Building an infrastructure superhighway

Mukul Shastry details how state and central governments can plug the legal and regulatory gaps holding back the infrastructure sector

Human civilisation has been in existence for at least 5,000 years. During much of those five millennia the Indian subcontinent has been the dominant region so far as economic activities are concerned. We have easily been in the ranges of 20% to 30% when it comes to our contribution to world GDP.

This changed from the late 18th century to the mid-20th century, including the period when the country was under British rule. When modern India achieved independence, we were a poor country contributing less than 1% to global GDP.

It took six decades for India to become a USD1 trillion economy but only five years to make up the last trillion of the USD3.7 trillion economy that it is today. The pace is expected to rise, and we dream of being a USD10 trillion economy by 2035 – a level definitely within reach.

One of the vital sectors that could lead the country to this goal is infrastructure. The sector includes roads and highways, ports, airports, railways, energy, power, transportation, warehouses, data centres, logistics, multi-modal logistical parks and more.

The major reason why infrastructure can be the engine of India’s growth story is the multiplier effect. Various economists have different standards, but the range lies between 2.5 and six times for this multiplier effect. To put things in perspective, the National Infrastructure Pipeline (NIP) involves investment of USD1.5 trillion from 2019 to 2025, and may boost the Indian economy on its path to become a USD5 trillion economy by 2025-26.

This is the power of infrastructure. If we talk about the NIP alone, there are currently 8,964 projects with a total investment of more than INR1.08 trillion (USD13 billion) under different stages of implementation.

Likewise, the investment in renewable energies with a plan to have a 500GW capacity by 2030 whereby a whopping INR143 trillion is slated to be invested in areas such as green hydrogen, wind, electric vehicles etc., between 2024 and 2030.

In terms of the National Green Hydrogen Mission, which aims to make India a global hub for the production, use and export of green hydrogen and its derivatives, the government plans to invest INR180 billion by 2029-30 on this sector alone. This will lead to decarbonisation of the economy and reduce dependence on fossil fuel imports, and enable India to assume technology and market leadership in green hydrogen.

This, along with the FDI flow into India of USD70.9 billion in the 2022-23 financial year, indicates that India is attracting investment and the economy is on the right course.

Challenges of infrastructure sector

Despite such a rosy picture in infrastructure, the problems of the sector arise primarily from the legal and regulatory domains. The players and government have the right intent to solve financing problems, such as by establishing the Infrastructure Debt Fund, or tackling technological challenges with the launch of the PM Gati Shakti scheme, a digital platform to streamline the implementation of infrastructure projects and improve co-ordination between various ministries of the government. But they are still grappling to master the legal frontier – perhaps the final and toughest base to cover.

If we have to divide these legal and regulatory risks, we can put them into four categories: (1) political and regulatory; (2) environmental, social and governance (ESG); (3) technological or cyber; and (4) dispute resolution or enforcement of contracts.

Political and regulatory

This can be classified into two broad categories.

(1) Approvals and applicable permits responsibility. The number of approvals can seem endless, even in public-private partnership (PPP) projects, where the finance is brought in by private players, work is done by private players, and the private players are to recover their investment over a long period. Private players need approval in terms of environmental protection, conservation, forest clearances, right-of-way access, motor vehicles, petroleum and explosive safety, mines and minerals, and state-specific permits.

Although the typical concession agreement would provide that the concessioning authority, which generally is a state instrumentality, will provide help, in practice that is little and far between. It is the concessionaire – the private player – who has to get all these approvals along with the financial closure of the project.

If any of the approvals don’t come through no fault of the company, and the appointed date (the date when the project is to start) is not met on time, the concessionaire suffers the risk of penalty and, in the worst cases, termination of the letter of award, thus losing the security of the bid and wasting the time, money and energy it had spent thus far.

We need to be mindful that we are not discussing the obligations that are on the concessioning authority such as land acquisition, by which generally, if delayed, only the concessionaire suffers the consequences.

This is the reason why foreign private equity players generally don’t want to get into project construction. To bolster investment in construction by foreign players, one solution can be to reduce these approvals, and the responsibility of these applicable permits should be reversed.

Because it is a PPP, the regulatory part should be handled by the instrumentality of the state. The private party can pay for the cost of licences and the like, but the onus to procure approval should be either done jointly or on the concessioning authority.

(2) Inconsistent policies. Another problem that arises is the inconsistency of policies and frameworks. Although there will always be changes in legal clauses, the experience of private players has been extremely bad. A case in point is the changed goods and services tax (GST) regime. Many players, despite the change in the legal clause, could not recover their legitimate GST dues from state instrumentalities despite a lapse of almost six years. Such scenarios do not inspire confidence in investors.

Investment in infrastructure requires heavy capital expenditure and long payback, and thus there is a need for the policy and regulatory framework to not change substantially over a long period of time. In the unlikely circumstances that there is a need to change, then the private players should be allowed their legitimate dues in terms of various clauses such as a change in the law, force majeure, etc.

Environmental, social and governance

The heavy penalties levied for environmental violations have made big headlines. Likewise, poor governance has led to failures of big corporates. Social is also picking up and now diversity, inclusive growth and more, are talk of the town.

Although this sounds good and is in the interest of the larger public, we need to be mindful that norms for ESG are evolving. Consider how privacy rights have become extremely important after the Justice Puttaswamy judgment, leading to the new Digital Personal Data Protection Act.

This is good, but how much time is given to the private player, especially one who has invested heavily in the infrastructure sector? And abiding by these new norms comes at an extremely heavy cost. There is no discussion on such costs as compliance with extant laws always rests with the concessionaire.

These costs are neither reimbursed by the concessioning authority nor can the concessionaire pass on these costs to its users, because generally the fee a concessionaire can charge is regulated through a tariff rule. Getting a revised tariff from the authorities takes time and money.

Technological or cyber

In this ever changing and dynamic world where AI, the internet of things, machine learning and the like are going to disrupt the market sooner than later, infrastructure sector players may be the worst off. As technology changes, they need to not only invest heavily but also re-obtain regulatory approvals to ensure they can keep pace.

When the majority of revenue is cashless, the infrastructure players are also vulnerable to heavy cyberattacks, and they need to ward those off at their own cost. Thus, technology is helping other players while the infrastructure sector cannot take full advantage unless it gets approval, and it is vulnerable to the risks technology poses.

Again, a change is required in the mindset of how the PPP is run. There should be a special section in the concession agreement on technological development and how it should be treated. The private players, especially in the infrastructure domain, need the support of public bodies in ensuring they can leverage technology for the public good.

Dispute resolution, enforcement of contracts

India is generally doing well on the ease of doing business. But for the enforcement of contracts, we are not so good. A rank of 163rd out of 190 in the World Bank’s Doing Business Report 2020 didn’t bode well for a country like ours.

This indicates that a lot has to be done. There have been credible steps taken, such as the establishment of commercial courts in New Delhi, Mumbai, Kolkata and Bengaluru, as well as the amendments in the Specific Relief Act, 1963 (2018 Amendment), which significantly change the guiding principle where specific enforcement is the primary relief and damages the alternative. Further, the option of substituted performance and recovering expenses from the defendant has aided in boosting confidence in the parties.

Despite such factors, there have been many cases pending in courts of law. The data for 2022 shows that of the pending arbitration cases in India, around 48% were pending for more than a year. About 23% of cases stay pending for 10 to 20 years.

This doesn’t give us any pride, even in the enforcement of arbitration awards. The new Mediation Act is supposed to ensure that most of the matters can be settled through mediation, but how successful it will be remains to be seen.

Infrastructure requires heavy investment, and all is done on the strength of the contracts that parties are entering into. If the contractual rights cannot be enforced in a timely manner, players will not have any confidence to invest in such a capex-heavy and late-payback sector.

Hence, the need of the hour is to ensure there can be a dedicated tribunal for the infrastructure sector, like the National Green Tribunal, to handle purely infrastructure sector matters. In the high courts there could be special benches to only hear infrastructure-related matters, which would ensure that these matters are heard on priority.

If arbitration section 9, 11, 34 and 36 petitions are heard by a dedicated bench, then the chances of uniformity of decisions would be apparent, and that would also bolster confidence further.

Some possible solutions

There are certain low-hanging solutions that can be worked on for bolstering the legal and regulatory framework to help investors gain more confidence.

(1) Detailed project reports, based on which the concession agreements are drafted, should be made part of the concession agreement. At times it is felt that the promises on which the concessionaire has agreed to take on the large-scale infrastructure project would be justiciable.

(2) Approvals that are at present the responsibility of the concessionaire should be shifted to the concessioning authority, i.e. the instrumentalities of state.

(3) There exist infrastructure gaps within sectors; for example railways, civil aviation and other social sectors (health, education, sanitation, etc.) are laggards compared to roads, ports and electricity. Likewise, there are gaps in geographical distribution of projects as many states are far ahead of others.

This can be tackled by uniform laws and regulatory frameworks. Most of the infrastructure-related items are either in concurrent lists or in the union list. Therefore, the state and central governments should agree to a uniform standard, and this would ensure that there aren’t any state-specific issues, helping to boost investor confidence.

(4) An infrastructure regulator can be appointed, just like the Reserve Bank of India for the banking and finance sector, and the Insurance Regulatory and Development Authority of India for the insurance sector. An “Indian Infrastructure Sector Regulatory Authority” under the aegis of the Prime Minister’s Office itself could handle infrastructure sector disputes between private players and government agencies/concessioning authorities.

It could help in ensuring faster dispute resolution through binding mediation. Given that this body would be separate from the players involved, it could work as an umpire to resolve infrastructure disputes. This would reduce the dependence on drawn-out arbitration and court processes.

(5) The judicial process should be strengthened by having a separate bench for infrastructure matters at high courts and the Supreme Court that can handle them on priority. This will also lead to specialisation of that bench, and more uniform orders.

Conclusion

The infrastructure sector can be the engine driving India to become a USD10 trillion economy by 2035. For the sector to do that, we must focus on the issues of legal and regulatory gaps that are preventing it from reaching its full potential.

Mukul Shastry is the general counsel at Cube Highways and Transportation Assets Advisors.