The Communiqué released by G20 Finance Ministers and Central Bank Governors Meeting[1] in Baden-Baden last weekend carries, beneath embarrassingly
dropping their commitment to free global trade, a less noted declaration:
“Given scarce public
resources and the key role of the private sector for sustainable economic
development, we welcome the work by Multilateral Development Banks (MDBs) on
mobilising private capital. We call on MDBs to finalise Joint Principles by our
next meeting and develop Ambitions on Crowding-in Private Finance by the
Leaders Summit in July 2017. We look forward to the joint MDBs’ reports on the
implementation of the MDBs Balance Sheet Optimisation Action Plan.”
What do they mean by MDBs Balance Sheet
Optimisation and why does it matter?
Let´s quickly revisit MDB history. The IBRD
(World Bank) was created as a sister organization to the IMF following the
Bretton Woods conference of 1944. In 1960, in a period when many poor countries
were shedding their colonial status to turn independent, the World Bank created
a concessional window, the International Development Association (IDA). Other multilateral
development banks (MDBs) were created, such as the African development bank (AfDB),
Asian Development Bank (AsDB), and the Inter-American Development Bank (IADB),
following the example set by the World Bank with two separate windows, a
concessional and a non-concessional. Concessional windows act like trust funds
and are regularly replenished by cash contributions from MDB member
governments. Non-concessional windows, by contrast, are largely financed by
MDBs issuing bonds at low interest cost.
MDBs enjoy developed-country guarantees, a
preferred borrower status and consequently investment-grade ratings. The MDB
core competence is the selection, monitoring and enforcement of loans and other
financial investments that foster human and physical investment not reached by
private finance because of high risk and weak or non-existent institutions for
the enforcement of financing agreements. It has therefor been argued that
financing global public goods may distract MDBs from their core competence [2],
including poverty reduction in low-income countries.
The legacy MDBs are still dominated by Western
governments. Especially AsDB governance is skewed: Japan remains the largest
shareholder and decision maker although China is by now the larger economy. As
long as such governance issues are not seriously addressed by raising voices,
votes and contributions by China (and India), uneven representation has a
negative impact on capital resources (to which China could amply provide) and
hence lending capacity.
The inception and creation of the NDB and the
AIIB, dominated by China (and other BRICS), this 2010s decade has - surely more
than by pure coincidence - let to US Treasury-led efforts to merge
concessional and non-concessional windows at the MDBs in order to uphold the
lending capacity of Western-dominated MDBs despite their relatively weak equity
endowment[3].
The pressure to close the concessional windows of MDBs is bound to rise with
the announced cut of USAID money under the first Trump budget as this cut will
translate into lower replenishment pledges by the US.
The AsDB 2015 decision to merge its
concessional and non-concessional balance sheets pioneered the approach to
raise leverage on MDB capital. Under the AsDB merger, the assets of the
concessional loan window, the Asian Development Fund (AsDF), was treated as
equity and brought onto the bank’s core balance sheet. The AsDF equity,
comprised of $30.8 billion in loans outstanding and $7.2 billion in
liquidity/receivables, effectively tripled AsDB capital to $53 billion. The Washington-based
Centre for Global Development (2016) estimates that the move increased the
AsDB lending capacity by 50%. AsDB has in January 2017 released
the new regulations for the AsDF[4]. Likewise, the IADB merged its two windows at the beginning of 2017.
Reforms are also ongoing in other international
financial Institutions. The IDA, following its 18th Replenishment, plans to
leverage its capital for non-concessional loans through a private-sector
set-aside window. The African Development Bank (AfDB) is opening its
non-concessional window to the poorest countries. Also IFAD - an MDB and a
spezialized UN agency - is exploring options
for changing the financial architecture, so as to increase the size of the
programme of loans and grants.
The AsDB merger has been described as “win-win-win”[5]:
AsDF countries see expanded access to lending; AsDB countries also see expanded
access (on non-concessional terms); and AsDF
donors see a 50 percent reduction in their contributions to the grant fund as a
result of a smaller pool of countries. Is this too good to be true - a free
lunch?
To approach the answer, let us have a look at a
simplified MDB balance sheet, with
(Assets) A= $ +γ(EC
+ ENC) + R = D + EC + ENC = L (Liabilities).
$ denotes cash, γ the leverage ratio of the loan stock
to the sum of concessional equity EC and non-concessional
equity ENC, and R reserves on the MDB asset side. The
liability side consists of MDB debt D and equity E, which can be
split into EC and ENC. Let´s denote the
ratio EC/ ENC by ε.
Now we can see when
the MDB windows merger will bring the advertised results:
·
On the supply
side of the MDB balance sheet equation, the ratio of concessional to
non-concessional equity ε determines the additional lending potential of the windows merger.
The more concessional equity can be merged into non-concessional equity (a
higher ε), the more bang for the buck can be expected.
·
On the demand side, composition of borrowers—those
requiring concessional lending terms and their size relative to
non-concessional borrowers – will define the leverage ratio γ as
non-concessional lending raises the leverage ratio while concessional lending
will reduce it toward 1.
Table 1: MDB Balance Sheet Ratios
MDB
|
AfDB
|
AsDB
|
IADB
|
IBRD
|
Equity ratio ε
|
4.16
|
2.24
|
0.07
|
4.38
|
Leverage ratio γ
|
2.49
|
3.79
|
3.26
|
4.13
|
Sources: Moody´s; CDG
(2016); MDB annual reports; own calculations.
The net result on the MDB lending capacity will
depend on how much additional finance the balance-sheet reform produces, and
how much of the additional resources is absorbed by a higher concentration of
fragile & conflict affected countries in the remaining pool of IDA
countries. The World Bank balance sheet lends itself to the optimization
proposed by the G20: Both the equity ratio and the leverage ratio are comparatively
high, so that lending capacity can be increased significantly by the window
merger. In contrast, the room for manoeuvre is quite limited for both the IADB
and the AfDB, albeit for different reasons.
The IADB had, already before the 2017 merger, wound down the
concessional window (FSO) to such an extent that the equity ratio tends toward
0, so there was virtually no concessional equity left to be merged into
non-concessional equity.
It has been argued by an AfDF working group
that AsDB merger would result in “lower levels of
concessional funding for Asian LICs, in particular on ´non-bankable´ social
infrastructure spending. It is also likely to reinforce a pre-existing bias in
the AsDB for ´bankable´ projects in the profitable energy, telecommunications
and transport subsectors or in agroindustry”[6].
Table 2: Eligibility to Access ADF Funding
-
Number of countries (out of 54 total) -
Creditworthiness to sustain ADB
financing
|
|||
Per capita income
above the ADF/IDA
operational cut-off
|
No
|
Yes
|
|
No
|
30 AfDF-only
|
3 blend-eligible
|
|
Yes
|
4 AfDF-Gap
|
3 AfDB-only
|
|
This would be
fatal in Africa where fragile and conflict affected countries are plenty and
where the majority of countries (Table 2) still depends on concessional lending.
[2] Buiter
& Fries (2002), What should the multilateral development banks do?, EBRD
Working Paper No. 74.
[3] Most publications in that direction have been published by the
Centre for Global Development (CGD). See CGD (2016), Multilateral Development Banking for This
Century’s Development Challenges. For an alternative view, see Reisen, H and C Garroway (2014). The Future
of Multilateral Concessional Finance. Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ).
[5] See CGD (2016), Multilateral
Development Banking for This Century’s Development Challenges, op.cit.,
p.35.
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