Recalibrate credit risk to unlock infrastructure growth prospects

livemint.com:

₹80-85 trillion in capital expenditure will be made in this sector between 2022-23 and 2026-27. Debt, typically contributing about 70% of the project funding requirement, is expected to play a key role. Given the scale of the funds required, embracing risk-based pricing can help mobilize finance at an optimum cost.

Probability of default (PD) and loss given default (LGD), which are two fundamental components of credit risk assessment, can play a crucial role in evaluating risk and determining loan pricing. PD, indicated by credit ratings, evaluates the ability and willingness of a borrower to repay its debt obligations in full and on time. A credit rating of ‘AAA’ indicates the lowest probability of default, while a rating of ‘D’ indicates default.

LGD represents the loss that investors or lenders (hereafter used interchangeably) would incur should a debt instrument default. So, if the lender has an exposure of ₹100 crore, an LGD of 65% indicates the lender may suffer a loss of ₹65 crore in the case of default. While information on PD is readily available, obtaining data related to LGD poses a challenge— this is the case globally, not just in India—which makes it difficult for lenders to gauge the extent of credit risk involved in infrastructure projects.

Indeed, given the paucity of data, lenders tend to factor in a high LGD rate for infrastructure projects —with 60-80% being the typical assumption in India—even though these are way less risky assets, as a Crisil Ratings study indicates. Infrastructure is an evolved sector today: The government has embraced infrastructure as a key growth engine, recognizing its force multiplier impact on the country’s development. This is unlikely to change in a hurry.