The spring meetings of the IMF and the World Bank are an opportunity to draw attention to financing for sustainable development. This year, it is clear that the main canals are blocked.
To understand why, it helps to start by understanding the fundamentals of financing for sustainable development. There are many channels, each with its own drivers.
As shown in Table 1 below, external financing in support of the Sustainable Development Goals is in the range of $500-600 billion. These figures include a number of different funding sources for sustainable investing, including aid, loans and private flows. We adjust net official development assistance (ODA) for amounts that cannot be used for sustainable development investments: donor administrative costs, in-country refugee burdens, and humanitarian assistance. What remains, an approximation of what is called country programmable aid, can be used for investments aimed at achieving the Sustainable Development Goals (SDGs).
If developing countries can develop strong project pipelines and improve their political and institutional structures, and if advanced economies provide political and financial support to unclog funding channels, the agenda can be moved forward.
The nature of official flows is reasonably well understood. Private flows are less easy to categorize, which can be divided into five categories: (i) loans to sovereigns and their companies via bond markets and syndicated bank loans; (ii) private philanthropy, which is now taking on significant proportions; (iii) private financing mobilized in investment projects in co-financing with multilateral agencies (the International Finance Corporation is the main mobilizer); (iv) private provision of infrastructure (mainly in power generation, but also toll roads and hospitals); and (v) impact investing in a variety of sectors.
Smaller development finance channels are closing or showing little prospect of improvement in the short to medium term. For example, while there is a lot of excitement about environmental, social and governance investments and sustainability bonds, very little of this money is flowing to developing countries, and there is a growing backlash against “greenwashing”. “. Private philanthropy is important but not organized in a systematic way and responds to the preferences of individual donors rather than being directed towards the SDGs. Much of it comes in the form of in-kind donations. And flows from big emerging economies like China and India have slowed dramatically, starting – in the case of China – well before the pandemic, and getting weaker and weaker as recipient countries put their projects on hold. of investment. From a policy perspective, apart from committing these creditors to debt relief (see below), there is little that policy makers can do in the short term to provide more resources.
For this reason, the real political debate focuses on the three main channels which account for around two-thirds of the flows: aid, non-concessional official loans and private loans to sovereigns or entities benefiting from a sovereign guarantee. Policy makers need to find a way to unclog these channels.
Table 1: Net contributions to broader international development finance (current USD, billions)Source: Author’s calculations, based on data from OECD Statistics, World Bank International Debt Statistics, UN Financial Statistics, Boston University Global Development Policy Center, Department of Business from the Indian Government, Indiana University Lilly Family School of Philanthropy, OECD TOSSD, World Bank Private Participation in Infrastructure (PPI) database and Global Impact Investing Network (GIIN).
It is commendable that aid has continued to grow even as advanced economies have seen their own domestic situation deteriorate. Overall aid from Development Assistance Committee countries increased in 2020 and 2021, with increases from countries including Germany, Sweden, Norway, the United States and France. Multilateral aid has grown even faster, with disbursements from the IMF’s Poverty Reduction and Growth Trust Fund and the World Bank Group’s International Development Association (IDA) providing much-needed countercyclical financing. Aid has continued to increase in 2021 and major international funds have been replenished, including IDA and the Green Climate Fund.
However, aid in some important countries, notably the UK, fell in 2020 and again in 2021. In total, aid increased by 0.6% in 2021 in real terms, excluding COVID vaccines -19. At one level, it is commendable that aid has continued to grow despite real budgetary difficulties in each donor country. At another level, however, aid increases appear modest. The increase in ODA in 2020 was modest – less than 0.1% of the $12 trillion that donor country governments spent on their national fiscal stimulus packages in 2020.
At the spring meetings, pressures for aid were evident. Officials, particularly in Europe, have spoken of the need to meet donor costs for housing Ukrainian refugees from aid budgets. Afghanistan, which before February 24 was expected to figure prominently in the talks, hardly came up, and a UN appeal for humanitarian funding in March fell short by $2 billion – the amounts pledged were 45% below estimated needs. Afghanistan now has the highest infant and child mortality rate in the world.
Given pressures on aid to respond to humanitarian crises, the war in Ukraine, fallout from food and fuel crises, potential debt crises, and the continued need for vaccinations and pandemic-related expenses, the prospects for increased aid for sustainable development look bleak.
Official non-concessional loans
Official financial institutions provided $60 billion in 2020, almost entirely from multilateral institutions that stepped up countercyclical financing in response to the COVID-19 pandemic. Even that, however, could not prevent a bifurcated global recovery: rich countries have mostly returned to pre-pandemic production levels, while developing countries are still far from up to par. Another concern is that the pandemic has forced many developing country governments to cut capital spending and close schools, jeopardizing future growth potential.
In this context, a major announcement at the Spring Meetings was the approval of the IMF’s Resilience and Sustainability Trust Facility (RST), financed in part by a reallocation of Special Drawing Rights (SDRs) that had given to rich countries in the initial response. to the pandemic. The RST aims to raise 33 billion SDRs (about $45 billion). Its big breakthrough, however, is not the volume of financing but the terms: the loans will have a maturity of 20 years, a grace period of 10 and a half years and an interest rate slightly above the interest rate of the SDR which is currently 0.5%.
Another major announcement was a second emergency financing program by the World Bank Group, which aims to provide $170 billion in sustainable development financing over the 15 months between April 2022 and June 2023. However, the Bank warns that this program will significantly erode available resources. capital of the International Bank for Reconstruction and Development (IBRD), the World Bank’s main lender to middle-income countries. IBRD will be forced to reduce lending by one-third in FY2024 and beyond under current assumptions.
Other multilateral development banks face the same problem as IBRD. They have lent huge sums to respond to the pandemic, leaving them underfunded as they look to the future. For this reason, the channel for providing official non-concessional loans is clogged.
Spring meetings had their fair share of warnings about impending debt crises in developing countries and, indeed, credit ratings from major agencies show the risk is rising. In 2020 and 2021, 42 developing countries had their credit rating downgraded by at least one of the three major rating agencies, and 33 others had their outlook downgraded. The common framework for dealing with debt beyond the debt service suspension initiative seems stalled. Only three countries are participating (Chad, Ethiopia and Zambia) and the negotiations in each case have dragged on too long, with progress measured more by process change than actual results.
As a clear reminder of why credit ratings matter, consider that developing countries with an investment grade rating pay an average real interest of 3.6% on borrowing from capital markets; those rated below investment grade pay an additional 10 percentage points in interest. At these interest rates, it becomes very difficult to maintain solvency. The only option for a finance minister is to avoid new borrowing and try to limit public deficits. This is why developing countries complained at the spring meetings about their lack of fiscal space. Given these financial market conditions, there is considerable pessimism about the ability of developing countries to return profitably to large-scale capital markets.
The path to follow
This assessment of what blocks long-term financing for development suggests three main areas for policy action:
- Aid remains the cornerstone of financing for sustainable development, but it is so scarce relative to demand that it must be tapped through guarantees, financing institutional innovation or providing fresh capital to institutions of development.
- International financial institutions are an effective way to raise capital, but they quickly run out of room to manoeuvre. They will soon need fresh capital, otherwise middle-income developing countries will have few options. Small improvements may be possible on the margin through balance sheet optimization, but they distract from the fundamental need for additional funding.
- Private financing can only restart if new flows are protected from the legacy of existing debt. This means either accelerating debt settlement or the use of guarantees and other forms of risk pooling and transfer, preferential treatment for funds used for core SDG and climate investments, and/or loans to sovereign off-balance sheet public funds or development banks.
If developing countries can develop strong project pipelines and improve their political and institutional structures, and if advanced economies provide political and financial support to unclog funding channels, the agenda can be moved forward. Big demands – no wonder the mood at the spring meetings was gloomy.