Municipal sector review
World Bank Guarantee Instruments
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- Navigate this page:
- Private Participation in Local Infrastructure Finance
- Challenges in Private Participation in Local Infrastructure Financing
- Enabling and Conducive Environment and the World Bank’s Catalytic Role
- The World Bank Guarantees: Conceptual Schemes
- Partial Risk Guarantee
- Conceptual Guarantee Scheme
World Bank Guarantee InstrumentsAs an option to introduce the private sector, the Government may consider using the Bank’s guarantee instrument. Two types of guarantee instruments are discussed below: partial risk guarantee; and partial credit guarantee. These options would be applicable in the medium to short run as the economy revives, financial sector is strengthened, and the financial intermediary is fully operational. Private Participation in Local Infrastructure Finance Since early 1990s, a number of innovative models have been used to finance infrastructure projects in emerging market economies. The most widely used model has been a single buyer Independent Power Producer (IPP) power generation venture model under the limited recourse project financing framework. This model has been replicated in many developing countries for financing infrastructure projects in power, energy, transport, water, etc. during the last decade. It is worth noting that the precursor of this popular model was first developed in 1984 as the Build-Operate-Transfer (BOT) model in Turkey. These private infrastructure projects in the past were mainly in those sectors that are typically controlled under the jurisdiction of central government. The model is essentially designed to allocate critical project risks to the obligations of central government as an ultimate obligor. When a project involves local government jurisdiction, the risks related with such local government were often back-stopped by the central government, thereby avoiding the local government risks. Private participation in local infrastructure services only took hold in developed economies in 1992, notably in U.K. under the name of private finance initiative (PFI) as a new way to overcome the fiscal constraint of local as well as central government. It is only recent that private participation in local infrastructure services has started to draw attention in developing countries in Eastern and Central European region in the context of rapid fiscal decentralization effort with a view to the expected EU accession. There have been a few early undertakings by private sector financial institutions to develop financing facilities to support local infrastructure investment in the region. Such efforts have not yet produced substantive results and have not yet demonstrated the potential of private capital in financing the local infrastructure projects that were not generally considered as commercially bankable in developing economies. Challenges in Private Participation in Local Infrastructure Financing There would not be much dispute, from the private sector’s perspective, about the notion that private infrastructure investments or financing at the local and sub-national level poses more challenges than those at the central and national level. When the provision of public services is under the responsibility of local governments such as in the water and sanitation sector, private participation (investment or financing) would face a different set of obstacles from those normally expected with projects under central government responsibility. Those obstacles include a nontransparent and inconsistent regulatory framework, lack of capacity at the local authorities in dealing with sophisticated commercial transactions, coordination between local and central government which is subject to politicization at both levels, etc. In short, all risks normally expected with conventional IPP model projects at central government level will be repeated and compounded at local government level. In addition, local infrastructure services such as water, sanitation and sewage are often considered as social goods and services that need to be provided at a concessional pricing. This general perception makes the local infrastructure services even more susceptible to political interference. Given these difficult challenges ahead, a breakthrough solution for promoting private participation in local infrastructure financing will be; (i) to create enabling and conducive environment where commercial operation of public services can be conducted in a transparent manner in the form of commercial contract at local level, or (ii) if such environment is not easily attainable in a short and medium-term range, to develop well-designed structures to reduce the risks associated with regulatory and policy framework of the local (and central) government involved to the acceptable level of private financiers without imposing outright financial liabilities on the part of local and central governments. Enabling and Conducive Environment and the World Bank’s Catalytic Role The list of critical ingredients to attract private participation in local infrastructure services could be exhaustive, raging from regulatory framework (including transparent tariff pricing policy and independent regulatory body) to legal enforceability of the commercial contract entered by the private operators and local governments. Necessary items to be incorporated to create enabling environment may vary depending on the sector, modality of private participation (ranging from various service contracts to wholly-privatized independent operating company), and individual local government capacities. Among the broad categories of issues to be addressed in order to create viable operating and investment environment, regulatory framework and pricing (including subsidy) policy are most critical from private participant’s point of view.
Furthermore, even if necessary arrangement is accommodated to mitigate these two major risks, private participants may not be assured for timely payment in every circumstance, and therefore need additional external credit enhancement until the arrangement is proven to be efficiently workable. Private investors are getting increasingly cautious about the new investment commitment in the emerging markets, and may even ask for broader risk coverage including standard political risks such as confiscation, expropriation, and civil disturbances. The World Bank seems to be in a best position to fill this “confidence gap” and to catalyze private participation in local infrastructure finance through its guarantee instruments. The World Bank Guarantees: Conceptual Schemes For the purpose of this section to illustrate a catalytic role to be played by the World Bank to support private participation, emphasis should be placed on how the financing scheme is designed to provide a proper incentive structure to all parties involved including private +participant, local and central government authorities, and how such financing scheme could help achieve the objectives of local government finance reform. The World Bank guarantees are being proposed as preferred instruments from the viewpoint of private sector participation. Traditional government resource transfer through loans and Treasury guarantees is a public sector and off-market instrument only involving government and municipalities, in which all risks, in principle, are borne by the public sector entities without commercial due diligence exercise. In Turkey, Treasury guarantees have been issued to support the local government for financing infrastructure services. Many of these Treasury guarantees have been called by the municipalities in financial difficulties. Unlike such off-market instrument, the World Bank guarantees involves private lenders who would be willing to take part of the credit or project risks related with the investment activities by municipalities. Private participation is expected to enhance the transparency of the investment activities and promote commercial due diligence practices in the process. However, it would not be feasible or appropriate that the World Bank guarantees totally substitute the entire existing instruments. What is being proposed here is that there should be some cases where the World Bank guarantees could serve more efficiently the interest of the parties concerned including local and central governments. Enabling conditions for materializing such potential benefits under the World Bank guarantees option vary depending on the choice of instrument, depth of private sector market both local and abroad, institutional capacity of execution agencies, intergovernmental fiscal arrangement, etc. It needs to be also emphasized that any type of World Bank guarantee operations should be designed and structured to meet the market conditions and private investors’ appetite as an alternative investment tool. The guarantee operations could only be feasible and financially marketable when the targeted financial market finds it attractive. Presence of relatively developed financial market and long-term private investors are prerequisite for the proposed guarantees. Partial Risk Guarantee This guarantee proposal is intended to provide alternative financing schemes as possible options available to the Government of Turkey to mobilize private participation in the local infrastructure sector. In designing a workable financing scheme, there are two factors distinctive to infrastructure finance at local level in contrast to conventional infrastructure finance at national level. Firstly, vast majority of municipal public service enterprises are fully owned by municipalities. From structuring point of view, municipal enterprises with lesser government ownership and control would be preferred because it would be easier and more transparent to define and distinguish responsibilities and risks between operating enterprise and regulating local authorities. However, it would be impractical to assume such fully independent operating enterprises in the current Turkish context. Municipal enterprises with autonomous capacity under certain operating or service contract should be a practical assumption for the purpose of this proposal. Secondly, except for the large metropolitan municipalities, each individual investment project by municipal enterprise may become relatively small in size. This may require a scheme either to finance multiple number of projects in bundled manner to achieve the economy of scale each, or to finance through local finance intermediary (LFI). LFI functions may not be limited only to channeling and allocation of financing. LFI, as in the case of Iller Bank, can develop a capacity to provide other technical services such as project due diligence, feasibility study, technical evaluation, monitoring, etc. Conceptual Guarantee Scheme: Partial Risk Guarantee Download 0.72 Mb. Share with your friends:
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