The document discusses various financial instruments and legal forms that can be used to finance water and sanitation projects through capital markets, including bonds, BOTs, PPPs, and others. It provides examples of how bond markets have been developed in countries like India and initiatives taken in African countries. Key requirements for developing a local capital market include an efficient government debt market, institutions to mobilize long-term savings, and continued support from international lenders to leverage local funds.

1. Economic and Financial Instruments for IWRM Financing water and sanitation through bonds, BOTs and reforms

2. Goal and objectives of the session To look at the availability of a capital market at the national level and the possibility to use it in the water and sanitation sector To identify the different legal forms used for funding, which go with the different financial instruments which can be used in the water sector and have been introduced in the previous chapters To indicate how such a local capital market can be developed over time if the right attitude and policies are in place

3. Outline presentation Distinction between legal forms and financing instruments Introduction of capital market The importance of the capital market in your country Indian experiences How to develop a local capital market Africa’s experience with bond markets

4. Introduction We have explained that there are many sources of finance for the water sector. Still different levels of government, just like NGOs and micro-enterprises, may find it difficult to gain access to the existing formal finance system. A lot depends how well the capital market in your country is developed. This is the main theme of this chapter.

5. Financial instruments and legal forms Financial instruments : Bonds Loans Shares Lease arrangement Venture capital Contribution in kind Labour made available Micro savings & micro finance Islamic banking Municipal development fund Infrastructure investment fund Legal forms : Special Purpose Vehicle (SPV): Build-Operate and Transfer (BOT) and its variants such as Build-Operate and Own (BOO), Build-Operate and Lease (BOL) Private Public Partnerships PPPs Joint ownership Concession Service and management contracts

6. Definitions of major instruments Bond: a fixed term debt with a fixed rate of interest and a priority treatment in case of bankruptcy. BOT: Build-Operate-Transfer. T he project is carried out with (foreign) partners who operate the facility (for example a power plant) for 25 years or longer. Capital market place where demand &supply for capital meet. Joint venture: instrument of cooperation between enterprises. PPPs: Private-Public Partnerships. A co-operative ventures between a public entity and a private

7. Municipal bond markets Are a growing market in developing countries. FIRE project is helping for example Indian cities to prepare projects in such a way that bonds can be issued at the local or American capital market, using a partial USAID guarantee. Water supply, sewerage, roads, land development, education and health facilities could be financed. Dedicated cash flow is necessary to serve the bond.

8. The development of the bond market in India FIRE created possibilities for local governments to gain access to the local and international capital markets to allow them to finance infrastructure. Questions asked are: what are the pre-requisites to make PPPs a success? What kind of legal framework is required and where would the funds come from? The emphasis is on the conditions that need to be satisfied to attract different sources of finance.

9. Things going wrong with India’s bonds: lack of … Genuine commitment to reforms. Quality support for funding, and financing project development. Policy support & appropriate regulatory framework. Participation & capacity of stakeholders. Continuity of champions for the projects when leaders got transferred or defeated in elections. Ownership for the project within the city.

10. Mechanisms for financing water and sanitation: developing a local capital market requires: An efficient & liquid market for government debt. Development of institutions engaged in mobilizing long-term savings (insurances, pensions funds). Continue to tap funds from international lending agencies and utilize these resources as seed capital for leveraging funds from the market.

11. Initiatives in Africa A number of countries have taken initiatives to develop their local capital markets. Countries are eager to use bonds and equity to finance their infrastructure. Ethiopia has a bond market. Ethiopian cities will be allowed to finance their infrastructure in that way. Many countries want to move to what is a called a sub-sovereign bond market: public bodies below the level of the national state can issue bonds.

12. An example, Johannesburg in South Africa In South Africa it has already happened: Johannesburg has issued bonds with a guarantee of the IFC, the commercial wing of the World Bank and the national government (through the Development Bank of South Africa, DBSA). Although the city has not audited its accounts over the last years, it is so big and important for the South African economy that the government and the IFC were willing to guarantee the bond. The bond was taken up (bought) by local insurance companies and investment funds.

13. Arguments in favour of PPPs: complementarity Private sector is strong, because Private sector is driven by profit motive, but supposed to be more efficient Has technical expertise and provides continuity in know how Willing and able to take risks Large degree of freedom in organizational structure Can mobilise finance and can run financial risks Willing and able to organize O&M Weak point: May inflate cost Public sector is strong: Government is expected to strive for general good Used to weighing of interests Is good in assuring legal aspects of the project are in order Will take the political responsibility Good in planning & preparing Can regulate private sector Weak points: Can not run major financial risks Often cost overruns on government run projects

14. Key messages The easiest instrument to finance your water infrastructure remains the BOT. Conditions for success: have the required legislation in place, have bankable projects, the unit going for the BOT should have prepared a good cost benefit analysis. Infrastructure should generate a cash flow

15. Think about it Discuss your experiences with a more sophisticated way of financing the water sector, while indicating the advantages and disadvantages of each approach (of the different ways of tapping the capital market)

16. End The last chapter takes the different actors and shows what they can contribute: local governments, small companies, NGOs & financial institutions