Brazil is the world’s sixth-largest economy, yet ranks only 114th out of 148 countries in the World Economic Forum’s listing on infrastructure quality. Brazil’s infrastructure stock represents only 16% of its Gross Domestic Product, compared to between 60% and 75% in similar economies. Brazil faces the same issues plaguing many other developing nations: a high cost of infrastructure financing and management paired with strictly long-term returns on investment. In many developing countries, the cost of corruption also contributes to the problem. Corruption, fraud, and mismanagement by government officials can often triple the cost of a project. For example, the Mane Garrincha World Cup stadium in Brasilia had an initial cost evaluation of $300 million, but ended up costing Brazil over $900 million.
Brazil must embrace innovative policy instruments such as Infrastructure Guarantee Funds (IGFs) to break out of the death spiral of infrastructure spending from which it currently suffers. The World Bank can assist by advising Brazil on lessons learned from earlier applications of IGF programs. Such assistance will simultaneously help the World Bank maintain its leadership status in the facing of growing Chinese foreign direct investment and alternative development banks.
Poor infrastructure is an economic burden for developing nations, but efficient infrastructure has a multiplier effect on a nation’s economy and society. The positive impacts range from clean water and cheaper energy to efficient transportation and storage of goods. Yet the financial and management capabilities required to develop such infrastructure often do not exist in developing nations. Governments are forced to take on expensive loans, as no national private entity can bear the risk of these major infrastructure projects. Additionally, developing nations often lack the technical and financial expertise to develop efficient infrastructure, a shortcoming that eventually results in significant additional financial costs.
A new policy instrument, the Infrastructure Guarantee Fund, aims to solve these challenges. These funds are used to raise money from public and private entities to ensure that developers receive necessary financing and insurance. IGFs enable the government to share potential risk with private entities, thus easing the burden on public spending. Foreign and domestic investors combined provide a substantial financial supply for these projects. More than simply fixing a funding gap, this technique also provides an insurance fund for developers and investors against certain non-manageable environmental, political, and regulatory risks.
The World Bank defines an IGF package as liquid assets available for any contingent liabilities. The fund has its own balance sheet and is separate from the annual budget cycle. The fund also enjoys independent governance that limits its exposure to corruption, another attractive argument for foreign investors. This technique being considered by Brazil has already been adopted by a few countries: the United Kingdom, Indonesia, and the United States (in California).
The recently established British and Indonesian IGFs are having difficulties operating due to a complicated application process. Public-private partnerships often imply a more lengthy execution process, and IGFs are recent instruments still at an early stage of development. As noted by Fitch Ratings, however, IGFs appear promising for the future of infrastructure development countries such as Indonesia.
Given the potential benefits of an IGF and the pressing infrastructure needs of Brazil, the World Bank should lead studies on a standardized IGF policy. The World Bank Group was a pioneer in helping to set up the Indonesian IGF, and could replicate its success by collaborating with the Brazilian government, which is currently establishing an IGF. The World Bank Group could also make a commitment to invest in the fund, as it did to the tune of $25m in Indonesia. A similar sum should be offered to assist Brazil in setting up the fund by the end of 2015.
The World Bank and its primary shareholder—the U.S. government—are no longer alone in the market of development aid and financing. China is now a direct competitor. The Chinese government is now the primary source of credit for many countries, such as Russia, Argentina, Venezuela, and several African countries. China has also begun to set up development banks to challenge the World Bank and its long-term partner institution, the International Monetary Fund. In partnership with Brazil, Russia, India and South Africa, China recently created the “New Development Bank” to compete with the World Bank.
IGFs will certainly be a commonly used technique of development finance. Developing and mastering new instruments such as IGFs in Brazil today will help the World Bank maintain its leadership tomorrow.
Badis Khalfallah is a second-year graduate student in the International Affairs program at the George Washington University’s Elliott School of International Affairs. He focuses on International Economics and Finance. Badis graduated from the University of Geneva with a BA in Political Science. He can be reached at email@example.com.