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Reforming the World Bank’s Operational Policy on Guarantees

January 2012 – April 30, 2012

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BACKGROUND Bank guarantees are one of Bank’s three development finance

instruments, complementary to investment lending (IL) and development policy lending (DPL).

The Bank’s Articles of Agreement emphasizes the use of both guarantees and loans to assist in the development of member countries .

Bank guarantees help member countries meet their development financing needs by guaranteeing private borrowing.

By mobilizing additional private financing, guarantees also leverage the Bank’s own limited resources.

Since guarantees were introduced in 1994, the Bank has provided 37 guarantee operations for a total of $4.5 billion.

Bank guarantees have been used in 31 countries across all Regions and in many sectors, but the largest shares have been in Africa and in the energy and infrastructure sectors.

All Bank guarantees require a counter-guarantee from the government.

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BACKGROUND The World Bank guarantees have been effective in helping high risk

countries access private financing for development purposes. However, on average there have been only two guarantee operations

per year. Hence, Management believes that the full potential of Bank

guarantees to support development financing has yet to be realized. Private sector financing is needed to address huge investment gaps in

many developing countries, which cannot be funded through official resources alone.

For infrastructure in the Africa Region, the financing gap is estimated to be 1/3 of the annual spending needs of $93 billion.

Private financial flows are often unavailable or unaffordable for developing countries.

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BACKGROUND The Bank can be a strong guarantor based on its strong relationship

with governments, sector knowledge, and a large and diversified portfolio.

Reforms of the operational policy are part of a broader Bank agenda for promoting private sector and infrastructure development:

Reforms of guarantee operational policy Providing enhanced support for the preparation of PPP projects Improving the deployment of specialized staff skills Strengthening the outreach to clients and marketing of

guarantees Enhancing WBG collaboration and coordination, among Bank

guarantees, MIGA political risk insurance. and IFC guarantees and lending

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Purpose The overall aim of the proposed policy reforms is to further improve

badly needed access to private development financing for member countries by:

Streamlining, consolidating and enhancing the applicability of the instrument; and

Removing any unnecessary and outdated policy provisions. The proposed reforms would allow the Bank to better serve its

clients and further respond to client needs for development financing

The reforms also reflect the discussions among the G20 on the possible greater use of WBG guarantees.

The Approach Paper, “Modernizing the World Bank’s Operational Policy on Guarantees,” outlines the proposed reforms.

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Consultations The Bank is conducting global consultations on the proposed

reforms of its guarantee operational policies, in order to elicit inputs and feedback from a wide range of stakeholders in as broad and inclusive manner as possible.

The Approach Paper and a range of consultation materials are publicly available on www.worldbank.org/guaranteesconsultation.

The consultations will include representatives of governments, private sector investors and financiers, multilateral and bilateral development organizations, and CSOs.

The consultations will be carried out from January 2012 to end April 2012, utilizing the following channels: Website Face-to-face forums Videoconferences

Based on the consultations, Management plans to develop the Approach Paper into a policy paper and present it to its Board for approval.

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Guarantees: Overview The Bank offers three guarantee options:

Partial risk guarantees (PRGs) support private lending to private sector projects. They cover debt service defaults caused by a government’s failure to meet its obligations to the project.

Partial credit guarantees (PCGs) support borrowing for public sector projects. They protect private creditors against default on a specified portion of debt.

Policy-based guarantees (PBGs) are partial credit guarantees that support borrowing for general budget financing. PBGs support a program of policy and institutional reforms.

PRGs are available to all member countries, but PCGs and PBGs are available only to IBRD countries.

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Main Reform Proposals

There are essentially two overarching themes to the proposed policy reforms:

Extending PCGs and PBGs to IDA countries Aligning policy requirements for guarantees with their

corresponding lending instruments

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Extending Partial Credit Guarantees to IDA-Only Countries The Approach Paper discusses three possible options regarding the

extension of PCGs to IDA countries: These options differ on the eligibility requirement regarding debt

sustainability and debt management capacity. Management believes that the most appropriate option (option three in

the Approach Paper) combines both country and project considerations in the eligibility criteria

The recommended option requires that IDA countries have low risks of debt distress and adequate debt management capacity, but allows for exemptions for projects with significant financial returns.

This option appropriately balances the need to address significant development financing gaps with the need to ensure prudent and sustainable borrowing.

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Extending Policy Based Guarantees to IDA-Only Countries

Three options are also proposed for the extension of PBGs to IDA countries, which again differ on the eligibility criteria based on debt sustainability considerations.

Management prefers the option (option one) which requires IDA countries to have low risks of debt distress and adequate debt management capacity.

No exemptions are considered, as PBGs support borrowing for general budget financing and hence are not associated with a specific investment project.

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Aligning Project-Based Guarantees with Investment Lending The overall objective is to align, where appropriate, the policy

requirements for PRGs and PCGs with those for ILs. Safeguard policies. As in investment lending, the proposal is to

supervise Bank Safeguards only up to the completion of the project which is benefiting from the guarantee.

However, supervision would continue after project completion for any applicable legal covenants, if required by a specific safeguard policy, or to address Management concerns about compliance.

Sector policy framework. It is proposed to apply to all project-based guarantee operations the same requirement as for IL operations regarding the adequacy of the sector policy framework.

Additional financing. It is proposed to introduce additional financing operations for guarantees, which is currently available only for ILs.

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Aligning Policy-Based Guarantees with Development Policy Lending

The overall objective is to align, where appropriate, the policy requirements for PBGs with those for DPLs.

It is proposed to allow the use of PBGs to support local in addition to international financing.

As required for DPLs, the country’s reform program supported by the PBG would be assessed against the country’s track record.

For countries which already have some market access, PBGs can also be used to improve financial terms and achieve financial leverage.

PBGs will continue to be subject to the operational policies for DPLs.

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Further Innovations Innovation has been a key feature of Bank guarantee operations. The operational policy on guarantees provides flexibility in structuring

guarantee operations to fit specific client needs and project circumstances.

Specific structures have been developed to backstop government payment obligations.

As part of the policy paper, Management intends to explore the possibility of extending guarantees to:

Carbon contracts to support low-carbon projects for reducing greenhouse gas emissions

Hedging products

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Consultations: Guiding Questions How can the guarantee instrument be designed to best help developing

countries meet their development financing needs? Do you think that the proposed policy reforms will enable better, more

effective, and broader use of the Bank guarantee instrument? If not, how can we improve it?

Do you agree with the proposal to introduce partial credit guarantees (PCGs and PBGs) to IDA countries, based on new eligibility criteria? Do you think these criteria can help ensure that the resulting debt is prudently managed and sustainable?

Do you think that the policy requirements for project-based guarantees should be aligned with those for investment lending, including the supervision responsibilities for Bank safeguard policies?

Do you think that the policy requirements of policy-based guarantees should be aligned with those for DPLs?

Do you think that the Bank should explore the possibility of extending guarantees to support low-carbon projects to combat climate change and also to hedging products?

Do you have other suggestions or comments?