Why India’s Cities Are Failing the Growth Story

India’s economic narrative is increasingly written in its cities. Urban areas already account for roughly two-thirds of national GDP, host the bulk of private investment, and concentrate the country’s productivity gains. Yet the institutions that govern and finance these cities remain fiscally anaemic.

India’s cities generate wealth, but they do not control it. This imbalance, long treated as a local governance issue, is of macroeconomic significance.

Municipal finances in India remain structurally weak by any comparative standard. Total municipal revenues and expenditures together hover at around 1% of GDP. By contrast, urban governments in many emerging economies command two to three times that share. Even within India’s federal structure, the asymmetry is striking. In 2023–24, revenue receipts of urban local bodies were estimated at about 0.6% of GDP, compared to over 9% for the Union government and around 14-15% for states. Cities drive growth, but they operate with the fiscal muscle of marginal players.

The erosion of municipal fiscal autonomy over time has compounded the problem. The introduction of the Goods and Services Tax subsumed several local levies that once provided buoyant revenues, including octroi and entry taxes. While GST has strengthened national market integration, it has also left cities more dependent on transfers. Today, grants from the Centre and states account for 70-80% of municipal receipts in many cases. Own-source revenues, the backbone of credible urban finance, are weak, volatile and unevenly distributed.

Property tax, the single most important municipal revenue handle globally, remains under-exploited. Across states, municipalities collect barely half of their assessed property tax demand, with collection efficiency around 55-60%. Under-assessment, political resistance, outdated valuation rolls and weak enforcement persist even in large cities. As a result, own tax revenues typically make up only about 30% of total municipal income, leaving cities unable to plan or finance infrastructure on a sustained basis.

This structural fragility has direct economic consequences. Urban infrastructure investment in India remains episodic and grant-driven rather than pipeline-based and financially sustainable. Projects move when central or state schemes allow them to, not when city economies demand them. The result is chronic under-investment in urban transport, water, sanitation and waste management, precisely the sectors that underpin productivity and quality of life.

Over the past five years, the Union government has rightly pushed capital expenditure to historic highs, using public investment as a growth lever. But this model has limits. Union capex cannot indefinitely substitute for city-level balance sheets. As central projects mature and state finances tighten under debt and subsidy pressures, the absence of financially empowered cities risks slowing the next phase of growth. Urban infrastructure is inherently local, long-duration and service-linked. 

Capital markets should, in principle, provide a solution. Urban infrastructure generates predictable cash flows when priced correctly. Yet India’s municipal bond market remains stubbornly shallow. As of early 2024, only about 18 municipal corporations had ever issued bonds, with total outstanding municipal bonds of roughly ₹42 billion. This represents less than one-tenth of 1% of the corporate bond market. Secondary market liquidity is negligible, reinforcing investor caution.

The reasons are well known. Weak accounting standards, inconsistent budgeting practices and opaque disclosures undermine creditworthiness. Many cities still operate on cash-based accounting, making it difficult to assess liabilities or ring-fence revenues. Predictable cash flows, essential for debt servicing, are rare. Credit enhancement mechanisms are limited, and pooled financing structures have struggled to scale. In this environment, municipal bonds become boutique instruments rather than a systemic funding channel.

Yet recent experience also demonstrates what is possible when fundamentals improve. Cities such as Chennai, Nashik and Pimpri Chinchwad have successfully tapped the market through municipal and green bonds, raising ₹2.0-2.5 billion at a time, often with strong oversubscription. These issuances benefited from cleaner accounts, escrowed revenues, credit ratings and, in some cases, interest subsidies. They remain exceptions, but they point to a scalable pathway if policy support and governance reforms align.

The implications of fragile municipal balance sheets extend well beyond the visible deficits of roads, water, or sanitation. They accumulate quietly across labour markets, capital allocation, and fiscal risk. When cities lack the capacity to finance transport, housing, and core services at scale, the costs are absorbed diffusely through longer commutes, lower workforce participation, and weakened agglomeration effects. These inefficiencies emerge as contingent obligations through state guarantees, off-budget urban entities, and periodic fiscal interventions. Over time, this pattern embeds a structural mismatch in public finance, where long-duration urban assets are supported by short-term and uncertain funding arrangements. What begins as a local fiscal constraint thus evolves into a macroeconomic drag, diluting growth multipliers and eroding the effectiveness of national capital expenditure.

Land remains the most underutilised financing lever in urban India. As cities expand and densify, land values rise sharply, driven largely by public infrastructure and regulatory decisions. Yet municipalities capture only a fraction of this appreciation. Land is routinely under-priced, poorly inventoried and weakly monetised. Instruments such as betterment levies, impact fees, development charges and joint development models are used sporadically, if at all.

Where land monetisation has been pursued seriously, the fiscal impact is immediate. Development authorities and municipal bodies have demonstrated the ability to raise hundreds of crores through targeted land auctions, sometimes in a single day. Digitisation of land records, GIS-based property mapping and transparent auction platforms have delivered double-digit annual growth in local revenues in several jurisdictions. They represent systematic capture of urban value that can be reinvested in infrastructure.

Critically, land value capture is non-tax financing. It aligns infrastructure provision with beneficiaries and avoids burdening already stretched taxpayers. For fast-growing cities, it is the most scalable source of long-term capital. Its underuse reflects not a lack of potential, but institutional inertia and fragmented authority over urban land.

No discussion of municipal finance can remain credible without acknowledging the shadow economy that thrives at the city level. Urban local bodies sit at the intersection of land, permits, contracts, and service delivery, precisely where discretion is high and oversight is weakest. This has produced entrenched rent-seeking structures around property taxation, zoning, procurement, and project approvals. It is also the subject political systems across parties are reluctant to confront, because municipal opacity finances local politics, lubricates electoral machinery, and sustains informal power networks. Reform is therefore resisted not due to ignorance, but because too many stakeholders benefit from the status quo. When cities are compelled to operate like balance sheets exposed to scrutiny, rather than administrative fiefdoms protected by opacity, corruption becomes harder to monetise and easier to detect.

Urban finance reform is also increasingly intertwined with India’s climate and capital market ambitions. Cities sit at the frontline of climate stress, bearing the economic costs of flooding, heat exposure, water insecurity, and waste accumulation. Yet access to long-duration climate and infrastructure capital, whether domestic or global, is conditioned on financial transparency, ring-fenced revenues, and credible investment pipelines. Most Indian municipalities remain poorly positioned on these dimensions.

Without financially empowered cities, India’s ability to mobilise institutional capital for resilient infrastructure will remain limited, regardless of the scale of national commitments. The underlying choice is therefore structural, whether cities are treated as administrative spending units or recognised as investible economic balance sheets central to growth, resilience, and market stability.

The Union Budget cannot directly overhaul municipal governance. Cities are constitutionally creatures of the states, and urban reform is politically sensitive. But the Budget can nudge change decisively. Conditional transfers tied to accounting reforms, property tax performance and financial disclosure can alter incentives. Credit support mechanisms, including partial guarantees and pooled bond facilities, can crowd in institutional capital.

Even modest improvements would have outsized effects. A small increase in own-source revenues, combined with better disclosure and ring-fencing, could unlock long-duration assets and create investible urban infrastructure pipelines. Pension funds, insurance companies and sovereign investors seek stable, inflation-linked returns. Well-structured municipal infrastructure can provide them, if cities are enabled to meet market standards.

Urban congestion, unreliable services and environmental stress already impose hidden taxes on firms and households. Productivity losses from poor urban infrastructure rarely show up on fiscal balance sheets, but they erode growth potential nonetheless. Citizens cannot be asked to wait for a distant vision of prosperity while daily urban life deteriorates.

Urban finance is no longer a niche concern of municipal administrators. It is a macroeconomic and market stability issue. India’s next growth phase will be shaped less by headline capex numbers and more by whether its cities can finance, build and maintain the infrastructure that growth demands. Fixing urban India’s broken balance sheet is not just about better cities. It is about sustaining the national growth story itself.