Opinion Reforming Multilateral Development Banks, advocating for the Global South

Over the years, notwithstanding far-reaching geopolitical changes, economic crises and uncertainties, MDBs have remained relevant as credible institutions to support the development of both MICs and LICs. Yet, it is widely believed that these institutions are no longer suited in terms of the resources, cultural ethos and methods to address the emerging challenges. These relate to global public goods, climate change and pandemics. It is widely believed that MDBs are in a quagmire, trapped in their procedures, approach and methods of work and reticent to structural changes.

Given their technical knowledge, experience and credibility in the financial sphere, they need to rediscover their role and methods. The two traditional goals shared by all multilateral institutions have been the elimination of poverty and fostering shared prosperity.

The new challenge is to broaden the mandate and vision to address the challenges of transboundary issues and the opportunities connected with climate change. We need a symbiosis of the two visions with these added dimensions. Each of these four requires different modes of financing and methods of work. We must be conscious that poverty elimination and shared prosperity have remained elusive goals. Shared prosperity at intra and inter-country levels has also worsened in recent times.

Central to these issues is the need for matching the ability of MDBs to finance these larger goals without reducing development financing. Leaving aside the pandemic, the average annual lending commitments from MDBs to developing countries were about $120-130 billion. The WBG estimates that the average annual spending needed to address global challenges of climate change, conflict, and pandemics is $2.4 trillion per year for developing countries between 2023 and 2030. Another report on climate finance highlights that there is a need for a breakthrough to mobilise the $1 trillion per year in external finance needed by 2030 for emerging markets and developing countries (EMDCs), other than China.

While broadening the mandate of MDBs is imperative, it should not be at the cost of available funding for traditional priorities – addressing poverty and inequality – as they remain dominant concerns in LICs and even EMDCs, including India. In this context, the Expert Group is calibrating different options, to ensure that concessional finance targeted towards LICs, is not compromised.
This brings us to the second issue of an expanded need for finance and importantly, the sources of finance. How do we secure credible sources of finance to meet these enhanced challenges? There is an overwhelming consensus on enhancing the lending capacities of multilateral institutions. The MDBs need to optimise their current balance sheets to create higher leverage from existing funds and to attract private capital. They need to fix annual targets and judge performances by the outcomes secured in this altered framework of accountability.

For the IBRD, the amount of paid-in capital, so far, is just over $20 billion against which it has successfully undertaken lending operations of over $800 billion. In 2022, the WBG gave loans of $428 billion against an equity (paid-in capital and retained earnings) of $267 billion. In the same year, the Asian Development Bank gave loans of $144 billion against an equity capital of $54 billion. The need for enhancing recapitalisation emanates from the broad principle that given the inescapable financial requirements after harnessing resources for balance sheet optimisation as well as private capital, there would still be a need to recapitalise the banks. It is also somewhat curious that the IBRD is an institution which does not have any replenishment cycle. Similarly, other multilateral institutions have effectively leveraged their somewhat modest capitalisation.

Importantly, there is a need to mobilise private capital. The current system has failed to raise sufficient private finance. On the demand side, there are concerns of moral hazards associated with private capital. On the supply side, private capital is not immune to risks — such as those associated with foreign exchange. Many projects, therefore, do not move forward because either the risk is too high or the return too low. De-risking approaches such as blended finance and guarantees aimed at tilting the balance do exist. However, they imply a more intensive recourse to public and donor support. Concerns about unlocking private sector investments using public resources inevitably arise. Financial channels for capital mobilisation, therefore, need to be strengthened.

There is also a need for creating an incentive structure and bring changes to the current operating model of the MDBs. MDBs must work in close coordination with each other. Broad and deep changes are required to significantly strengthen performance, such as first loss guarantees, realistic return targets and risk management.

For India, reforming MDBs would mean advocating the voice of the Global South. It is the first attempt to lend coherence to a multiplicity of efforts and initiatives for strengthening the MDBs. The Expert Group is expected to take a holistic approach on a wide range of issues and outline a pragmatic implementable programme. The Expert Group proposes to submit two reports. The first focuses on issues of vision, financial capacity and modalities of funding the MDBs. The second deals with issues related to harnessing private capital, risk mitigation, optimally using guarantees to leverage private capital and hybrid innovative financing.

Making MDBs more relevant for addressing 21st-century challenges would contribute towards enhancing human welfare. Deeper integration with multiple stakeholders is crucial. If MDBs do not respond to these new challenges, they will become increasingly irrelevant and be substituted by other forms of cooperation. We need to act with agility and speed.

The writer is president, Institute of Economic Growth. He was Chairman, 15th Finance Commission