How accurate are investment projections?

The recent infrastructure summit assessed and highlighted the extent of investments required in infrastructure...

The recent infrastructure summit assessed and highlighted the extent of investments required in infrastructure,identified as the main growth driver which has strong forward linkages in stimulating domestic demand in the 11th Plan period. Earlier,the approach paper estimated the infrastructure need of over $500 billion and the revised estimates calculated as part of the mid-term appraisal were also almost similar. But for the 12th Plan,the Planning Commission estimates an investment need of little over $1 trillion,twice as much as in the Eleventh Plan. This is estimated to be nearly 9.95% of GDP,compared with 7.55% in the 11th Plan. The commission also envisages that in the 12th Plan,the role of the private sector will be much highercontributing nearly half of the total compared with its projected share of 36% in 11th Plan. Although,as the Prime Minister rightly pointed out,the successful infrastructure strategy depends critically on the implementation,this would also depend equally on the robustness of the framework used for estimation of infrastructure needs.

The recent publication of Investment in Infrastructure during the Eleventh Five Year Plan by the secretariat of infrastructure,Planning Commission,highlights the methodology that was used in revising the 11th Plan targets and also estimating the 12th Plan ones. The estimates were provided for at sub-sectoral level and also at Centre,state and private sector level. One significant addition in these estimates is that it adds investments on gas pipelines to the oil pipelines. But it is disappointing to note that most of the estimates are done on an ad hoc basis.

In other words,the growth rate in the latest period has been used for the projection period. For both the central and state sector,constant growth of 10% is assumed. But for the private sector in the electricity sector,it has assumed 10% growth and in railways,telecom and storage sectors,the report indicates using log-linear model based on past five years of observations. For oil & gas pipelines,roads and ports,it assumes 15% growth per annum. The report also assumes a GDP growth of 9% for the 12th Plan and for the rest two years of 11th Plan as 8% and 9%.

At the outset,it is perplexing to know that the secretariat assumes a GDP growth of 9% for the 12th Plan while the government is harping on achieving double-digit growth. The more serious issue is about the adoption of an ad hoc method for estimating investment needs of such an important sector. Ideally,the assessment of investment (or expenditure) needs of any sector should be based on sectoral elasticities (or multipliers) with respect to income. Another way of estimating is through a dynamic macroeconomic framework that considers GDP (or the relevant sectoral) growth also an endogenous variable.

To this end,we have undertaken the elasticities approach and estimated the investment needs. By using dynamic OLS (DOLS) method and with time series data from the post-reform period,we have estimated elasticities for six subsectors: electricity,telecom,railways,ports,road and air transport. We base the investments projections for the 11th Plan on these elasticities. Our estimates,compared with the Planning Commissions earlier ones,show that across the subsectors (except for telecom),official calculations are underestimated. We find that the underestimation is around 12%,8%,10%,16%,and 18.6% for electricity,railways,ports,air transport and roads,respectively. Overall,in all these sectors,the Planning Commission underestimates the infrastructure investment needs by around 10.5%. This would obviously have serious growth implications.

There could be many arguments against our estimates. But a simple point that we try to draw here is that our estimates could be robust compared with the one derived from ad hoc methods. Its puzzling that even after doubling the infrastructure investment projections between 11th and 12th Plans,the GDP growth is expected to remain constant at 9%.

On the implementation side also,the realised investments in the first two years of the 11th Plan appears to be not so encouraging.Except for telecom and airports,in every other sector,the investments are much less than projected. This has also led to downward revision of targets for the 11th Plan as a whole. This is particularly so in important sectors such as electricity and roads.

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To finance the projected investment needs,the government encouraged private sector participation through public-private partnerships (PPP). But except in airports,the extent of projects under PPP appears to be negligible. Even the extent of FDI investment in infrastructure is far from desirable levels. This calls for more concerted efforts to boost investments in this sector.

As the Prime Minister noted at the RBI platinum jubilee meeting,there is a need for structural reforms in domestic financial markets to mobilise long-term finances for infrastructure. On the foreign investments front,though many sectors have been allowed up to 100% FDI through the automatic route,there appears to be many bottlenecks that hinder the actual investment flows. This is evident from the World Banks Doing Business Survey-2010 that ranks India at 133 (out of 183 countries). This is very low compared with other emerging market economies which compete for FDI such as Brazil (129),Russia (120),China (89) and South Africa (34). Even in South Asia,India ranks at the bottom.

It is clear that the government considers infrastructure as a key driver of growth. But in terms of need assessment and implementation,it should formulate an integrated approach.

The writers are with National Institute of Public Finance and Policy and Fore School of Management,respectively