THE federal government has released green Sukuk bonds to access domestic capital markets, in partnership with Sharia-compliant national banks, building upon the strong experience of Wapda’s 2021 Eurobonds. These instruments are developed mainly in response to constrained fiscal space and the need to finance the shrinking PSDP and operate as extensions of sovereign debt without direct built-in cost recovery mechanisms. Can municipal bonds help create fiscal space without adding to debt?

Our approach to infrastructure financing has relied on centralised mechanisms that may no longer serve our governance structure or address climate resilience challenges. This approach is at odds with the 18th Amendment. The devolution of environmental management, urban planning and municipal services to the provinces, and by extension the local governments (LGs), demands a corresponding evolution in financing mechanisms. The intent of empowering lower tiers of government is not fulfilled if financial instruments are exclusively federal.

Pakistani cities face severe infrastructure deficits, with climate vulnerabilities manifesting locally. Karachi sees daily water shortages of around 700 million gallons against a need for 1.2 billion gallons. Less than 10 per cent of Pakistan’s wastewater undergoes treatment before disposal. Municipal waste systems clog drainage, exacerbating flooding. Such service deficiencies cost our economy Rs112bn annually in healthcare expenses and lost productivity. These deficits are the domains where municipal bonds could prove transformative.

Municipal bonds as self-financing service mechanisms: Unlike federal instruments, municipal bonds can directly finance infrastructure tied to service delivery with intrinsic revenue generation potential. Water supply networks can generate consistent user fees while liberating citizens from informal markets that extract Rs50-70bn annually through tanker mafias. Waste management systems can establish service charges to address the Rs15.5bn annual economic loss from improper disposal. Sewerage infrastructure, though barely developed, provides essential services; recent studies in Peshawar and other urban centres demonstrate citizens’ readiness to pay if service delivery is reliable.

Municipal bonds provide the financial engine to power the vision of the 18th Amendment.

Governance reform: A transition to municipal bonds would mean governance realignment consistent with our constitutional framework. The 18th Amendment envisioned LGs as service delivery vehicles; municipal bonds provide the financial engine to power this vision. Since 2010, fiscal federalism has transferred Rs25 trillion to the provinces through the NFC Award without the corresponding empowerment of LGs. The Punjab and Sindh LG Acts require amendments to authorise municipal bond issuance, while KP and Balochistan require more extensive legal reforms.

The preparatory process would drive urban governance reforms, enhancing transparency by identifying service gaps, and strengthening revenue collection systems that currently capture less than half of billable municipal taxes. The provincial finance commissions are not operational to create predictable fiscal transfers to municipalities. To begin with, medium-sized cities with a stronger private sector presence can be prioritised. Faisalabad, with its industrial base and Rs9.1bn annual municipal budget could pioneer a water infrastructure bond of $7-10m. Sialkot or Peshawar could issue an $11-18m instrument for modernising waste management. These issuances would require credit enhancements or partial guarantees from provincial set-ups until municipal creditworthiness is achieved.

Addressing capacity concerns: Critics may ask whether our municipalities possess the financial sophistication needed for capital market access. This approach underestimates the transformative potential of the bond preparation process. The rigorous external scrutiny inherent in credit rating assessments and investor due diligence creates powerful incentives for improvements. The Punjab Cities Programme has already initiated financial management improvements in 16 cities, demonstrating the potential of reforms through property tax digitalisation that reportedly increased collection by 37pc.

Municipal vs federal instruments: The green Sukuk and Wapda Eurobonds are implemented through top-down project selection without localised accountability, adding to debt obligations that are approaching Rs73tr. Municipal bonds finance infrastructure with intrinsic cost recovery potential, reducing debt sustainability concerns. Properly structured municipal bonds could achieve debt service coverage that is well above minimum thresholds for investment viability. As Mujtaba Piracha argues in Property Taxes and State Incapacity in Pakistan, empowering LGs with authority over setting tax rates and valuation will create stronger incentives for better alignment with local service provision.

Pakistan’s climate resilience requires infrastructure investment of $30-40bn over the next decade. Nearly 80pc of this manifests at the municipal level, where adaptive capacity is the weakest. Municipal bonds represent constitutional alignment, governance improvement, and climate resilience enhancement through improved service delivery.

Path forward: Successful implementation requires financial system reforms in four metropolitan corporations, 80 municipal corporations and 204 municipal committees. Revenue enhancement must improve property tax collection from current rates of 60-65pc to over 80pc, addressing the Rs285bn annual revenue potential forfeited.

Provincial legislation for municipal bond authority needs enactment alongside establishing provincial finance commissions with district-level finance awards that provide predictable revenue sharing. Learning from other cities like Ahmedabad, Cape Town, Bangkok and others who have issued municipal bonds, dedicated municipal finance departments must be created perhaps through a centralised municipal development fund supported by provincial planning and finance departments. Independent credit ratings are essential for investor confidence.

Conclusion: A three-phase approach offers a roadmap: First, initiate reforms in pioneer cities. Second, prepare for market entry with guaranteed bond pilots. Third, scale up to larger non-guaranteed issuances including green bonds and municipal sukuks, potentially unlocking $1-2bn in climate finance. The 18th Amendment promised governance transformation. Municipal bonds offer the financial mechanism to deliver on this promise while addressing climate resilience risks. The time for transition is now, as urban environmental service deficits are reaching catastrophic levels.

The writer is a climate change and sustainable development expert. This column is based on his address at Lums.

Published in Dawn, May 22nd, 2025