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H IDDEN DEBT
BOX 1.2 Low-, Medium-, and High-Risk Scenarios for Computing Losses to the Government from Contingent Liabilities of Public-Private Partnerships In the event that a project is terminated, it is safe to assume that the government will lose the entire public equity. Based on the considerations discussed so far in this chapter, equation (1A.1) in annex 1A can be written as follows, assuming that three scenarios—low, medium, and high risk—are considered for the loss given distress: ELi,99%= PDi,99% (Debti LGDDebt + Public Equityi + Private Equityi LGDEquity).
(B1.2.1)
In the low-risk scenario, the loss on debt given distress of the government from a project (LGDDebt) is assumed to be the recovery rate estimated by Moody’s Investors Service (2019): (LGDDebt = 0.793). Assuming this, the government does not cover the loss of private equity and only loses its own equity in the PPP, (LGDEquity = 0). In the medium-risk scenario, the loss on both debt and equity given government distress from a project is assumed to be 1 (LGD Debt = 1; LGDEquity = 1). That is, the government guarantees the total financing of the project, but does
not compensate the private party for the foregone return. In the high-risk scenario, in addition to compensating for all the debt (LGDDebt = 1), the government compensates the private party 150 percent of the equity it invested in the project (LGDEquity = 1.5), in line with the aforementioned contract terms for India’s road sector. The expected losses from contingent liabilities due to PPPs in country c, reported with 99 percent confidence—that is, with 99 percent confidence that the maximum annual loss will not exceed the calculated amount—are the sum of the expected losses within the set of all active projects in the country, Ic: ELc ,99% = ∑ i∈Ic ELi ,99%.
(B1.2.2)
Note: In the calculation of ELi ,99% for each project, correlations across projects in the same country are taken into account via both the distress probabilities, which control for country-specific factors, and their standard errors, c alculated using the delta method. The delta method uses the variance-covariance matrix of the regression analysis, in which the observations have been assumed to be correlated within the country (clustered at the country level).
equity to compensate the private party for the loss of expected return on its investment. Estimating Fiscal Costs of Active PPPs in South Asia India, Pakistan, and Bangladesh have the highest estimated fiscal costs from early termination of active PPPs in the region, while Afghanistan and Bhutan have the lowest. The estimated fiscal cost from early termination over the remainder of the contract periods of the PPPs ranges from $9.7 billion to $18.5 billion in India; $1 billion to $2 billion in Pakistan; and $379 million to $730 million in Bangladesh (see table 1F.1 in annex 1F). Even though Sri Lanka’s current PPP portfolio is about half the size of Bangladesh’s portfolio in terms of the number of projects, and almost 50 percent larger than Nepal’s portfolio in terms of total
investments, the fiscal cost estimates in Sri Lanka are less than one-sixth of the estimates in Bangladesh and less than 80 percent of the estimates in Nepal. The main reason is that the PPPs in Sri Lanka have mostly passed 40 percent of their contract period, while the portfolios in Bangladesh and Nepal are younger.21 In most South Asian countries, about 39 percent to 50 percent of the fiscal costs from early termination of active projects are due to the risks of early termination during the 2020–24 period. Nepal is the exception to this trend because the costs increase at a slower pace. In the low scenario, for India the fiscal cost due to the risk from PPP cancellations is estimated not to exceed $853 million (8.8 percent of total costs) in 2020, with 99 percent confidence. In the 2020–24 period, the estimated fiscal cost (value at risk
