Research on Public Development Banks 2023 Finance in Common Summit Info Memo for decision makers

 

The fourth edition of the Finance in Common Summit (FICS), held in Cartagena, Colombia from September 4th to 6th, featured the active involvement of international researchers and think tank experts across numerous workshops and side events. This strategic inclusion was driven by the organizers' objective to facilitate the widespread sharing of knowledge and to foster a global dialogue between practitioners and researchers. The ultimate aim was to enhance the perspective and capabilities required to align the operations of development banking with the ambitious goals outlined in the Sustainable Development Goals (SDGs).

 

The world is currently facing great challenges in combating poverty and inequalities, exacerbated by stagnated growth, escalating debt burdens, the resurgence of conflicts, and the convergence of multiple crises, including climate change, biodiversity loss, pandemics, and fragility. Against this backdrop, the "New Global Financing Pact," held in Paris in June 2023, witnessed the dedication of Multilateral and National Development Banks to assume pivotal roles in advancing equitable transitions and nurturing sustainable development on a global scale.

 

Since 2020, following the inauguration of the Finance in Common movement, an international collective of researchers and think tanks has been generating research works to substantiate the resurgence of public finance as a driving force for societal transitions. A notable contribution to this endeavor is the book titled "Development and Public Banks," which Routledge published in 2022. This volume encapsulates the collaborative efforts of several co-authors actively engaged in the "Finance in Common" initiative. Their collective work delves into a spectrum of facets concerning the task Public Development Banks (PDBs) face in harmonizing their business models with the imperative of facilitating the transitions.

 

The 2023 edition of the Public Development Banks (PDB) database, a collaborative effort between the Institute of New Structural Economics (INSE) at Peking University and the French Development Agency (AFD), was unveiled during the summit. This edition offers an updated inventory and detailed attributes of the 526 PDBs identified across the globe, encompassing their presence in various nations, asset sizes, and official mandates. Developed through meticulous methodologies, this database serves to delineate the boundaries of the FICS and to present the diverse identities of PDBs, whether they are Multilateral, National, or Sub-National. It furnishes a wealth of information concerning their operational scope, mandates, shareholding structures, financial fundamentals, and more. To facilitate research, an interactive website is readily accessible for users, free of charge.

http://www.dfidatabase.pku.edu.cn/

 

Research on Public Development Banks (PDBs) has been structured under the umbrella of the International Research Initiative of PDB Working Groups, a collaborative effort involving more than 30 researchers who have generated over 40 papers in the past three years. The Initiative was established in 2019 through the joint efforts of Dr. Jiajun Xu from INSE, Prof. Stephany Griffith-Jones from Columbia University, and Dr. Régis Marodon from AFD. The primary goal of the Initiative is to parallel the working groups within the FICS and to actively address their inquiries and priorities through pertinent academic and policy papers. These contributions are designed to be both rigorous and practical, aligning with the rigorous and actionable objectives of the FICS initiative. Complementary to this, a Knowledge Advisory Group was established in 2023 to provide guidance to the FICS Secretariat in shaping roundtable discussions. Recognizing the importance of rigorous and systematic research in unleashing the potential of PDBs in realizing SDGs, it is decided that the Initiative and Knowledge Advisory Group will be consolidated into the Global Research Group (GRG) on PDBs. GRG aims to build a community among researchers worldwide to identify important research topics on PDBs, promote collective research, and foster policy dialogue with policy makers and practitioners to turn research into development impact.

 

 

 

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2020-2023: 4 years of FICS Research and Studies

10 Key Findings on Public Development Banks

for Decision Makers

 

Recent research demonstrates that PDBs no longer constitute a marginal wing of finance, but a very significant one. A comprehensive bibliography is available for the participant of the summit, with most prominent articles published on the “Finance in Common” website (https://financeincommon.org). The overarching consensus across these analyses centers on the pivotal role that PDBs are poised to undertake in accelerating the transition process to a low carbon and inclusive economy and promoting economic structural transformation in a sustainable and equitable manner, and galvanizing economic agents towards widespread adoption of sustainable solutions.

 

Highlighted below are several salient facts emerging from the recently published papers:

 

1. PDBs are numerous and financially powerful: According to the aforementioned database, governments have at their disposal a total of 526 multilateral, national, and sub-national PDBs that serve as funding conduits for transition and development projects across all sectors. Collectively, their assets add to USD 23 trillion, representing 10% of world annual investment. Notably, these institutions played a pivotal role in channeling resources to counter the economic upheaval caused by the Covid-19 pandemic, through a counter-cyclical increase in their operations—a reality that is now comprehensively supported and documented. However, the aspiration to "build back better" did not materialize sufficiently as intended. This reality has spurred the research community, spanning diverse disciplines, to passionately advocate for a paradigm shift: one that accords climate and biodiversity concerns a level of urgency akin to that of the Covid-19 crisis and recognizes that economic structural transformation is a key engine for achieving long-term development, environmental and social goals. In this context, PDBs should be harnessed in their entirety, leveraging their complete capacities to finance an expansive transition towards a more sustainable and inclusive economic system and acting as public entrepreneurs to overcome short-termism to provide long-term and high-risk capital to promote long-run economic transformation.

 

2. Capital Base of PDBs are generally under-leveraged. In that respect, the recommendations from the G20 report on Capital Adequacy Framework (CAF) could serve as a source of inspiration for a considerable number of National Development Banks (NDBs). Nonetheless, the factors to the financial limitations faced by PDBs present a substantial diversity across countries and institutions. In certain instances, governmental decisions impose conservative parameters on the PDBs under their jurisdiction. Some PDBs encounter regulatory frameworks that mirror those of the private sector and align with Basel III principles, despite the distinctive nature of their business models and risk profiles. Furthermore, apprehensions about an up-coming debt crisis serve as a rationale for curtailing the borrowing and lending capacities of PDBs. Simultaneously, a mounting consensus amongst researchers hailing from diverse disciplines underscores that the expense of inaction will surpass the costs and risks associated with investments and well-managed PDBs under the tailored appropriate regulatory framework can help to mitigate risks.

 

3. Leveraging private sector funding is becoming critical. It's widely recognized that relying solely on public funds won't suffice to fund the transition; therefore, there's a consensus on the need to significantly enhance the mobilization of private funds. Several papers, predominantly originating from academia, think tanks and the Montreal Group, are deliberating on this matter. It's imperative for PDBs to collaborate and pool resources with the private sector to draw greater investment into sustainable initiatives, especially targeting small and medium enterprises (SMEs) and infrastructure projects. This holds particular significance for nations with underdeveloped financial markets. Climate-resilient-debt clause and Debt to Nature swaps are relevant financial instruments to open new financing space to private investment. A new metric, incorporating all Sustainable Development Investment (SDI), including private catalyzed funds by public resources and those emanating from PDBs, is needed to capture all financial flows invested in a sustainable way. Nonetheless, further research is required to examine the conditions under which the private sector's profit-driven logic, risk assessment, and fund allocation can be significantly realigned towards sustainability through blending with public funds, while upholding safeguards against all kinds of moral hazard, and which are the best instruments to do it.

 

4. Measuring outcomes/impacts is key: PDBs must document the results and effects stemming from its financial investments. The current reporting on the magnitude of financial investments is insufficient from a scientific standpoint to assess their impact in SDGs. Likewise, there exists widespread confusion between environmental, social, and governance (ESG) considerations and impact finance. The term "Climate finance" is characterized by a variety of taxonomies and methodologies, yet it often falls short in capturing the tangible impacts of the investment. Numerous research studies are converging to advocate for more robust, science-based methodologies that consider the interconnectedness of SDG targets, especially when quantifying the social and environmental externalities associated with investment projects. SDGs are inherently interconnected; this interconnectedness forms their foundational framework. Achieving substantial transition through sustainable finance necessitates measuring the impact of operations across the entire spectrum of SDGs.

 

5. Artificial intelligence (AI) emerges as a transformative asset for PDBs business model: Recent headlines spotlighting generative AI systems like ChatGPT have sparked heightened interest within the financial community about AI's potential. For those invested in achieving SDGs, AI presents the opportunity to harness vast volumes of data, thereby ushering groundbreaking advancements across sectors such as healthcare, agriculture, education, and transportation. The potential, among others, extends to constructing more secure supply chains, managing renewable electricity networks, overseeing environmental regulations or refining weather forecasting capabilities. A dedicated workshop at the FICS delved into how, with proper regulation, oversight and insight, AI could improve the way impacts are measured, enhance alignment with SDGs, foster operational accountability, and facilitate tracking to mitigate greenwashing. Furthermore, AI could adopt a proactive role in identifying, nurturing, originating, and investing in sustainable projects, while considering country-specific criteria alongside with global historical experiences.

 

6. Capital is insufficient and could be better allocated:  Scale is important in achieving economic transformation and resilient, sustainable, and just transition, and therefore there seems to be a strong case for increasing the capital of many development banks, including several multilateral ones. Effectiveness would entail significant investment in favor of the transformation and transition, but also  compensating selected actors for their losses. PDBs, given their public mandate and their “not for profit” business model are at the forefront of this struggle.
7. PDBs should have access to sustainability assistance: Many PDBs recognize that sustainability has become an integral criterion that should influence investment decisions. However, only a handful possess the internal resources and financial capabilities required to thoroughly evaluate project to meet appropriate sustainability standards. Within the realm of grant resources overseen by PDBs, aid agencies, and philanthropic entities, preparing infrastructure projects in particular should receive dedicated technical assistance, aiming at systematically integrating environmental and social impact assessments, as well as resilience analysis against climate change. Simultaneously, as they contribute to structuring substantial projects, PDBs themselves should be recipients of sustainable finance initiatives. Their role should encompass not solely the provision of such financing but also the reception of support aimed at refining their own operations.

 

8. Conceive PDBs as a global system: Numerous papers have emphasized the necessity of enhancing the global financial architecture. Although MDBs are to play a fundamental role in the transitions because of their pivotal role in driving transformations and transitions due to their multilateral nature, technical capacities, mandates, and international responsibility to establish the best standards, they constitute merely 12% of the global assets within the PDBs spectrum. Therefore, it becomes imperative to encompass National Development Banks (NDBs) within a comprehensive global network of financing solutions.  Envisioned as a worldwide system, PDBs should formulate a strategy that enables sustained investments in human welfare and economic transformation. In doing so, they can take on a leadership role at the local level concerning the 2030 agenda and the commitments outlined in the Paris Agreement. A specific area of concern revolves around providing long-term resources to smaller national bank, without burdening them with currency mismatch.
9. New regulations and standards are needed: Central Banks and regulators should continue to incorporate climate change resilience and sustainable development, as well as inclusiveness in the regulation criteria. On the one hand, harmonized taxonomies and reporting are useful to mitigate regulatory arbitrage. On the other hand, it is crucial to foster mutual recognition among different taxonomies and reporting to understand why they differ, what tradeoffs are at stake, and how to search for a common principle. Lack of clarity on ESG ratings methodologies and data sources prevent PDBs to take informed decisions. Accountability on environmental and social matters should be enforced and strengthened, together with the adoption of analytical tools to monitor the impact of the financing. However, the main obstacles to alignment is probably that “alignment” itself is a nebulous concept. It depends on the reference for a base line and the taxonomy considered.
10. Reform the current global development finance architecture to foster public entrepreneurship. History reveals that successful structural transformation in the US, Germany, Japan, China and East Asian “miracles” is the key driver of achieving large-scale poverty reduction and shared prosperity. Today for developing countries and emerging economies, achieving structural transformation encounters unprecedented challenges as it has to be achieved within the planetary boundaries and resilient to external shocks in a globalized world. Achieving structural transformation requires public entrepreneurship with three core features: (1) a comprehensive long-term vision; (2) acting on a decisive scale in the presence of uncertainty and risk; (3) the creation of learning-by-doing feedback loop to enable bottom-up initiatives to flourish and scale up.  Yet the current global development finance architecture has not been successfully geared towards generating public entrepreneurship due to the imperative to meet short-term performance targets and the inclination to search for ready-made solutions to complex structural challenges, which fail to foster mindsets and mandates to engage in fostering structural transformation and building systemic capacities. Hence, PDBs should place structural transformation as a key engine for delivering development outcomes and overcoming global challenges.