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Financing Sustainable Infrastructure: A Tale of Two Cities

The Hyderabad Metro under construction, July 2017. Photo Credit: Rajesh Pamnani/Flickr

Investment in infrastructure is vital for cities to function and prosper. But many local governments struggle to finance large infrastructure projects while a huge proportion of their residents live in poverty. Two pioneering cities – Hyderabad and Kampala – have successfully experimented with new ways of raising money, offering promising lessons for cities around the world.

Hyderabad has long struggled with congestion. Regularly paralyzed by gridlock, commuters are stuck for hours while the city’s air pollution has exceeded the notoriously toxic Delhi. To clear the roads and the air, the city is urgently trying to move people out of private vehicles and on to public transport.

In November 2017, Hyderabad opened its new metro. The decision to build it was both crucial and brave.

Railways are notoriously expensive and difficult to construct. The Hyderabad Metro was expected to cost ₹14,132 crore ($2.2 billion) – a steep bill to pay in a city where one in four people live in informal settlements without clean drinking water, reliable toilets or decent housing.

With these pressing demands on the public purse, the government had to find creative ways to finance the new railway.

Its solution? An innovative public-private partnership using mechanisms to capture land value.

L&T, an Indian conglomerate, is covering most of the costs of constructing and operating the new metro. In return, the government has granted the company right of way along the rail corridors and 109 hectares of land around the planned metro stations.

L&T will make about half of its revenue from train fares. The remaining half will come from developing this land into commercial real estate and renting it out. Since everyone wants an easy commute into work, the new metro stations will make L&T’s new land holdings much more valuable.

The government has used the rising land prices associated with this new infrastructure as a way to finance the investment: an ingenious solution to its cash shortfall.

Financial Maturity

The Hyderabad Metro is only possible because of sophisticated financial systems at every level of government.

Not many low- and lower middle-income countries can set up such complex financing arrangements. They need to improve their financial maturity if they are to successfully set up public-private partnerships or land value capture projects.

A new working paper from the Coalition for Urban Transitions, “Financing the Urban Transition,” explores how countries and cities can enhance their financial maturity. It shows how countries need to undertake different reforms and activities to build their skills and credibility with investors. This is essential for governments to raise money for essential public services, such as electricity, housing, transport and sanitation.

The working paper identifies three different stages of financial maturity:

  • Foundation countries need to get the fundamentals right. They have to establish clear regulations that are enforced consistently. They need to collect revenue in a transparent and systematic way, and improve the systematic planning and management of new infrastructure projects. While acquiring these skills, foundation countries are likely to depend on a small tax base and development assistance.
  • Transition countries need to introduce sophisticated financing instruments. They can borrow money, set up public-private partnerships, and pilot land value capture projects. National governments can also support states, cities and utilities to build their financial capabilities.
  • Established countries have a wider range of options, and can combine these to balance economic, social, environmental and private returns. Even cities in these countries can use complex financing mechanisms: Stockholm has introduced congestion pricing, Beijing has established a carbon price, and Johannesburg has issued green bonds.

Beginning With the Basics

It’s not just about building big infrastructure. Uganda’s capital Kampala, for example, does not have a metro. But action taken by the city government to improve tax collection shows what’s possible.

Kampala’s public transport system is primarily based on matatus, privately-owned minibuses that follow informal routes around the city. Matatu drivers have to pay about 120,000 Ugandan shillings ($35) a month in tax. For years, they avoided paying this tax. They were frustrated by the long queues for paying in person and the poor tax records that led many to have their vehicle impounded whether or not they had paid.

But in the last few years, the municipal government transformed its tax collection system. Kampala invested in a new software called eCitie, which allows matatu drivers to pay their fees using their mobile phones. It’s quick, easy and provides proof of payment to any passing inspector.

But it isn’t only matatu drivers who are benefiting. The city government can now collect payments for business licenses, hotel taxes, ground rents, property rates and market charges online. In five years, it tripled revenue from its own sources.

The local government is using this money to pave roads, improve drainage and install street lights. Kampala might not yet be able to afford a metro like Hyderabad, but it is rapidly building crucial foundational financial skills. More importantly, its commitment to more accountable, efficient revenue collection and expenditure is already making a real difference to the lives of its residents.

This original version of this article was published on Zilient.

Sarah Colenbrander is a senior researcher with the International Institute for Environment and Development (IIED) and senior economist with the Coalition for Urban Transitions.

Denise Chan is a senior associate in PwC’s cities and urbanization team.

The working paper, “Financing the Urban Transition,” was prepared for the Coalition for Urban Transitions by the London School of Economics and PwC.