Download Measures of Total Debt Financing for Developing Countries

Constraints & Impediments
Affecting Financial Markets and Private
Sector Investment in Developing
Countries
Barbara Samuels, Senior Advisor, WEF & Project
Director, Business Steering Committee, UN FfD
Robert Sheppard, Co-Chair
Infrastructure Experts Group
15-16 March 2005
WEF FfD Workshop
Hong Kong
1
Agenda
• Measures of Decline: 1997 - 2004
• Reported Constraints & Impediments
• Specific Financial Market Impediments
• Impediments to Successful Financial Strategies
2
Measures of Decline: 1997 - 2004
3
Measures of Total Debt Financing for
Developing Countries
• Although private financing for developing countries rebounded in
2003, total debt financing has followed a downward trend since
1997
• Both bank lending and capital markets issues for developing
countries increased modestly in 2003 compared to 2002, but the
trend of both has been down since 1997
4
Debt Flows to Developing Countries
100
80
60
40
20
0
-20
-40
1997
1998
1999
2000
2001
2002
2003
Net Annual Flow (in billions of US$)
Official Creditors
Private Creditors
Source: Global Development Finance 2004, The World Bank, 2004
5
Bank Lending and Capital Markets Financing
for Developing Countries
180
160
140
120
100
80
60
40
20
0
1997
1998
1999
2000
2001
2002
2003
Gross Annual Volumes (in billions of US$)
Bank Lending
Capital Markets
Source: Global Development Finance 2004, The World Bank, 2004
6
Measures of Infrastructure Finance for
Developing Countries
• IFC’s A Loan / B Loan program has seen a consistent decline in
B Loan participation since 1998
• IDB’s A Loan / B Loan program has experienced an even more
dramatic drop in both A Loans (since 1999) and B Loans (since
2000)
7
International Finance Corporation
A Loan / B Loan Lending Program
12000
10000
8000
6000
4000
2000
0
FY 1998 FY 1999 FY 2000 FY 2001 FY 2002 FY 2003
Annual Loan Volume (in millions of US$)
A Loans
B Loans
Source: International Finance Corporation
8
Inter-American Development Bank
A Loan / B Loan Lending Program
900
800
700
600
500
400
300
200
100
0
1999
2000
2001
2002
2003
Annual Loan Volume (in millions of US$)
A Loans
B Loans
Source: Inter-American Development Bank
9
Reported Constraints & Impediments
10
Constraints & Impediments at Multiple Levels
• Country-Level
• Multilaterals
• Bilaterals
• The Gap: Market Requirements for Greater Mobilization
• Demand vs. Supply: Estimates & the Current Role of
Guarantees
11
Country-Level: Reported Constraints and
Impediments
•
Unprofitable projects (e.g., too risky, insufficient profitability & scale,
high upfront expense)
•
Inadequate legal and regulatory frameworks (especially at regional and
subsovereign levels; issue with local banking provisions for guarantees)
•
Unacceptable cross-border risk & insufficient access to local funding
(government crowding out, pension funds restrictions, government
fiscal constraints)
•
Weak local partners (e.g., operators, government)
•
Unrealistic public expectations
•
Difficulty/expense coordinating with multiple official donors
12
Multilateral Level: Reported Issues &
Constraints (1)
•
Limited resources & suboptimal utilization (e.g., existing private sector
portfolio limits)
•
Bias toward lending to public sector (e.g., skill base, operations,
policies, culture, backlash with unsuccessful privatizations & lack of
success)
•
Charter interpretations (e.g., restrictions on private sector,
subsovereign, involving nonmember countries, etc)
•
Concern with losing AAA ratings, tendency to emulate private sector
risk management processes (competing with private sector rather than
absorbing unacceptable risks)
•
Unwillingness to openly engage private sector, concerns with avoiding
perceptions of collusion (e.g., how to score guarantees, devise regional
& country infrastructure plans)
13
Multilateral Level: Reported Issues &
Constraints (2)
•
Slow, bureaucratic & politicized procedures (rigidity of Board approval
process, fear of innovation, politically-based decisions)
– One-off deals
– Lack of new programs/services (unresponsive to market
requirements)
– Politicization of work-outs & recovery processes
•
Reduced faith in umbrella value (e.g., IFC default rate on B loans up
from 1% pre-Asian crisis to 17% June 2003; Argentina deals)
•
Lack of “coherence” with IMF fiscal policies (inadequate differentiation
of expenditure vs. investment)
14
Bilateral Level: Reported Issues & Constraints
• Sometimes more innovative & flexible than multilaterals, but lack
scale
• Political focus, often bureaucratic (resistance to new programs)
• Often anti-business culture, fear of collusion
• Lack of sufficient coordination with other official sector entities
(in some cases many chasing same deals)
15
The Gap: Market Requirements for
Greater Mobilization
•
Credit requirements: 100% confidence that unacceptable risks covered
with timely payouts, transparency of recovery and workout procedures
(without politicization)
•
More relevant & credible guarantee products (covering equity,
regulatory risks, cross-border risk, demand risk, etc)
•
Reduction of project development costs (e.g., official support to
governments in project identification and structuring)
•
Open business participation in development of country and regional
development plans, regulatory & legal frameworks, etc (without being
precluded from deals)
16
Demand vs. Supply: Annual Estimates
& the Current Role of Guarantees
Demand
Supply
•
Total Annual:
– Water: $80 B
– Power: $80 B
•
•
Brazil Long-Term PPP Program:
$65 B PPP
Total Annual:
– ODA: $66 B
– Major IFI Guarantees: $2B
– Bilateral Guarantees:
$0.3 B (.005% total aid)
•
Mexico Long-Term: $100 B
Energy, $ 6B water (public
sector investment fallen from
12% GDP in 1981 to 2% in
1998)
•
From 2001-3 only 14
infrastructure project covered
for breach of contract
($976MM), 6 MDB credit
guarantees ($800MM)
Source: Winpenny, 2004
17
Financial Market Impediments
18
Impediments to Infrastructure Financing for
Developing Countries
• Sponsors are now reluctant to make new equity investments
• Commercial banks have retreated from project finance in both
developed and developing countries
• International capital markets investors avoid developing country
issues to finance infrastructure
• Local capital markets in developing countries are hesitant to
bear both the commercial and financial risks of infrastructure
• Multilateral institutions have been unable to replace or attract
new private funding
19
Sponsor Reluctance to Make New Developing
Country Investments
•
Previous developing country investments have produced disappointing
returns because:
–
–
•
Difficult conditions in sponsors’ home markets require that attention be
given to sponsors’
–
–
–
•
Regulatory risk has frequently reduced expected local currency cash flows
Devaluation has often reduced the US dollar value of local currency cash flows
Credit ratings
Balance sheet improvement
Share prices
Sponsors’ avoid new investments because:
–
–
They fear regulatory risk and devaluation will adversely affect new investments
They do not want to make decisions which appear to increase the risk profile of their
firm to rating agencies or shareholders
20
Reasons for Retreat By Commercial Banks
•
Commercial banks do not view provision of infrastructure financing to
developing countries as an attractive standalone product:
–
–
–
Project financing is provided only if commercial bank clients demand it
Other, easier transactions are used by sponsors to reward banks which provide support
for difficult project financings
Sponsors’ avoidance of new investment ends pressure on commercial banks to
continue to provide infrastructure financing
•
Commercial banks wish to present a lower risk profile to shareholders
•
Current banking strategies emphasize:
–
–
Fee income transactions, not transactions requiring assets to be held for long periods
Mergers & acquisitions and equity business, rather than traditional debt products
21
Why International Capital Markets Investors
Avoid Developing Country Infrastructure
•
Capital markets investors are very conscious of the risk of downgrades:
– Many international infrastructure transactions which initially carried an
investment-grade rating were downgraded to below investment-grade
– Linkage between sovereign rating of host country and transaction rating
worries investors
•
Capital markets investors were particularly disillusioned by Argentina’s
default
–
–
Investor’s have a heightened awareness of devaluation and regulatory risk, which they
see as linked
Investors now give less credence to co-participation by multilateral agencies in
infrastructure financings
22
Why Local Capital Markets Have Not Filled The
Gap Left By International Institutions
•
Limited understanding of the risks of structured financings for
infrastructure projects
•
Limited market capacity (average transaction sizes for local currency
financings are much smaller than for US dollar-denominated financings):
–
–
–
•
Government regulatory restrictions on the financial sector frequently hamper
investment in local infrastructure financings
Many countries do not have adequately developed long-term savings institutions
Local commercial banks may not be able to obtain long-term funding, thus creating
asset/liability mismatches if they provide infrastructure funding
Macroeconomic policies (both current and historical) often make local
investors prefer:
–
–
Short-tenor transactions
Floating, rather than fixed-rate debt
23
Why Multilateral Agencies Have Not Replaced
or Attracted New Private Financing
•
Role is to supplement and facilitate private financing to substitute for it especially in current climate of privatization
•
Lack of new investment by private sponsors has created fewer potential
transactions in which they can participate
•
More comfortable with commercial bank financing structures than with
capital markets structures - but commercial banks participation requires
clients as sponsors
•
In some cases, reluctant to develop new products: willing to continue to
offer old products until market for these products returns
•
Culture does not demand or provide incentives for measuring success
in terms of volumes of new transactions
24
Impediments to Successful Strategies
25
Four Financial Strategies
•
Structured transactions without explicit protection against currency and
country risk
•
“Targeted risk” approach, offering explicit mitigation of currency and/or
country risk
•
Currency swaps
•
Local currency financings
26
Structured Transactions Without Explicit
Protection Against Currency and Country Risk
•
•
•
•
Used successfully in the 1990s to finance electric power generation in
developing countries
US dollar-denominated debt
Mostly low-investment-grade ratings, but some below investment-grade
transactions
Ratings limited by the sovereign ceiling
Current problems with use of this approach:
• Fixed-income investors avoid developing country infrastructure
financings because of currency / regulatory risk
• Only applicable in a small number of developing countries
• Implementation of this strategy is dependent upon successful progress
on a broad range of institutional factors in host country, leading to
higher sovereign ratings
27
“Targeted Risk” Approach
•
•
•
•
Political risk insurance to cover inconvertibility and / or coverage to
protect against devaluation
Used in a small number of transactions, beginning in 2000
US dollar-denominated debt
Can achieve ratings above the sovereign ceiling
Current problems with use of this approach:
• Transaction rating (assuming use of a structure to breach the sovereign
ceiling) is limited by local currency rating of the transaction
• Local currency ratings for infrastructure projects are generally limited by
the sovereign’s local currency rating because of regulatory risk
• In most developing countries, the sovereign’s local currency rating is
below investment grade
• Therefore, in the absence of a means of mitigating regulatory risk, the
transaction’s rating remains below investment-grade
28
Currency Swaps
•
•
•
•
Rarely used, especially in individual project financings
Can be used as part of a structured program to provide a facility for
financing multiple transactions
Attempts to deal with the fact that few developing countries have long
term swap markets
Currently a topic of interest and continued work
Current problems with use of this approach:
• Difficult to implement in individual capital markets transactions because
unknown level of swap exposure at time of default is fatal to transaction
rating
• Ultimately, all approaches lead to swap exposure resting with the
government of the host country - and there is a limit on governmental
willingness and capacity to bear this risk
29
Local Currency Financings
•
•
•
Eliminates problem of currency mismatch between project revenues
and financing costs
Has been used in a number of recent transactions, especially in local
capital markets financings
Currently subject of great interest on the part of multilaterals
Current problems with use of this approach:
• Few developing countries have long-term fixed-rate debt markets
• The risk which appears as FX risk in US dollar financings reappears in
local currency financings as interest rate risk
• No structures have yet been devised to protect against local currency
project financing defaults caused by interest rate risk
• Extension of tenors in most markets has been based on “puts” and
similar structures which leave most risk with the provider of the put
30
Discussion Questions
FOCUS: Enhancing leverage of official sector & financial
governance:
– What other impediments need to be identified so we can
determine realistic concrete solutions?
– What do we need to understand about these constraints and
impediments to construct viable proposals for changing
transaction structures and the supporting process and
structures?
31