Canada creates a bilateral Development Finance Institution: will Australia follow suit?

Some will recall the transparency wobble last year when the Australian government announced its 2014-15 aid budget but declined at first to issue the “Blue Book” that, since time immemorial, has detailed the allocation of Australia’s aid. Observers of Canadian aid must wish for such small problems. Canada’s just-released 2015 budget, like its 2014 budget, simply does not state how much aid Canada will provide in the year ahead, let alone detail how it will be spent. The general understanding is that Canada will extend its five-year “freeze” on aid, though DAC statistics depict more of a melt than a freeze.

Canada’s budget did, however, contain one specific announcement relevant for international development: the creation of a bilateral Development Finance Institution (DFI), to be housed in Export Development Canada and known as the Development Finance Initiative. Bilateral DFIs finance or insure investments by their host countries’ firms in risky developing country environments, and (unlike institutions such as Australia’s Export Finance and Insurance Corporation, EFIC) have both international development and market development objectives. They are mostly self-financing once a certain level of capitalisation has been achieved. Canada was, until now, alone among G7 countries in not having one. Its minister for international development, Christian Paradis, has for some months been emitting strong hints that the Canadian government might be about to change that.

DFIs are built on a range of different models. The relationships between DFIs and aid programs, agencies and budgets are highly variable across countries, and usually murky. Various experts [pdf] have tried to figure out how much government support for, and how much of the financing provided by, DFIs is counted as Official Development Assistance (ODA), and have concluded that it is simply hard to know. Some DFIs, like the US’s OPIC, seem to have no ODA inputs or outputs; others, like the UK’s CDC, do. In general, if ODA is in the picture, it takes the form of capital subscriptions to a DFI (used to raise funds in the financial markets), technical assistance provided by the DFI, grant funds placed at the disposal of the DFI to soften the terms of loans, or equity purchases net of sales. Depending on the outcome of current DAC discussions [pdf] about according ODA recognition to equity financing and guarantees, a higher proportion of DFI transactions could in future appear in ODA accounts.

In financially straitened times, the spruiking of a new DFI by Canada’s international development minister rather implies that the costs involved in setting up and running the institution will as far as possible be sheeted home to Canada’s at-best-frozen aid budget. And that raises the question whether the Australian government might be thinking of following Canada down this path, as it has followed Canada down other paths. It has been suggested in media reports, for example this one, that Australia is considering the establishment of a DFI. Foreign minister Julie Bishop said the following last year in announcing $140 million in funding for ‘innovative development solutions’.

Other initial investments will establish and deepen partnerships to unlock new sources of financing for priority development projects in Australia’s region. This will include partnerships to address constraints to private sector investment, such as funding for early stage project development, assistance with arranging private debt and equity, as well as guarantees and insurance to offset risks.

As noted here, none of the innovation funding so far allocated to various specific initiatives answers the last part of the commitment above. A DFI would.

Working out how to finance, run and regulate such a body, and even where to put it, would be a complex, messy exercise. Were Australia to follow Canada’s suit, whether in the 2015-16 budget or at some later point, this would not necessarily be a bad thing—but it would carry some risks. For example, giving EFIC the job would confuse export promotion and economic development objectives. More generally, if substantial amounts of ODA were likely to be involved, much up-front effort would need to be invested in ensuring the institution was built to deliver development impacts, and that it was held to account for doing so, rather than allowing it to pour money into low-risk, high-profit investments or provide windfalls to private actors.

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Robin Davies

Robin Davies was appointed Head of the Indo-Pacific Centre for Health Security at the Australian Department of Foreign Affairs and Trade in September 2017. Previously, from 2013, he was the Associate Director of the Development Policy Centre and from mid-2014, concurrently an Honorary Professor at the Crawford School at ANU.

4 Comments

  • Robin,

    You will recall that Jim Adams and I both advcoated a joint Australia/New Zealand DFI to focus on the Pacific. Therefore I welcome your consideration of the options. The problem with focussing all our efforts on the IFC is that they, quite understandably, have a broader focus and need a larger scale of investment than the Pacific Island states can sometimes generate although they have done some very good work in the Pacific. If the ADB had an effective private sector arm that might be an option but I believe only Australia nad New Zealand are likely to give the sustained attention to the Pacific which a successful DFI would require. The Austrians just set up a DFI funded by their EFIC equivalent but operating separately. This might be an option in difficult budgetary times although it is not ideal.

    • Bob: Thanks for this reminder. It’s true that the IFC model probably cannot be ‘reformed’ sufficiently to meet the needs of the Pacific island countries without creating inefficiencies, and therefore that there is a role for a DFI operating in the sub-IFC range there. The government has so far announced two initiatives intended in different ways to increase private sector investment in the region: the SME-oriented Pacific Business Investment Facility and, just recently, SEED Pacific, which aims to encourage larger businesses to invest (more on the latter next Monday, on the blog). Both these initiatives might well prove to be useful, but they are wholly or heavily reliant on grant funding and, related to that, quite limited in scale.

      For readers: Like Newton and Leibniz, Bob McMullan and Jim Adams hit upon the same idea independently. The former’s proposal was made in a Devpolicy blog, here. The latter’s was part of his 2013 Harold Mitchell lecture, here.

  • Hi Robin

    Possibly a very interesting development. Three quick comments.

    First, Australia’s experience with a mixed ODA/EFIC loans arrangement was of course the Development Import Finance Facility. In addition to remembering the lessons from previous evaluations of that scheme, it could be useful to have a new evaluation on the sustainability and development impacts of supported activities – such as the $60 million White Industries Piparwar coal mine in India and the $140 million Transfield Steel Bridges programs in Indonesia.

    Second, before creating any new institution, it is important to consider if a strengthened partnership with the World Bank’s International Financial Corporation or some similar entity may produce better outcomes. Always nice to have a new institution – but they are expensive and the skill sets required are demanding.

    Finally, just to note that EFIC has used its national interest provisions to assist with elements of development beyond simply export promotion. Its USD350 million of financing support to the PNG LNG project is a notable example. Its USD90 million risk sharing agreement with the Asian Development Bank has development linkages. Of course, these activities also have benefits for Australian trade facilitation, and balancing competing objectives will be a major challenge, especially with the commendable policy of untied aid.

    Paul

    • Thanks Paul. While ensuring the development quality of investments would be central, and was not always well done under DIFF, A DFI of the kind described above would not be the kind of animal that DIFF was. DIFF gave EFIC access to aid funds in order to soften the terms of its loans to developing countries, with those loans extended to governments and tied to the procurement of Australian goods and services. A DFI, by contrast, normally deals with the private sector rather than governments and finances or insures investments rather than just procurements (hence the fact that the US has both the Ex-Im Bank and OPIC). The question of tying, while a live one, tends to be rather moot in practice, as it is in the case of funding for donor country NGOs and at least some scholarships for tertiary study in donor countries. From a development perspective, it would certainly be better if donors deferred to IFC in this area, with appropriate policy and procedural reforms and oversight. However, the fact that we see a plethora of bilateral DFIs suggests that the market development perspective also looms large. There is a reasonable argument that putting ODA in the picture could leverage significant development impacts from the operation of such DFIs, but whether it would actually do so depends on how things are arranged at the outset.

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