RBI Allows Foreign Investors To Dabble In Municipal Bonds

The Reserve Bank of India has allowed foreign portfolio investors to invest in municipal bonds.

The measure will “broaden access of non-resident investors to debt instruments in India”, the Reserve Bank of India said in a notification on Thursday.

A handful of rated municipal bodies in India have issued publicly listed bonds in recent years. Rating agency Crisil estimates that about Rs 2,500 crore in such bonds are outstanding. While the municipal bodies that have come to market are well-rated, investors have been cautious because of the lack of transparency around municipal finances in general.

According to the RBI's notification, FPI investments in municipal bonds will be counted as part of the permitted limit for foreign investment in state bonds.

The RBI currently allows foreign investors to hold up to 2 percent of outstanding state development loans. The upper limit for FPI investments in state development loans stands at Rs 49,700 crore, but as of date they have only invested close to Rs 2,445 crore, shows data from the Clearing Corporation of India Ltd.

Earlier this month, the RBI raised the investment limits for FPIs to buy central government securities to 6 percent of the outstanding stock of securities in FY20 from the earlier limit of 5.5 percent in FY19. The central bank, however, left the limit for FPI investments in SDLs unchanged at 2 percent for FY20.

“There has been a concerted push in recent years to get urban local bodies to tap capital markets through municipal bond issuances and this notification gives a useful supply side impetus and a few large credit worthy urban local bodies planning issuances could benefit. However, expediting demand side actions to empower these bodies and to create bankable and well-structured projects will be key to realising capital flows sustainably,” said Anand Madhavan, director for infrastructure and public finance at Crisil Infrastructure Advisory.

Madhavan said interest from foreign investors will be limited to cities like Ahmedabad and Hyderabad which have a better credit rating, a good record of governance and infrastructure implementation.

State of Municipal Bond Financing

There are over 3,723 urban-local bodies in the country, of which 109 are municipal corporations and 1,432 are municipalities, according to the Thirteenth Finance Commission.

To help these bodies fund local infrastructure projects, municipal bonds were introduced in 1997. The Ahmedabad Municipal Corporation and Bangalore Municipal Corporation were among the first issuers. Since then others like the Pune Municipal Corporation have also issued publicly listed bonds.

While there have been sporadic issuances, lack of transparency in finances of a large number of municipal corporations has kept them away from the markets.

In 2017, the NITI Aayog had called for encouraging investments in municipal bonds stating that the, “introduction of standardised, time-bound, audited balance sheets across 4,041 urban local bodies would improve financial management as well as spur further reforms in this area.”