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yet the depth of local currency debt markets in
tenors commensurate with infrastructure asset
lives are, in many cases, highly undeveloped.
The list goes on.
As a result of the financial crisis, G-20
regulators prioritized the development of a
regulatory framework designed to prevent
another global financial crisis. Growth took
a back seat and (though an unintended
consequence) so did infrastructure.
Basel III is fundamentally unfriendly to
bank infrastructure as it decreases the
attractiveness of holding longer-tenor
exposure having the type of credit-quality that
is typically reflective of infrastructure debt,
and requires long-term funding against long
tenor project finance loans. While shorter
tenor debt is great for Basel III, it is suboptimal
for infrastructure, and, thereby, perversely,
can end up materially increasing the cost of
infrastructure projects.
This is particularly concerning because
infrastructure finance is predominantly still
reliant on bank market funding; 85% of global
project finance is done in the bank market. The
exception is the U.S. where a larger proportion
gets done through capital markets, and where
tax-exempt municipal bond structures prevail.
Global Export Credit agencies continue to be
critical in lowering the overall funding cost
of projects, yet they alone cannot take the
pressure off of the banks.
While European banks have recently begun
to recover their footing in the infrastructure
space after a period of absence during
the crisis, multilateral institutions like the
European Investment Bank (EIB) have
continued to step up with new credit support
structures. Japanese banks have also stepped
into the hole created by Basel III and the
European banks with a bounty of liquidity.
Nonetheless, most global banks will continue
to face serious capital constraints for years
to come. Thus, if we are to plug the global
infrastructure gap, it will have to be through
designing capital market solutions that
dramatically increase the global funding
potential. This is where Citi is focused.
While the depth of potential credit appetite
for long-duration infrastructure projects lies
in global dollar markets, infrastructure – at
its core – requires long-term local currency
financing. As most local banks have a natural
local-currency funding base, making them
duration constrained, 12-20 year infrastructure
projects should be more naturally funded
through local capital markets. But those
markets must be developed. Pension Funds
and insurance companies are natural long-
term buyers of infrastructure paper (owing to
the need to match longer term liabilities), but
they are often ratings constrained, requiring
governments and policy banks to credit
enhance these structures.
Unfortunately, many of the world’s
biggest global, regional and local policy or
development banks are under pressure to
maintain their ratings and are as capital
constrained as the commercial banks, with
little room for increased government equity
funding. Rating agencies don’t help matters
by increasingly applying commercial bank
methodologies to development banks’ ratings,
causing them at times to behave as if they, too,
were Basel III constrained.
There is an urgent need for policy and
development banks to step in more creatively
to mitigate the risks that impede larger scale,
prudent private sector funding solutions (i.e.,
essentially fulfilling the premise underlying
their original creation which was to bridge the
gap where private funding solutions fail). Gone
are the days of the “BNDES gorilla” (Brazil’s
development bank) that could step in and
take the entirety of a Brazilian infrastructure
deal. Going forward, policy banks know that
they have to “crowd-in” the private sector by
being selective and targeted in the risks that
they take. There is no question that currency
risk and refinancing risk are two types of risk
where the mitigation “tool kit” of the policy
banks needs more “tools.” So-called “A/B
Loans,” a mainstay of development banks,
were designed for a different era; banks and
capital markets will require new support
structures going forward.
Let’s take, for example, the challenge of
power in Africa – a challenge that the Obama
Administration set about addressing in its
Power Africa initiative. Africa has the lowest
electrification rate in the world, at 43%,
with the rest of the Emerging Markets world
in the 80-90% range. Installed capacity is
141MW/ million people vs. 4-5 times that for
developing Asia and Latin America. Power
capacity in Africa is perhaps the greatest
As a result of
the financial
crisis, G-20
regulators
prioritized the
development
of a
regulatory
framework
designed
to prevent
another
global
financial crisis.