Explain the meaning of investment in an economy in terms of capital formation. Discuss the factors to be considered while designing a concession agreement between a public entity and a private entity. (MAINS GS3 2020)
Capital formation is referred to all the produced means of further production, such as roads, railways, bridges, canals, dams, factories, seeds, fertilizers, etc. Investment in an economy in terms of capital formation refers to long term investment in an economy those aides in its multi-dimensional growth from industries to infrastructure, from physical infrastructure to digital infrastructure, from roadways, highways, and railways to waterways, and primary industry such as agriculture to the manufacturing industry.
Impact of investment in an economy in terms of capital formation
- Infrastructure Development: The development of roads, railways, bridges, canals, and dams help other sectors of the economy such as agriculture and industries. – It helps to develop the logistics sector due to the development of transport infrastructure which further eases the scope of doing business attracting further investment. – Development of the energy sector due to investment in capital formation in this sector helps to boost the economic development of a country.
- Industrial Development: Investment in the industrial sector in terms of the development of new industrial corridors, setting up of different types of industries, and investment in pre-existing industries help in economic development in the longer run. – It helps in the generation of employment and thus attracts human resources from across the globe helping the host countries in their human capital formation.
- Development of key social sector: The contribution of the industrial sector in the country’s GDP provides additional resources to the government to invest in key social infrastructures such as health, education, and sanitation.
- Development of agriculture: Investment in agriculture machinery, seeds, fertilizers etc helps in the overall development of agriculture for a longer period.
- For a country like India, where more than 62% of the population directly or indirectly depends on agriculture, long term investment will help to develop this sector.
- Concession agreement: A concession agreement is essentially a contract that gives a company the right to operate a specific business within a government’s jurisdiction or on another firm’s property
- Concession agreements often involve contracts between the non-governmental owner of a facility and a concession owner, or concessionaire.
- The agreement grants the concessionaire exclusive rights to operate their business in the facility for a stated time and under specified conditions. – For Example: Public-Private Partnership (PPP) model is a type of concession agreement between a public entity and private parties.
Factors to be considered while designing a concession agreement between a public entity and a private entity
- Purpose: The purpose for which the concession agreement between a public entity and a private entity is being designed must be fulfilled.
- Profitability: The project must be profitable from the government’s point of view. However, adequate profit must be given to private entities to run the projects.
- In the case of social infrastructure projects, viability gap funding must be done for rapid and successful implementation of the project .
- Viability: The project must be viable and fulfill its purpose in long run. Sufficient operations and/or maintenance component must be present in the agreement.
- Measurement of the performance of private partners: The success of concession arrangements often depends on the ability of the private partner, to manage the risks.
- The success of the project solely or largely dependent on the performance of the private sector in these types of projects. Hence these agreements must have the clause of measurement of performance of private partner.
Capital formation is an important factor that is responsible for the development of an economy. It helps the overall development of infrastructure as well as the economy of a nation. Further, concessional agreements are vital components of today’s economic setup and must be made attractive to private entities to garner maximum investment in the infrastructure sector. These steps will help India to achieve the $5 trillion economy target by 2024.
Topics - Importance of Investment in Capital Formation