula-
tion. Most municipal corporations
in India have a limited understand-
ing of bond market. Smaller munic-
ipal corporations do not have ac-
counting and auditing standards
that meet regulatory stipulations.
Financial status of urban local
bodies(ULBs) is such that they lack
credit worthiness for using this in-
strument. Also only few large Mu-
nicipalities are working on the
credit rating which limits the scope
of Muni Bond to few larger cities.
Only few Indian municipalities
carry investment grade ratings.
This make potential investors un-
comfortable. Given the investment
requirement of the smart cities, De-
partment of Economic Affairs has
taken up a project for assessingCover Story
some cities like Chennai, Indore,
Bhubneshwar for their credit wor-
thiness and bond readiness.
Another area of concern is over-
lapping jurisdiction of state and the
centre which leaves many areas un-
clear for the investors. There is a
need to work on this direction.
Also so far there is no clear mech-
anism to deal with the issue of bank-
ruptcy of a municipal body. Bank-
ruptcy of many global cities in the
US and other countries are already
making investors wary. For example
Detroit became the largest US city
ever to file for bankruptcy in 2013.
In China there are now fears of de-
fault by local governments that have
raked in debt totalling $2.9 trillion.
These risks, coupled with poor fi-
nancial of Indian cities raises sev-
eral doubts for the investors.
According to Ajay Manglunia,
head of fixed income at Edelweiss
Financial Services Ltd “The munici-
pal bond market has no clarity and
the finances of various municipali-
ties are not as well managed. Till
these basic issues will be addressed,
the market may not take-off as ex-
pected”.
Another factor is that the bond inits current form is not attractive to
the investors. Both retail and insti-
tutional investors do not find mu-
nicipal bonds sufficiently rewarding
for the associated risk and therefore
they are staying away.
As per guidelines of the Urban
Development Ministry, only bonds
carrying interest rate up to maxi-
mum 8 percent per annum shall be
eligible for being notified as tax-free
bonds. However, SEBI’s Corporate
Bonds and Securitisation Advisory
Committee is of the view that hav-
ing a fixed rate of 8 per cent might
not attract investors.
Steps like making municipal
bonds tax-free, removing of the ceil-
ing of 8% on interest rate which
would enable municipal bonds to
become a second alternative to the
safe government bonds and thereby
induce investments.
“India should also actively inves-
tigate ways to boost activity within
its municipal bond market, which
can be a significant source of finan-
cial capital if it follows best practices
in other leading markets such as the
United States,” said a recent report
by Brookings Institute, a US based
think tank.<TABLE 7. Status of Municipal Revenue in India
INR (in crore) (Relative share (percentage)
Total 44,429 100
Own Revenue 23,522 53
Exclusive taxes 15,278 34.4
Revenue shared taxes 0 0
Non-tax revenue 8,244 18.6
Other revenue 20,907 47
Transfer from SFC 9,171 20.6
Grants in Aid (State Governments) 5,676 12.8
Transfer from CFC 869 2
Grants in Aid (Central Government) 2,373 5.3
Other 2,818 6.3Source: High Powered Expert Committee. “Report on Indian Urban Infrastructure and Services” (New Delhi: Government of India,
Ministry of Urban Development, 2011, p. 153).
Note: Data are sourced from Thirteenth Finance Commission report for 2007-2008STATUS OF MUNICIPAL REVENUE IN INDIA