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Hello and welcome to Trade Secrets, a day later than normal because of Queen Elizabeth’s funeral yesterday. The British civil servants we know of who were pressed into service last week to steward crowds of mourners in London, or greet visiting dignitaries at airports, are back at their desks and normal policymaking service resumes, of which more in coming days. Today we’ll look at a bold attempt to cushion the effects of Covid-19 and the energy shock on middle- and low-income countries by boosting the lending power of the multilateral development banks (MDBs). Charted waters looks at the canary in the mine, FedEx.
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The political capital of development lending
Propping up businesses during Covid lockdowns, shielding households from soaring energy prices, funding the vast investment costs of the green transition: government finances worldwide are under extraordinary strain. It’s enough effort for rich economies to afford this. In middle and low-income countries, a trickle of debt defaults is threatening to go into spate.
On the whole, poorer countries managed their fiscal affairs quite well in the years before Covid. But spending to cope with the succession of crises has created immense pressure at a time when rising US interest rates are pushing up the cost of borrowing from the capital markets and through banks. The average public debt-to-GDP ratio in emerging markets went from 5 per cent before the pandemic to 67 per cent now, and as the charts show, the IMF reckons it’s going higher in coming years.
The demand for publicly backed concessional finance (or grant aid) has risen accordingly. Unfortunately, aid promised by rich nations to fund green transitions has not materialised. (I was amazed too.) And one of the biggest sources of cheap finance for infrastructure, China, is pulling back from its Belt and Road Initiative after disappointing returns and political backlash.
Enter, you would hope, the multilateral development banks (MDBs), led by the World Bank, to fill the gap. Unfortunately, the World Bank in particular doesn’t have anything like enough capacity based on its established practices, and going back to the shareholder countries to ask for more capital might not go down well.
Instead, there’s a move afoot, which has got traction among the G20 of leading economies, for the MDBs more aggressively to leverage up to increase their firepower. This involves changing the banks’ risk assessments and capital adequacy rules, relatively small adjustments that can have material impacts on lending capacity. The technical details are here in a report commissioned by the G20, and there’s an excellent discussion hosted by the Center for Global Development think-tank here.
A paper from the Italian central bank (Italy pushed this issue while hosting the G20 last year) estimates that the four main MDBs — the International Bank for Reconstruction and Development (IBRD, the commercial arm of the World Bank), the Asian Development Bank (ADB), the African Development Bank (AfDB) and the Inter-American Development Bank (IADB) — could increase their collective spare lending capacity from $415bn to $868bn without damaging their triple A credit rating. If they wanted to go further and accept a credit rating one notch lower at AA+, their lending capacity could shoot up to nearly $1.4tn. (Now you’re talking.) The New Development Bank, set up by the Brics countries, has done just that with its credit rating and is a strong advocate of others following suit.
This apparent miracle involves a lot of technical detail, but rests on the idea that the agencies undervalue the extent to which the MDBs are supported by their preferred creditor status in case of default and their ability (never yet activated) to whistle up “callable capital” from its shareholders in times of stress. The banks need to persuade the rating agencies to take a more supportive view and to rely more on their own judgments of capital adequacy.
Sounds like an easy call, but any change involves taking on an entrenched institutional culture at the World Bank in particular, which guards its triple A rating with the tenacity of an emperor penguin protecting its egg. Bank staffers often say this is for political economy as well as financial reasons. They’re always concerned the US Congress might suddenly pull the plug on its support for the bank, the need to keep Capitol Hill onside being one of the main reasons the bank’s presidency has traditionally gone to an American. Congress isn’t likely to be keen on the idea of the bank starting some funny stuff with its balance sheet and taking risks with its credit rating.
It’s a valid concern. Multilateral development banks are intrinsically political institutions in the sense that their existence rests on their legitimacy among their shareholder governments. Preferred creditor status for MDBs, for example, is generally a market custom rather than a matter of contract: it relies on debtors’ belief that the cost of alienating shareholder governments is too high. Leveraging up the MDBs can’t just be a technical exercise. The banks need to be sure that the shareholders are prepared to back their decision wholeheartedly and advocate with bond investors, credit rating agencies and potentially nervous legislatures on their behalf.
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The success of FedEx in becoming postie to the world means that when things turn south for the company, the world — and in particular anyone concerned about global trade — has to sit up and take notice. That is why last week’s preliminary results announcement — a week before the company was scheduled to report figures — sparked the biggest daily drop in the share price on record.
One swallow does not a summer make, nor one woodcock a winter, but FedEx is delivering a warning message to those who still think the world is heading for a soft landing. (Jonathan Moules)
There’s a proposed text floating about (first reported by Politico) to revise the contentious Energy Charter Treaty, an agreement which has come under fire for making governments liable to litigation for phasing out fossil fuels.
South Korea joins the EU in the list of economies cross with the US over tax credits for electric vehicles that discriminate in favour of North American suppliers.
The FT details progress towards “Fortress China”, Xi Jinping’s bid for economic independence.
It turns out that Russia and China don’t have a solid unconditional alliance after all, grist to the mill of my contention that the world is, in fact, not splitting into geopolitical blocs.
The quiet but fierce global war over setting tech standards sees another battle in the coming weeks as the International Telecommunication Union elects new leadership.
Intel’s plans to build chip manufacturing in the US after being showered with taxpayer dollars is being welcomed by the government but not its shareholders.
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