Reforming the Multilateral Development Banks

By Dan Runde and Conor Savoy | MAY 31, 2016

Given the dramatic shifts in international development, there is a need for a major review of how multilateral development banks (MDBs) approach development finance or they will risk irrelevancy. Developing countries have changed rapidly, but official development institutions have not changed quickly enough to meet the new realities on the ground. Compared to 50, 30, or 20 years ago, many developing countries are now freer, wealthier, healthier, and more capable of running their own affairs. However, “traditional donors” have not kept pace and continue to operate on assumptions, processes, personnel practices and business models more than 50 years old. This is especially true of the MDBs.

Traditional donor countries continue to face lingering economic and political challenges from the Global Financial Crisis of 2008–2009 that will make major increases in official development assistance (ODA) almost impossible. Private investment, sourced locally and from abroad, once a small percentage of financial flows to developing countries, now represents the vast majority. “New donors” (e.g., China) are emerging with a different set of rules, values, and priorities that directly challenge the Western foreign assistance model. Meanwhile, the (changing) needs of developing countries remain staggering: it is estimated that an annual investment of approximately $1.5 trillion is needed to meet the Sustainable Development Goals (SDGs) by 2030. There is no way that the $136 billion of annual ODA will achieve these goals. Other funding sources including tax resources within societies, local and global capital markets, foreign direct investment, actors such as China, and remittances are the future.

SOURCES OF FINANCING

In 1960, 70 percent of all U.S. capital flows were some form of public assistance; by 2014 that figure had dropped to nine percent. Ninety percent of all U.S. capital flows are now private: foreign direct investment, remittances, philanthropy, and other private sources. Looking at private investment, in 2000 emerging market economies attracted only 4 percent of global flows. By 2014, flows to emerging market economies increased to $681 billion and represented 55 percent of global foreign direct investment (FDI). At a regional level, Africa received $54 billion in FDI in 2014, up from just $7.5 billion in 2000. In contrast, official development assistance is approximately $136 billion per year ($80 billion in 2000) and unlikely to increase given global political and economic trends.

The MDBs—the World Bank and the four region- al development banks—remain a large pool of development capital. These entities are specifi- cally designed to achieve development outcomes through the use of a blend of concessional loans, grants, and other forms of technical assistance. The World Bank alone provides over $60 billion per year. The World Bank’s private-sector arm, the International Finance Corporation IFC), provided investments of over $18 billion in 2014 representing 30 percent of all World Bank commitments. Unlike bilateral donors that are frequently constrained by how they spend public resources, the MDBs are specifically designed as banks that can lend to sovereign governments. Yet, they frequently operate under far more conservative financial management than commercial banks, and often avoid operating in fragile or conflict-afflicted states—countries least likely to receive private investment.

Another source of finance is developing countries’ own resources. Domestic resource mobilization—a government’s ability to raise taxes and other revenues—is an emerging area of focus for international development. The figures here are truly staggering: developing countries (excluding China) collected just over $3 trillion in taxes and revenues in 2014. In sub-Saharan Africa, taxes collected rose from $100 billion per year in 2000 to over $530 billion in 2013 (last year figures are available). To be sure, this growth is the result of the commodities boom, but it is also reflective of wealthier populations and improved tax collec- tion and public financial management.

Rhetorically, donors do recognize these trends. Since 2002, the United Nations has hosted a semi- annual Financing for Development conference that has sought to identify new sources of, and create a framework for, development finance. The first conference was held in the wake of the adoption of the Millennium Development Goals with an emphasis on raising additional ODA from donors, though there were passing references to emerging sources of private finance. In July 2015, the United Nations hosted the Third Financing for Development conference in Addis Ababa. The resulting document was substantially different, focusing on domestic public resources, private business and finance, and international trade. Aid was highlighted as the catalyst for attracting or increasing these other sources of development finance. The instruments necessary to do so remain lacking in spite of the rhetoric.

RETHINKING DEVELOPMENT FINANCE

The MDBs, in particular, have struggled to recognize the changing landscape described above. As international organizations they are designed to work at the government-to-government level, and struggle to work more closely with the private sector. Developing countries are also increasingly clear that they do not want the type of aid on offer as witnessed by the enthusiastic participation in the Chinese-led Asia Infrastructure Investment Bank. Foreign assistance remains a supply-side proposition, meeting the ideological predilections of the donors far more than the recipient countries. Developing countries’ governments are looking for a more balanced mix of leveraging private investment and domestic capacity building that will lead to sustained economic growth.

Other countries see the opportunities that exist and are responding. In May 2015, the Chinese gov- ernment announced the formation of the Asian Infrastructure Investment Bank (AIIB). Infra- structure remains a sector of chronic underin- vestment (estimates are in the trillions of dollars) often undervalued by traditional donors. When the MDBs do fund projects, they must meet a stringent set of environment, social, and governance standards that frequently delay the implementation. If the MDBs cannot rise to the challenge and change their programming and structure to meet the demand for investment, new players such as the AIIB are ready and willing to adapt and accept the MDBs’ unhappy customers.

“LEVERAGE MOMENTS” OVER THE HORIZON

International development is at an inflection point. The existing international aid system can continue to muddle along as it is with minimal changes around the edges and risk irrelevance, or shareholders can undertake a major review of how the MDBs approach and support development. There are several important moments to influence the discussion:

1. The term of the current president of the World Bank, Jim Kim, comes to an end in July 2017 and a new president would have to be announced by March 2017.

2. The World Bank is currently seeking additional funds from wealthy countries to replenish the International Development Association (IDA)—the arm that supports lower-income countries.

3. The 2016 U.S. presidential election.

These leverage points present the opportunity to initiate a top-to-bottom review of the World Bank and the regional development banks. Without such a process, these institutions—created and nurtured by the United States over the past 70 years—will become increasingly irrelevant to poverty eradication and economic growth in developing countries. This will require greater attention to work in fragile and conflict states, more support for private-sector development, infrastructure financing, and an overhaul of internal processes and regulations.