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To many people, development finance simply means money going directly to projects or programmes that help poor communities. Since the 2008 financial crisis, however, international financial institutions (IFIs) have been channelling public money through the financial sector, investing indirectly through third parties such as commercial banks or private equity funds. Proponents say it increases ‘reach’, enabling support to small and medium-sized enterprises. However, financing development through financial intermediaries (FIs) also brings with it a host of additional risks for local communities and the environment. Campaigners have called this hands-off form of lending  ‘outsourcing development’, since the IFI delegates responsibility for assessing and managing social and environmental impacts of sub-projects to FI clients, often with disastrous results.

Huge growth in lending through intermediaries

Lending indirectly through FIs has now become a major part of IFIs’ operations. At the International Finance Corporation (IFC) – the World Bank’s private sector arm – lending through FIs takes up over half of its portfolio; the Asian Development Bank (ADB) increased its FI lending tenfold in the decade following the financial crisis; and the European Investment Bank channels around a third of its funds through FIs. This represents billions of Euros in development finance. It is entirely legitimate to ask where this money ends up and to question its development impact.

Opportunities and risks

IFIs argue that lending through FIs enables their investments to reach more beneficiaries than if they finance projects directly. It also contributes, they say, to ‘leveraging’ private finance, as IFIs have good credit ratings that can attract co-investors into an infrastructure fund, for example. Over the last decade, however, NGOs and the communities they support have been raising concerns about the risks inherent in this financing model. FI investments are linked to cases involving forced evictions and other human rights abuses, forest destruction, environmental pollution disasters and destructive coal mines and powerplants. Communities have filed over a dozen complaints involving FIs to the IFC’s accountability mechanism alone.

Problems and solutions

Many question the whole rationale of development finance being used to support banks and equity funds: doesn’t this promote the financialisation of aid? Addressing this wider question is vital, especially following a COP which placed heavy emphasis on the greater role that private finance might have in tackling the climate crisis. In the meantime, NGOs have called for action to rein in FI lending’s worst excesses:

  • Check: is the FI a suitable development partner? FIs such as private equity funds and commercial banks make profit-motivated investment decisions. It is difficult to expect them to have a strong motivation to alleviate poverty, or to understand how to do so. The selection of FIs should be prioritised towards institutions that have substantial local ownership, that are not registered in offshore tax havens, and that are equipped to make investments that are in line with the IFI’s development objectives and approach.
  • Spotting and managing risk: Oxfam’s The Suffering of Others was one of the first reports to catalogue the impacts of FI lending on some of the poorest and most vulnerable communities in the world. Instead of development benefits, local communities have endured displacement, loss of livelihoods, violence, criminalisation and repression. 1. Do not devolve all responsibility to the FI. IFIs themselves must take responsibility for assessing risk category, and for screening, supervising and monitoring high risk investments. This should include site visits. 2. Avoid high risk investments/clients. This includes looking at the proposed FI client’s track record and capacity and excluding the highest risk sub-projects entirely. 3. Screen risk more comprehensively up front. This means looking at sectoral, historical, political and social risks and carrying out human rights impact assessments.
  • Where did the money go? After IFIs lend money to an FI, there is virtually no information about where the funds end up. Without transparency, IFIs cannot be held accountable and affected communities cannot access redress for harms suffered. At a minimum, NGOs are asking that IFIs disclose the name, sector and location of high and medium risk sub-projects funded via FIs. Coherence of FI disclosure policies across IFIs will mitigate against a race to the bottom and send a clear message to FI clients that transparency and accountability are a pre-condition for development finance support.

Need for action now

Happily, there is an opportunity to campaign for IFIs to do better and reduce risks of their 'hands off' FI lending. Several IFIs have policy reviews underway or imminent, and as citizens we can ask that IFIs listen to our concerns. The ADB is just beginning a process to review its safeguard policies, including on FIs; the IFC is currently re-writing its guidance on lending through FIs; in December, the Asian Infrastructure Investment Bank is reviewing its energy sector strategy – it’s vital we call for FI loopholes allowing finance for fossil fuels to be closed; the EIB is finalising its new standard on FIs; and national development finance bodies – like the Dutch FMO and UK CDC – are also revising their policies. Several IFIs have already taken steps to address problems, such as the Asian Infrastructure Investment Bank and the IFC, showing that reforms are possible.

As more and more of our taxpayers’ money is funnelled to banks and private equity funds, the time has come to demand accountability.

 


About the author

Kate Geary is Co-Director of Recourse, a leading advocacy, research and campaign organisation focusing on IFIs’ policies and practices, working in solidarity with affected communities and civil society in the global south to call for rights-based development. Recourse campaigns to redirect international financial flows away from dirty, harmful investments, towards greener and more inclusive development. Recourse works in partnership with others to support communities in their struggle for their rights to be respected and their voices to be heard; and holds financial institutions to account for harms to people and the environment.


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