By Rahwa Gebretnsaie

Major developments in the agency lender market will emerge in 2016.

The launch of the Asian Infrastructure Investment Bank (AIIB) by China and the New Development Bank (NDB) by the BRICS countries (Brazil, Russia, India, China and South Africa) will create new sources of finance for energy and infrastructure projects. 

The consolidation of the private sector operations of the Inter-American Development Bank (IDB) into the Inter-American Investment Corporation (IIC) will be accompanied by increased capitalization for the IIC and new form contracts for its debt and equity instruments. 

Asian Infrastructure Investment Bank

The AIIB was conceived by China as part of a “one belt, one road” strategy to develop trade routes to Europe and promote interconnectivity and economic integration in Asia. For more background information about the AIIB, see “China Launches a Multilateral Infrastructure Bank” in the July 2015 NewsWire starting on page 77. 

The board of governors of the AIIB declared the bank open for business on January 16, 2016 during the inaugural meeting of the board. 

The bank will have an initial authorized capital stock of $100 billion, with 75% of its initial capital subscription allocated to regional member countries. China is the largest country shareholder, holding 30% of the initial shares.

The AIIB is open for subscription by members of the World Bank and Asian Development Bank. There are currently 57 member countries, including Germany, the United Kingdom and the BRICS countries. Germany plans to make a capital contribution of $900 million to the AIIB over the next three years, in addition to a $3.6 billion guarantee to the AIIB in 2016. 

The first batch of AIIB loans is expected to be approved in mid-2016. 

The bank’s lending currency will be US dollars. Borrowing terms are expected to be similar to terms on offer from other multilateral lending agencies. 

The AIIB will focus on the development of infrastructure and other sectors in Asia, including energy and power. AIIB-eligible borrowers must be either member countries, agencies or enterprises in member territories as well as international or regional agencies or entities concerned with the economic development of the region.

The AIIB’s lending policies, including its policy on finance and pricing, operational and corporate procurement, and environmental and social framework, are currently being developed by its board of governors. The board has not yet decided whether the AIIB will finance coal and nuclear projects. It has indicated an intention to be a green institution built on respect for the environment. This could disappoint countries with cheap fossil fuels that are currently prohibited from accessing debt finance from existing agency lenders, such as the International Finance Corporation, due to restrictive environmental policies of the existing agency lenders.

The AIIB board is working with the European Bank for Reconstruction and Development, Asian Development Bank and World Bank to ensure that its policies follow agency best practices. Such cooperation and harmonization of the AIIB’s policies will be critical in determining its ability to co-lend with existing multilateral development banks. 

The United States has not subscribed to AIIB shares. The US Treasury secretary, Jack Lew, said the US is ready to welcome new institutions such as the AIIB, provided that they “complement existing international financial institutions and that they share the international community’s strong commitment to genuine multilateral decision-making and ever-improving lending standards and safeguards.”

New Development Bank

The NDB was officially launched by the BRICS countries in July 2015. 

The bank will issue loans, guarantees, equity participation and other financial instruments to borrowing member countries. It is unclear to what extent terms will vary from those on offer from other multilateral development banks. However, the increased supply of capital and new competition could help reduce capital costs for eligible projects. 

The NDB’s initial authorized capital is $100 billion, and initial subscribed capital is $50 billion distributed equally among its founding BRICS members. Membership in the NDB is open to all members of the United Nations.

The BRICS countries made their first capital contribution of $750 million to the NDB in January. The initial enthusiasm for the NDB has been tempered over the past year due to cutbacks in public spending among BRICS countries. The decline in oil prices has created economic challenges for the BRICS countries that may affect their lending practices in the short term. While the NDB expects to make its first loan in April 2016, its initial financial instruments may take the form of guarantees rather than direct lending as the BRICS recover from economic downturns. 

The deficit in financing for infrastructure and power projects in emerging markets and developing countries creates significant opportunities for cooperation and co-lending among the multilateral development banks. By some estimates, emerging market countries need to spend $1 trillion annually to meet their infrastructure needs. The NDB plans to work with other MDBs to address this infrastructure gap; however, its cooperation may be limited to MDBs with minimal US ownership, such as the AIIB, as it purports to be “an alternative to the existing US-dominated World Bank and International Monetary Fund.” 

Complementary or Competitive?

The charters of the AIIB and NDB express a commitment to cooperate with existing MDBs. NDB President Kundapur Vaman Kamath said recently that “our objective is not to challenge the existing system as it is but to improve and complement the system in our own way.” 

The extent to which the AIIB and NDB cooperate with existing MDBs in fact will undoubtedly be affected by the bilateral relationships of their respective stakeholders.

Cooperation between the EBRD and AIIB is expected, given the shared priorities that China and European countries have in the central Asia region. The extent to which the World Bank and ADB will cooperate, and particularly co-lend, with the AIIB and NDB remains to be seen. While the World Bank President Jim Yong Kim and ADB President Takehiko Nakao have expressed optimism about the introduction of the new banks, their largest stakeholder countries, the United States and Japan respectively, are noticeably absent as members of either the AIIB or the NDB. As the credit, environmental and social policies of the AIIB and NDB roll out in 2016, we will see whether these new institutions will be positioned to cooperate or compete with existing MDBs.

Inter-American Investment Corporation 

The board of governors of the IDB and the IIC agreed under a “Renewed Vision Merge-Out High Level Implementation Plan” to consolidate the bank’s private sector operations into the IIC. 

The IIC is the private sector arm of the IDB, in the same way the IFC is the private sector arm of the World Bank. Each provides capital directly to private developers and projects.

The IDB says the shift of the private sector operations to the IIC should decrease processing times for new projects by creating a single point of access for the full spectrum of products and services the IIC will offer to private sector clients. The newly consolidated IIC will receive a $2.03 billion capital increase and is currently in the process of developing new form contracts for its debt instruments.

The IDB is the largest regional development bank in Latin America, with 48 member countries, of which 26 are borrowing members. Two private sector operations are being moved to the IIC. They are the IDB’s structured and corporate finance department and opportunities for the majority department. 

The IIC previously provided lending, equity investments and advisory services only to small and medium-sized enterprises in Latin American and Caribbean countries. Currently, the IIC has 45 member countries of which 26 are in Latin America and the Caribbean. 

The IDB’s structured and corporate finance department leads all non-sovereign financing operations for large infrastructure projects, financial institutions, capital markets, trade finance, companies and state-owned enterprises in a broad range of economic sectors. 

The IDB’s opportunities for the majority department promotes and finances market-based, sustainable business models that engage private sector companies, local governments and communities in the development and delivery of quality products and services for the base of the pyramid in Latin America and the Caribbean.

The administrative and operational functions of these operations have been merged under the IIC in an effort to promote internal efficiencies, flexibility and responsiveness to private sector client needs. 

New Market Developments 

The IIC is currently developing a suite of new form contracts for the various debt and equity instruments it offers. 

The new form contracts are expected to be more market friendly and conform to agency lender best practices. The new form credit agreement is expected to be authorized for use within the first quarter of 2016.

The board of governors of the IDB and IIC resolved to increase the capital of the newly consolidated IIC by $2.03 billion. Of the $2.03 billion capital increase, $1.305 billion will consist of new contributions by IIC member countries and $725 million will consist of capital transfers from the IDB starting in 2018. 

The IIC Board of Directors recently agreed to earmark a significant number of additional shares for China, Korea, Canada and Spain. The US remains the largest subscriber to IIC’s capital stock, although Latin American and Caribbean member countries will continue to hold a majority stake.

The IIC’s leverage policy limits debt to three times capital. As of April 2015, the IIC’s debt-to-equity ratio was at 100%, or one third of its potential. The IIC expansion will likely expand its lending base; however, public sector lending activities may decline. During a meeting of the IDB board of governors last year, one member country said that “if the IDB Group were to face a trade-off between lending to the public sector versus lending to the private sector, priority should be given to private sector lending,” stressing that “current credit ratings of the IDB Group remains of utmost importance.” 

Given the gradual nature of the expansion of the IIC over the next decade, it is unlikely that the market will see a dramatic shift in the products and services the IIC offers. The IIC’s new form contracts will create the most visible shifts in the market, as they will reflect new terms that merge the policies and practices of the former IDB and IIC groups.