Municipal borrowings for investment have been limited to either loans from Iller Bank or the use of the Treasury guarantee system (TGS) to access loans from international financial institutions for larger municipalities. The combination of the poor credit history of municipalities, potentially high local political risks, and non-availability of long term funds have prevented the creation of other funding mechanisms for municipal investments. The Treasury guarantee system has been revised recently but it has not yet been tested to see how well the new rules would apply since the incentive structure for the municipalities to behave in a fiscally prudent way is not yet fully in place. There is an urgent need to strengthen the system for municipal borrowing, given the build-up of municipal arrears, the weak incentives in place for financial prudence, and the need for economic selection criteria for investment. Reform of Iller Bank would be a central part of any such reform effort.
Current Situation
Collectively, municipalities have a poor credit record that has been a fundamental problem for the development of the sector. Their total outstanding debt to the central government and related public agencies amounted to US$5.1 billion in April 2002 (Table 5.1). An estimated 85% of this debt is not being serviced12. This includes debts to Treasury, Iller Bank and tax and social security offices as municipalities have failed to keep up their payments. The total debt is equivalent to about 4% of GDP or one year’s worth of total revenues for the municipalities. Most of the debt is owed by the 16 metropolitan cities where the needs are high, the ability to raise local revenues is not fully exploited, the borrowing represents 22% of the total revenues, and where the default rate is high.
(a) 12 months maturity, borrowed from money markets/banks by Iller Bank and on-lent to municipalities for short-term financing
Municipalities in Turkey use borrowed funds to finance only a part of their investments. Credits amounted to 11% of total municipal revenues in 2000 with the largest part, about 80% going to the large cities. The large cities also have received about 90% of the foreign loans, guaranteed by Treasury. In the same year, municipalities spent close to 31% of total revenues on investments, implying that only about 1/3 of all investments are financed by borrowings and the remaining 2/3 from current revenues (Table 5.2). Excessive reliance on financing investment costs from current revenues is sub-optimal since it causes delays in the implementation of investments and reduces resources needed for daily operations. Further, it makes the current generation pay a higher price for the investments compared to a scenario where investment costs could be financed through loans repaid through imposition of fees and taxes on actual users.
The foreign loans made to municipalities originate from International Financial Institutions (IFI), such as the World Bank, EIB, and KfW, to water and wastewater utilities. The loans have typically been made directly to the municipal utilities with a guarantee agreement between the IFI and the Treasury. Most of the loans made by the IFIs are not being serviced by the utilities. In effect, these loans are de-facto grants to the municipalities and the objective to create an environment where tariffs and fees would recover operating and investment costs is not met. Information on the payments made by Treasury, as a guarantor, to the IFIs is publicly available on the Treasury website.
