Why Green Bond Yields For Municipal Corporations Are Less Than Satisfactory In India

These characteristics impede urban governance and development. They also create a significant challenge for modern and effective urban financing. An excellent example of this is the unappealing and underutilised potential of municipal bonds.

India introduced municipal bonds in 1997, five years after the 74th Amendment was passed by Parliament. This amendment paved the way for the establishment of urban local bodies and gave them some financial autonomy.

The Bengaluru municipal corporation was the first to float municipal bonds in the country, followed a year later by Ahmedabad in 1998. Later, other cities such as Pune and Hyderabad also issued bonds to raise funds to bridge the local infrastructure gap like roads, bridges and water supply systems.

Municipal bonds offer investors a safe and secure investment tool as these bonds are often backed by the creditworthiness of the issuer – in this case, the municipal corporation.

However, decades after devolving powers to local bodies, India's municipal bond markets have yet to perform as predicted. Between 2017 and 2022, municipal bonds managed to raise only Rs 3,840 crore even though Indian cities contribute to 55 per cent of the country’s gross domestic product (GDP).

By 2025, it is expected that an additional 215 million people will be added to India’s urban population. A high-powered expert committee has estimated that Rs 3.92 lakh crore will be needed for adequate urban development from 2012 to 2032.

Given the current bond yields, it appears difficult for urban local bodies to be able to raise this money through traditional financing methods. Thus, there is a need to issue municipal bonds, especially green bonds.

As climate-related risks grow, sustainability is fast becoming the buzzword. A lot of infrastructure is now being developed keeping in mind their climate resilience.

Hence, some municipal corporations have begun issuing green bonds, that are primarily aimed at financing projects that contribute positively to the environment. These are also known as climate bonds.

The European Investment Bank first issued green bonds in 2007 as “climate awareness bonds,” representing fixed-income products, the proceeds of which finance projects in climate change mitigation and adaptation.

Ahmedabad’s Example

Two years after the Securities and Exchange Board relaxed requirements for issuing municipal bonds, Ahmedabad, Gujarat’s largest municipal municipality, issued bonds to raise Rs 200 crore for 'green initiatives' in January 2019.

The Ahmedabad Municipal Corporation intends to use the funding for solid waste management, water delivery, and other infrastructure initiatives, like cleaning the Sabarmati River. These projects will be undertaken under the AMRUT initiative.

Investors oversubscribed the bonds 5.42 times. Nineteen institutions subscribed for Rs 1,085 crore. This was the AMC's fifth successful municipal bond issue.

The increased demand for Ahmedabad municipal bonds was a result of the municipal corporation earning an AA+ rating from credit rating agencies CRISIL and India Ratings in the fiscal year 2018–2019. This reflected the AMC's ability to pay interest and repay the principal amount.

India Leading In Green Bond Issuance

In Asia (excluding China), India has been leading in the issuance of municipal ‘green’ bonds since 2021. As of February 2023, Indian green bond issuances have reached a total of US$ 21 billion. The largest green bond issuer in India, Greenko Group, is funding hydro, solar, and wind power projects in several states with its green bond proceeds.

Ghaziabad Nagar Nigam, a civic body in Uttar Pradesh, is the first Indian local government to have issued a green bond (US$ 20 million in 2021). Indore Municipal Corporation issued US$ 87 million in green bonds in 2023.

Investments in renewable energy sectors are particularly important as they represented around 41 per cent of India’s GHG emissions in 2019 and are expected to account for two-thirds of emissions by 2050 as the economy continues to grow.

Green bond proceeds allocated to renewable energy will support the rollout of well-proven renewable energy technologies (solar power, followed by wind and small hydro), as well as research and development of new technologies, such as tidal energy. This is very important to support India’s energy transition journey, as currently, coal is the country’s main source of energy, accounting for 55 per cent of the energy needs.

With the foray of the Indian Government into the green bond market, we can look forward to more investments in green and climate-friendly projects and activities.

What Needs To Be Done?

One of the main challenges faced by the urban local bodies in accessing capital markets is their low credit worthiness, on account of slow governance reforms, poor accounting standards and low institutional capabilities.

Despite various initiatives such as the FIRE-D Project in 1994, tax incentives, Pooled Finance Development Scheme, the development of the municipal bond market has not been satisfactory. There have been various factors that have limited the growth of the municipal bond market.

India lags even developing countries such as Mexico and South Africa which have a share of 7.4 per cent and 6 per cent respectively.

Reforms in taxation, non-taxation, governance, and accounting standards are urgently needed in metropolitan municipal governments to overcome the rising mismatch between obligations and financial and institutional capacity.

According to CARE estimates, major municipalities could raise approximately Rs 1,500 crore each year using municipal bonds. In the long run, metropolitan municipal governments will need to tap into the market to effectively meet the expanding demands of a growing population.

Municipal bonds should expand beyond AMRUT cities since they can serve as a critical component of urban financing. It will gradually strengthen the creditworthiness of smaller cities, positioning them well financially as they evolve into larger cities.

A good regulatory system should be put in place that not only does 'greenwashing' of bonds in the name of sustainability but also brings eco-friendly green infrastructure to our communities.