Policy Research in Macroeconomics

Realizing the potential of Development Banks for sustainable, equitable recovery

Petion-Ville, Haiti. Photo Jeremy Smith
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The major challenges we face as we look to the coming decade – in particular urgently mitigating climate change, and reducing inequality – require major action. Development Banks, at national, regional or multilateral level, will be key to help finance recovery from the COVID crisis and achieve long-run structural transformation of existing economies to ones that serve people and planet far better.

By providing financing and mobilizing private finance, Development Banks (DBs) need to increasingly support productive investments, emphasizing low-carbon operations, as well as those supporting poorer regions. They should select operations, based on criteria that help maximize development impact; financial returns are important, but secondary for DBs.

A major research conference, part of the first World Leaders’ Summit on Public Development Banks, took place on November 9 and 10th 2020. This Summit, which had the sponsorship of President Macron, IMF Managing Director Georgieva and UN Secretary General Guterres, was attended by Heads of State and CEOs of many of the 450 DBs existing worldwide.[1]

What is needed is a radical change in how finance supports the real economy. DBs can be decisive actors in achieving that.

What are the main features to enable this change?

First, Governments should make sure existing DBs have sufficient scale to perform their functions. In particular, regional multilateral development banks (MDBs), need urgent and significant capitalization. National development banks also need further capitalization. In the 30 countries which do not have DBs, it seems key to create one.

Second, most DBs need to improve the analytical tools to allow monitoring and evaluation of impacts of their financing. Their safeguards, for example on environment, are valuable. But more is needed to incorporate an imperative of transitions towards low-carbon and equitable economies in all financing decisions and at all project stages.

Third, DBs should help shape the future. Once goals are defined, e.g. for climate action, it is essential for the banks to take a proactive role in acting as first-mover to help overcome uncertainties and risks, and define missions, programs and projects.

Fourth, Public Development Banks (PDBs) should combine their resources with the private sector, and help mobilize resources for what private sectors would otherwise not fund, in ways that maximize impact on sustainable development objectives.

Fifth, financial regulators should consider differentiating prudential rules to account for specific features of DBs’ contributions to development, and to encourage investments that mitigate climate change – which also improves future financial stability.

Sixth, PDBs should build a global and united coalition committed to the transition for sustainable development. Going beyond isolated initiatives is essential to tackle problems at a global scale.

Seventh, to maximize development impacts, it is important risks taken by PDBs are focused on the real economy, such as investing in impactful innovative projects, rather than financial engineering risks, derived from financial instruments themselves. Whilst loans are the main instrument used by DBs, guarantees may however perform a useful role when there is high uncertainty, like in COVID times. For innovative technology with high risk projects but potentially high development and profit potential, it seems desirable to use more equity instruments, so DBs can capture the upside.

Aligning with Sustainable Development Goals

Policies and counter-cyclical financing to support recovery should be more explicitly aligned with Sustainable Development Goals (SDGs), with a particular priority in supporting mitigation and adaptation to climate change. The role of DBs should be enhanced in

(i) supporting countries and regions that lag behind;

(ii) promoting innovation and structural transformation;

(iii) funding social development;

(iv) increasing financial inclusion;

(v) financing infrastructure investment; and

(vi) supporting provision of global public goods, especially climate mitigation and adaptation.

Development banks are already playing a major role in the global economy, with currently over US$11 trillion of total assets, and over $2 trillion of lending annually, representing about 10% of world investment. It is strongly desirable that – individually and jointly – they increase their level of activity further, in ways that even better serve the green and fair recovery that is so urgently needed.

Stephany Griffith-Jones is is an economist researching development finance. She is the Financial Markets Program Director at Columbia University’s Initiative for Policy Dialogue, and Senior Research Associate of the Overseas Development Institute . In 2018 she co-edited “The Future of National Development Banks” (OUP) with José Antonio Ocampo.

Footnote:


[1] For more information on this first Finance in Common Summit, and the associated Research Conference, see https://financeincommon.org/ and https://www.afd.fr/en/actualites/agenda/visible-hand-development-banks-transition

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