It's time to bury Isaac's lie and focus on the fears raised about KIIFB

It's time to bury Isaac's lie and focus on the fears raised about KIIFB
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Finance Minister T M Thomas Isaac's persistent attack on the office of the Comptroller and Auditor General, even after it has come to light that he had lied about the status of a CAG report, conjures up the image of a resolute nurse who wants to administer medicine to a patient who refuses to take it.

Every time the nurse brings the spoon near the mouth, the patient slaps at it causing both the spoon and the medicine to be thrown to the floor. But the nurse persists, brings another medicine-filled spoon near the patient. This, too, is slapped away. This repetitive offer-rejection ritual continues till the patient, perhaps wonder-struck by the perseverance, offers no more resistance.

In Isaac's spoon is the potent argument that if the CAG considers KIIFB's borrowings unconstitutional, it could destroy Kerala's unique development model.

And he is spoon feeding a sceptical public. Sceptical because the finance minister had lied about the status of the CAG report. He had claimed it was a draft when in truth it was the final report.

Isaac's perseverance

Isaac has conceded the mistake, and was publicly embarrassed, but continues to hold the spoon close to the people's mouth. Since November 14, when he first spilled the contents of what he then called the “draft” CAG report, Isaac has been all over the place.

He has been conducting press conferences on a daily basis and, as if that was not enough, appeared on television channels and gave interviews to major newspapers, all the time attempting to drive home just one point: the CAG's stand would be the undoing of Kerala's innovative growth model.

In between, his lie was exposed. But he kept up, with renewed vigour, his argument that the CAG was part of a conspiracy to stymie Kerala's economic progress.

It's time to bury Isaac's lie and focus on the fears raised about KIIFB

It is not clear yet whether the people of Kerala have been sufficiently won over by Isaac's persistence. But at a time when it was feared only gold smuggling and drug deals got the attention of the public, Isaac has succeeded in making something as nerdy as public finance prime time stuff.

Isaac wants procedural irregularities to be considered secondary. If he had breached the privilege of the Assembly by revealing the contents of the report, he said the CAG had inserted audit paragraphs in the final report that were not discussed with the state government. “This was extraordinary and against the principle of fair auditing,” Isaac said.

KIIFB: A necessary gamble

What is of primary importance, according to Isaac, is this: The future of KIIFB, and by extension Kerala, is under threat.

If all of KIIFB's borrowings, not just foreign ones, are deemed unconstitutional, Kerala has much to worry about. KIIFB was a last-resort mechanism, a huge gamble, conjured up to pull Kerala out of its development freeze.

Over 85 per cent of Kerala's revenue receipts were used up by committed expenditure (salaries, interest payments, pensions and subsidies). What's more, the interest and pension outflows were growing by 25-30 per cent every year.

This left virtually nothing for Kerala's development needs. In fact, the money spent by Kerala on creating new durable assets has consistently been less than 10 percent of its total development expenditure.

Product of consensus

Given that development had hit a wall in Kerala, it was only natural that the KIIFB was everyone's child. The Kerala Infrastructure Investment Fund Board (Amendment) Act, 2016, was passed unanimously in the Kerala Assembly.

The UDF had earlier conceded that Kerala could not do without a separate institution to boost infra spending. This is what the UDF Chief Minister Oommen Chandy, while presenting the last budget of his government in 2016, said: “To channelize and facilitate investment, Kerala Infrastructure Investment Fund Board is being revamped with an envisaged resource envelope of Rs 30,000 crore.”

The LDF then came in and put the KIIFB idea on steroids.

A vehicle to bypass legal bumps

Till then, major investment projects, say the Vizhinjam Transhipment Terminal or the Kochi Metro Rail, were executed by forming special purpose vehicles (SPVs) like Vizhinjam International Seaport Limited (VISL) or Kochi Metro Rail Corporation (KMRC).

The advantage of these SPVs is that, though government-owned, the funds they mobilise are not considered borrowings by the state. Since a state cannot borrow more than three percent of its GDP as per the Fiscal Responsibility and Budget Management (FRBM) Act, the SPVs are seen as a huge opportunity.

The loans taken by these SPVs fall outside the purview of the FRBM Act, and therefore will not be added to the borrowings of the state. They provide a prudent and accepted mode of securing relief from borrowing limits just the way home loans or insurance policies get income tax reliefs for individuals.

Kerala's most celebrated benami

This SPV route is used across the country to sidestep the disciplining cap on state borrowings under the FRBM Act. The LDF government enlarged the scope of SPV model, like never before seen in India.

If an ordinary SPV like KMRL or VISL can be likened to a pot that grows a single plant, KIIFB was imagined as an out-of-the-box pot that will grow nearly all the varieties in the plant kingdom. It was the mother of all SPVs.

It will mobilise funds for all manner of infra projects – schools, hospitals, roads, highways, power transmission lines, petrochemicals and life sciences parks, and a fibre optic network covering the whole of Kerala – but being an SPV would be considered separate from the state. At least on paper, the money it mobilises would not add to Kerala's fiscal deficit. In effect, KIIFB will function as Kerala government's benami.

Entity with reasonable inheritance

Nonetheless, Isaac has given KIIFB credibility by legally guaranteeing regular money flow from the government coffers to the Board so that lenders would find it trustworthy. The KIIFB (Amendment) Act, 2016 mandates that half the annual revenue from motor vehicle tax and the whole of petrol cess should be transferred to the KIIFB every year till the debts are paid off.

The finance minister had stated right inside the Assembly that this 'pocket money' (motor vehicle tax and petrol cess) would be enough to pay off KIIFB's debts when the repayment ends in the 2031-32 fiscal. This looks too good to be true, yet it seems plausible.

It is now clear that KIIFB would be borrowing Rs 60,102.51 crore in the coming years. This would mean that by the last year of repayment (2031-32) it would have to repay over Rs one lakh crore. The annual 'pocket money' (half of MV tax and petrol cess) the government provides would be between Rs 2,500 crore to Rs 3,000 crore; last fiscal it was Rs 2,600 crore but this fiscal, because of the Covid-induced slowdown, it is expected to go below Rs 1,500 crore.

If we generously assume that the annual 'pocket money' on an average would be Rs 3,500, the KIIFB would get Rs 52,000 crore from the government during a period of 15 years. This is near the Rs 60,000-odd crore the KIIFB is scheduled to borrow.

Isaac's hope is that the interest that this 'pocket money' would fetch will cancel out the interest KIIFB would pay for the loans it takes. If at all some gap still remains to be filled, it will be taken care of by KIIFB's revenue-earning projects; 25 per cent of KIIFB projects are income-generating.

Will the pocket money be enough?

However, there are some imponderables that could upset the KIIFB apple cart. One, can the government sustain the 'pocket money' at the level it wants.

The revenue from motor vehicle tax has not shown any marked increase annually. In fact, during the last three fiscals, the growth in motor vehicle tax was virtually nil: Rs 3,662.85 crore (2017-18); Rs 3,708.61 crore (2018-19); Rs 3,708.62 crore (2019-20). During 2020-21, because of COVID-19, it would drop considerably.

If this zero growth trend continues, the 'pocket money' is not expected to touch even Rs 3,000 crore annually. Then, the total outflow would be just R 45,000 crore, considerably short of the total borrowings of R 60,000 crore.

Two, it is also known that the interest pocketed from deposits would be far less than the interest paid out of KIIFB' pockets. The KIIFB' statutory auditor has already raised an alarm bell. While KIIFB's deposits fetch an interest of 7-8 per cent, its loans from banks and other financial institutions demand an interest between 8.95 per cent (Union Bank) and 9.723 per cent (masala bonds).

Timing of the CAG bombshell

Considering the urgency of development, such concerns have not been allowed to stand in the way of the KIIFB taking off. But just when it was about to spread wings, the CAG has observed that its borrowings are unconstitutional.

But by now, 433 projects worth Rs 16,191.54 crore – water supply schemes, road, canals, and hospitals - have completed tender processes and are about to begin implementation. It has already given Rs 5,374 crore toward land acquisition for national highway development. Over 50,000 classrooms have been made hi-tech using KIIFB money.

The CAG's damning observation was like a bomb blast in the middle of all this activity.

Is Isaac right to pick up a fight?

Isaac can be taken at face value when he says this was least expected.

The first thing KIIFB did was to form a Fund Trust Advisory Commission (FTAC) with the former Comptroller and Auditor General of India, Vinod Rai, as the chairman and the former deputy governor of the RBI, Usha Thorat, as member. The FTAC's job was to ensure that all KIIFB investments were in order. The FTAC had not found fault with any of its fund mobilisation methods.

Further, the CAG itself had audited KIIFB in the last two fiscals and have not found anything unconstitutional. And then, after all this, if the CAG has said 'unconstitutional' without giving the government an opportunity to state's its opinion, Isaac has every right to fight for his baby.

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