Assignment on International Centre for Settlement of Investment Disputes

 Introduction:

ICSID is an autonomous international institution established under the Convention on the Settlement of Investment Disputes between States and Nationals of Other States (the ICSID or the Washington Convention) with over one hundred and forty member States. The Convention sets forth ICSID’s mandate, organization and core functions. The primary purpose of ICSID is to provide facilities for conciliation and arbitration of international investment disputes.

The ICSID Convention is a multilateral treaty formulated by the Executive Directors of the International Bank for Reconstruction and Development (the World Bank). It was opened for signature on March 18, 1965 and entered into force on October 14, 1966.

The Convention sought to remove major impediments to the free international flows of private investment posed by non-commercial risks and the absence of specialized international methods for investment dispute settlement. ICSID was created by the Convention as an impartial international forum providing facilities for the resolution of legal disputes between eligible parties, through conciliation or arbitration procedures. Recourse to the ICSID facilities is always subject to the parties’ consent.

As evidenced by its large membership, considerable caseload, and by the numerous references to its arbitration facilities in investment treaties and laws, ICSID plays an important role in the field of international investment and economic development.

Today, ICSID is considered to be the leading international arbitration institution devoted to investor-State dispute settlement.

ICSID Dispute Settlement Facilities

ICSID does not conciliate or arbitrate disputes; it provides the institutional and procedural framework for independent conciliation commissions and arbitral tribunals constituted in each case to resolve the dispute.

ICSID has two sets of procedural rules that may govern the initiation and conduct of proceedings under its auspices. These are: (i) the ICSID Convention, Regulations and Rules; and (ii) the ICSID Additional Facility Rules.

 ICSID Convention, Regulations and Rules

The ICSID Convention provides the basic procedural framework for conciliation and arbitration of investment disputes arising between member countries and investors that qualify as nationals of other member countries. This framework is supplemented by detailed Regulations and Rules adopted by the ICSID Administrative Council pursuant to the Convention.

A principal feature of conciliation and arbitration under the ICSID Convention is that they are based on a treaty establishing an autonomous and self-contained system for the institution, conduct and conclusion of such proceedings.

Arbitration and conciliation under the Convention are entirely voluntary, but once the parties have given their consent, neither may unilaterally withdraw it. A further distinctive feature is that an arbitral award rendered pursuant to the Convention may not be set aside by the courts of any Contracting State, and is only subject to the post-award remedies provided for in the Convention. The Convention also requires that all Contracting States, whether or not parties to the dispute, recognize and enforce ICSID Convention arbitral awards.

There are several essential jurisdictional conditions for access to arbitration or conciliation under the ICSID Convention:

• The dispute must be between an ICSID Contracting State and an individual or company that qualifies as a national of another ICSID Contracting State. (ICSID Contracting States may designate constituent subdivisions and agencies to become parties to ICSID proceedings).
• The dispute must qualify as a legal dispute arising directly out of an investment.
• The disputing parties must have consented in writing to the submission of their dispute to ICSID arbitration or conciliation.

Under the ICSID Convention, the Secretary-General is vested with the limited power to “screen” requests for institution of ICSID conciliation and arbitration proceedings, and to refuse registration, if on the basis of the information provided in request, the Secretary-General finds that the disputes is manifestly outside the jurisdiction of the Centre.

 ICSID Additional Facility Rules

Besides providing facilities for conciliation and arbitration under the ICSID Convention, the Centre has since 1978 had a set of Additional Facility Rules authorizing the ICSID Secretariat to administer certain types of proceedings between States and foreign nationals which fall outside the scope of the Convention.

These include:

• Conciliation and arbitration proceedings for the settlement of disputes arising directly out of an investment where either the State party or the home State of the foreign national is not an ICSID Contracting State.
• Conciliation and arbitration proceedings between parties at least one of which is a Contracting State or a national of a Contracting State for the settlement of disputes that do not directly arise out of an investment.
• Fact-finding proceedings.

 Other Dispute Settlement Activities of the Centre

Additional activities of ICSID in the field of the settlement of disputes have included the Secretary-General of ICSID accepting to act as the appointing authority of arbitrators in ad hoc (i.e., non-institutional) arbitration proceedings. This is most commonly done in the context of arrangements for arbitration under the Arbitration Rules of the United Nations Commission on International Trade Law (UNCITRAL), which are specially designed for ad hoc proceedings. At the request of the parties and the tribunal concerned, ICSID may also agree to provide administrative services for proceedings handled under the UNCITRAL Arbitration Rules. The services rendered by the Centre in such proceedings may range from limited assistance with the organization of hearings and fund-holding to full secretariat services in the administration of the case concerned.

The International Financial Environment

• Multinational Financial Management
• International Flow of Funds
• International Financial Markets
• Exchange Rate Determination
• Currency Derivatives

 Exchange Rate Behavior

• Government Influence on Exchange Rates
• International Arbitrage and Interest rate parity
• Relationships among Inflation, Interest Rate, and Exchange Rates

Exchange Rate Risk Management

• Forecasting Exchange Rates
• Measuring Exposure to Exchange Rates
• Managing Transaction Exposure
• Managing Economic Exposure and Translation Exposure

Asset and Liability Management: Long Term and Short Term

• Direct Foreign Investment
• Multinational Capital Budgeting
• Multinational Restructuring
• Country Risk Analysis
• Multinational Cost of Capital and Capital Structure
• Long Term Financing
• Financing International Trade
• Short Term Financing
• International Cash management

The International Financial Environment

Trade and International Integration

The distinguishing feature of the World Bank work on international trade is that it is an integral part of the Bank’s work on development and poverty reduction. The World Bank assists developing countries to formulate liberal trade policies expressly in their process of development and poverty reduction and provides technical assistance or policy advice to the governments towards an open trade regime. The Bank undertakes research to better understand the role of international trade in development and poverty reduction. The Bank has also contributed significantly to the development of techniques and policy tools for analyzing the impact of trade policy reforms. At the same time, the World Bank through policy-based loans has supported trade reforms in many developing countries, such as reduction of tariffs, elimination of quantitative restrictions or improvement of foreign exchange systems, etc.

This website focuses on recent and on-going research on international trade in the Bank. In addition, through the main trade website the World Bank disseminates and provides training in best practice and cross-country experience in the area of trade policy.

 Trade and Competitiveness

Washington, June 17, 2008 – A new database and ranking tool unveiled today by the World Bank shows that in 2007 most developing countries continued to improve trade policies supporting greater integration. Data in the World Trade Indicators 2008 – Benchmarking Policy and Performance, produced by the World Bank Institute, also show that, over the past decade, countries with lower barriers tended to have stronger, more consistent trade and export performance.

While high-income countries still have the world’s lowest tariff barriers, many developing countries are converging rapidly. Georgia, Haiti, Armenia and Mauritius, are among the 10 countries having the lowest tariffs as measured by the simple average MFN tariff. Neither the European Union nor Japan is among the top 10.

Developing countries showing large declines in import restrictions since the beginning of this decade include Egypt, which reduced its average MFN tariff from 47 to 17 percent; the Seychelles, dropping its average tariff from 28 to eight percent; India, reducing from 32 to 15 percent; and Mauritius, which reduced its average from 18 to just 3.5 percent.

These observations emerge from the World Trade Indicators (WTI), a unique new database and ranking tool that allows benchmarking and comparisons among 210 countries and customs territories, across multiple trade-related indicators. The easy-to-use web-based tool is aimed at helping policymakers, negotiators and researchers assess each country’s performance relative to others’ as well as relative to its historical achievements.

The Indicators show the Middle East and North Africa, South Asia, and Sub-Saharan Africa to be the developing regions with the highest average tariffs. About half of the countries among the 20 having the highest tariffs are in Africa.

But WTI data also show that high-income countries still have much higher maximum tariffs than low-income ones. High tariff peaks also remain in the sectors of greatest export interest to many developing countries.

 Services trade liberalization could deliver large benefits, but movement has been slow in this area, especially in low-income countries. Locking in current levels of liberalization through the General Agreement on Trade in Services (GATS) would be an important first step towards a more ambitious reform agenda, especially for low-income countries. Improvements in low-income countries’ domestic institutions would boost their export performance, particularly in manufacturing and services, and help support new markets and new products. With trade costs now higher than tariffs in many countries, improvement in trade logistics in developing countries would deliver high payoffs in improved trade performance.

Despite global reductions in tariffs and preferential trading arrangements, low-income country exporters, as a group, still face the least favorable market access for their products, as they face average tariffs (3.7 percent) on their exports that are 32 percent higher than those faced by high-income country exporters (2.8 percent).

The Indicators also underscore the fact that developing countries are hurt by poorer institutional environments; countries with better behind-the-border policies and institutions are more likely to have a larger proportion of manufactures among their exports, as well as lower export concentration. Better logistics also boost trade integration.

 International Capital Flows

The recent, striking changes in the magnitude and direction of international capital flows have been accompanied by equally remarkable changes in the composition of those flows. The importance of those compositional changes ultimately depends on how different the component flows are from one another. This paper examines the behavior of the major components and evaluates the extent of their differences. The international balance of payments statistics divide international capital flows into four main categories: short-term investment, long-term investment, portfolio investment, and direct investment. Some of these categories are said to be more volatile than others. For example, international short-term investment (STI) often is called “hot money.” Extensive reliance on such “hot money” occasionally prompts fears of sudden and destabilizing reversals of capital flows, particularly in developing countries. In contrast, foreign direct investment (DI) often is presumed to represent a more stable flow of capital, one that somehow is linked more closely to the permanence of physical capital. Yet, in principle, the various categories of capital flows merely represent alternative forms of financing of the same underlying economic activity. That the major categories of capital flows represent substitutable forms of financing suggests that they might not behave so differently from one another after all. ‘The authors would like to thank Stijn Claessens, Eduardo Fernandez-Arias, Leonardo Hernandez, and Nlandu Mamingi for helpful discussions. This paper was prepared for the International Economics Department (IEC) of the World Bank.

 Exchange Rate Behavior

 Why Local Currency?

Companies with revenues in local currency should generally borrow in their local currency, instead of borrowing in a foreign currency which leads to currency risk. By matching the currency denomination of assets and liabilities, companies can concentrate on their core businesses rather than worry about exchange rate volatility. The financial crises which have affected emerging markets in recent years demonstrated that even stable exchange rate regimes may not hold in times of crisis, and therefore being hedged against currency risk is a prudent financial strategy.

IFC has also made local currency financing a priority in order to help develop local capital markets. In addition, we are keenly aware that companies which receive financing in the same currency as their revenues are more creditworthy clients for IFC.

 How IFC Provides Local Currency Loans and Hedges

IFC provides local currency debt financing in three ways: (1) loans from IFC denominated in local currency; (2) risk management swaps, which allow clients to hedge existing or new foreign currency denominated liabilities back into local currency; and (3) Structured Finance which enable clients to borrow in local currency from other sources. This note will explore further the first two of these mechanisms.

Collectively, local currency financing through loans or swaps is made possible by the existence of a swap or, more generally speaking, derivatives market. The existence of a long-term swap market between the local currency and dollars permits IFC to hedge its loans in the local currency and provide risk management products tied to the loan currency. Please see the markets in which long-term local currency swaps are currently available.

 Local Currency Loan from IFC

IFC disburses in local currency and the client repays in local currency. Based on the preference of the client, the loan can carry a fixed rate or a variable rate. Variable rate loans depend on the availability of a liquid local reference rate, usually a short term interbank lending rate or government securities rate. The repayment terms for local currency loans are customized to meet the needs of the client. IFC stands ready to provide long-term local currency loans in over a dozen emerging market currencies.

The diagrams below show the cash flows associated with a Mexican peso loan at disbursement and over time.

 Local Currency Swaps from IFC

Through an overlay currency swap, IFC allows clients to transform existing or new foreign currency liabilities into local currency. The foreign currency liability can be from any third party source such as a bank loan or bond issue. The currency swap can be tailored so that currency payments from IFC to the client exactly offset currency payments owed by the client under the foreign currency borrowing. By providing clients with hedging instruments which they would otherwise not be able to access, IFC helps clients achieve synthetic local currency financing.

The diagram below shows the cash flows associated with a Thai baht/US dollar currency swap over time:

 Available Currencies

IFC is able to offer medium- to long-term loans and hedges in the following emerging market currencies:

Local Currencies

· Argentine peso                      · Botswana pula                      · Brazilian real

· Chilean peso                         · Chinese renminbi                  · Colombian peso

· Czech koruna                        · Egyptian pound                    · Ghanaian cedi

· Hong Kong dollar                 · Hungarian forint                   · Indian rupee

· Indonesian rupiah                 · Kenyan shilling                     · Korean won

· Mexican peso                        · Nigerian naira                       · Pakistani rupee

· Peruvian soles                       · Philippine peso                      · Polish zloty

· Romanian lei                         · Russian ruble                                    · Saudi riyal

· Slovak koruna                       · South African rand               · Thai baht

· Turkish lira                            · Uganda shillings                   · Uruguayan peso

· Vietnamese dong

Local Currency – Answers to Frequently asked Questions

Q: Why does the Fixed-Spread Loan (FSL) have to be denominated in a major currency, and then converted into local currency? Why not denominate the FSL in local currency to begin with?

A: The Bank would not commit an FSL in a borrower’s currency because it may not always be able to access the local currency markets when borrowers wish to have disbursements or at terms that are acceptable to them. Pre-funding loan commitments in local currency and holding the liquidity until disbursements are made might be a way to address such funding risk. However, holding liquidity in local currency is likely to result in negative cost of carry for the Bank given the volatility and illiquidity of emerging financial markets and the limited numbers of instruments with acceptable credit rating in which the Bank can invest. Pricing the funding and liquidity risks into the loan charges for an FSL in local currency would make these products uncompetitive. Therefore the Bank has opted to provide local currency financing through the use of currency swaps from a major currency into a borrower’s local currency.

Q: Why can’t undisbursed amounts of FSLs be converted into local currency?

A: The conversion of fixed-spread loans into local currency is limited to disbursed loan balances so that the Bank can intermediate the currency swap transactions on the basis of known projected cash flows. Converting undisbursed amounts of FSL into local currency is equivalent to having FSL commitments in local currency which would expose the Bank to financing and liquidity risks. Please refer to the answer to the previous question for further explanation.

Q: Why can’t the entire loan be converted into local currency?

A: The Articles of the Agreement permit the Bank to provide local currency financing only under exceptional circumstances. Since these circumstances are basically the same as those under which the Bank is authorized to finance local expenditures with foreign exchange, the amount of the loan that can be converted into local currency is limited to that part of the loan that is used to finance local expenditures.

Q: What local currencies are available?

A: As of November 2000, an indicative list of emerging market currencies in which the World Bank might be able to undertake currency swap transactions included South African rand, Czech koruna, Polish zloty, Thai baht, Hungarian forint, Philippine peso, Indian rupee, Brazilian real and Mexican peso. However, the availability of these currencies, and the terms and conditions that the Bank could obtain at a given point in time will depend on swap market conditions at the time of execution of the proposed transactions. At the same time, since conditions in emerging financial markets can change rapidly, the Bank would determine, upon a borrower’s request, whether conditions would enable it to offer financing in a specific currency.

Q: Swap maturities in most emerging market currencies are short. What happens if the Bank is unable to roll over a maturing local currency hedging transaction?

A: At the maturity of the Bank’s hedging transaction, an FSL will revert to the original loan currency. The remaining loan principal repayments will reflect any exchange rate adjustment, representing the difference between the exchange rate used in the initial swap transaction and the market exchange rate at the time of the final principal payment on the initial swap. Such calculation may cause the remaining principal repayments to be more or less than they would have been in the absence of a conversion. For further information, refer to Section 4.6.2, “Partial Maturity Currency Conversion” of the Guidelines for Conversion of Loan Terms For Fixed-Spread Loans (“Conversion Guidelines”).

In the case of free-standing local currency swaps whose maturity is shorter than that of the underlying FSL, on the maturity date of the swap there will be a principal exchange for an amount equal to the remaining principal on the underlying loan. The principal exchange on the currency swap will be settled on a net basis; i.e., the net of the payable and receivable legs of the swap will be settled in the local currency. At the maturity of the free-standing local currency swap, borrowers would have the option to enter into another currency swap for the remaining principal balance of the loan plus the net amount of the maturing currency swap, provided that market circumstances permit.

Q: Why has the volume of multilateral development bank’s (MDBs) local currency transactions been small?

A : The volume of local currency transactions by MDBs has been small mainly because of funding constraints. MDBs do not generally hold unhedged currency positions on their balance sheet either because of statutes’ restrictions or financial policy considerations. They confine their transactions to currencies for which a liquid swap market exists in order to be able to hedge the exchange rate, interest rate and liquidity risks. The requirement of a liquid swap market limits the transactions to a small number of local currencies. Furthermore, the MDBs’ competitive advantage is their clients in local currency financing is much lower than in foreign currency loans. The lower comparative advantage makes local currency financial products less attractive to some borrowers.

Q: How can a borrower request a conversion or hedge into local currency?

A : For FSL conversions, the borrower would submit a Conversion Request to the Bank’s Loan Department, substantially in the form specified in the FSL Conversion Guidelines (borrowers should refer to Section 2 of the Guidelines for Conversion of Loan Terms For Fixed-Spread Loans). The Bank will then investigate the availability of swaps in the requested local currency, and will inform the borrower. The details of the procedure for conversion of FSLs are set forth in the Conversion Guidelines.

In the case of free-standing hedges, a borrower must first enter into a Master Derivatives Agreement (MDA) with the IBRD. A borrower would also need to provide the IBRD with a list of signatures of officers authorized to request IBRD hedge transactions. After the MDA is in place, to request a hedge into local currency a borrower needs to send a Hedge Request form to IBRD’s Loan Department. (Model Hedge Request forms will e available soon on this site).

Q: What are the advantages of borrowing from the Bank in local currency, if the government can raise local currency funding at the same, or a lower price?

A: A government would not derive any cost advantage from borrowing from the Bank in local currency if it can raise the local currency at the same or lower cost. Nevertheless, some countries prefer to keep the management of sub-sovereign institutions at arm’s length from government and let sub-borrowers manage their financing independently. Some of these sub-borrowers may have limited access to the local capital markets on reasonable terms

Q: Are the IBRD lending rates in local currencies expected to be higher than those of the major currencies?

A: In executing local currency swaps, the Bank will convert the full lending rate (i.e. the base rate and the total spread) applicable in the original loan currency into a local currency equivalent lending rate. The total spread over the local currency base rate will reflect the local currency equivalent of the FSL spread over LIBOR plus a basis swap adjustment. Depending on the interest rate differential between the original loan currency and the local currency and swap market conditions, the local currency spread over the base rate and the lending rate altogether could be higher or lower than those of major currencies.

Q: Why are the Bank’s indicative prices for local currency financing so high when its pricing in the major currencies is highly competitive?

A: Because of its fine credit rating in international capital markets, the Bank has a significant cost advantage over its borrowers in intermediating foreign currency-denominated financing. Many Bank borrowers have stronger credit rating in their local currency than in foreign currency. This explains why the indicative rates for IBRD’s local currency financing may not be as competitive as the rates for foreign currency financing.

Withdrawal of Currency Pool Loan

Q: When will the Currency Pool Loan (CPL) withdrawal take place?

A: The CPL will no longer be a choice for all loan commitments for which the invitation to negotiate is issued on or after March 1, 2001.

Q: Why was the Currency Pool Loan (CPLs) withdrawn?

A: The Bank’s decision to cease offering CPL terms for new loans is based on the fact that demand for currency pool loans had been on a steady decline since 1993, when the Bank started providing clients with a choice of financial instruments. Over the past two years, non-CPL products have accounted for 98% of new loan commitments. With the fixed spread loan (FSL) introduced in 1999, Bank clients can replicate the main characteristics of currency pool loans and also obtain access to a range of embedded risk management alternatives. Furthermore, while CPLs provided borrowers with relatively stable lending rate and currency composition of their loans, lack of pricing transparency and the difficulties associated with managing and monitoring the risks of their CPL liabilities have contributed to the decline in demand.

Q: How can the CPL’s positive features be replicated using IBRD’s new financial products?

A: Borrowers can replicate all the features of the CPL by using the FSL and risk management products the IBRD introduced in 1999. For instance, borrowers who want multi-currency obligations with slow moving average interest rates, can select an FSL in multi-currency tranches in their preferred currency proportions, and use the FSL’s embedded options to fix the lending rates over a period of time to achieve a moving average lending rate of their preference.

Q: What would be the effect on the financial terms of existing CPLs?

A: The financial terms of existing CPLs, including those loans which are still disbursing, will remain unchanged.

 IBRD Lending Rates and Loan Charges

Lending Rates for the IBRD Flexible Loan (IFL)
as of July 15, 2008

 IBRD Loan Charges 

These charges are for standard Bank loans. Special Development Policy Loans (SDPLs) have different financial terms, including higher loan charges.

10.10 Loan: IBRD Lending Products

10.10.1 IBRD Flexible Loan  

The IBRD Flexible Loan (IFL) provides borrowers with flexibility in managing their financial risks as their needs change over the life of the loan through embedded currency and interest rate conversion options, as well as a wide choice of amortization patterns and repayment schedules. The IFL carries a variable lending rate that consists of 6-month LIBOR plus a spread that can either be fixed over the life of the loan or remain variable.  Over the life of the loan clients have the flexibility to:

• Change the loan currency on disbursed and undisbursed amounts;
• Fix the interest rate on disbursed amounts;
• Unfix or re-fix the interest rate on disbursed amounts;
• Cap or collar the interest rate on disbursed amounts.

Borrowers also have flexibility during project preparation to custom-tailor IFL repayment terms (i.e., grace period, repayment period, and amortization structure) within existing financial policy limits. Once agreed, repayment terms may not be changed. In addition, all borrowers benefit from the extended limit on average repayment maturity up to 18 years and the extended limit on the final maturity up to 30 years for new loans.

 IBRD Contingent Loans

The Deferred Drawdown Option (DDO) is a contingent loan product designed to provide immediate liquidity in case of adverse events such as a natural catastrophe, a downturn in economic growth, or adverse changes in commodity prices or terms of trade. The DDO allows a borrower to postpone drawing down a Development Policy Loan (DPL) for a defined drawdown period after the Loan Agreement has been declared effective. The IBRD offers two versions of the DDO product.

Development Policy Loan Deferred Drawdown Option (DPL DDO):  The purpose of the DPL DDO is to provide a source of liquidity for member countries, granting access to long-term IBRD resources to maintain ongoing structural programs if a financing need materializes. It also provides a formal basis for continued policy-based engagement with the Bank when the borrower has no need for immediate funding, but values the Bank’s advice and access to immediate liquidity whenever deemed necessary.

Catastrophic Risk Deferred Drawdown Option (CAT DDO): The CAT DDO’s main purpose is to develop and/or enhance the capacity of borrowers to manage natural disaster risk, and to provide a source of immediate liquidity that could serve as a source of bridge financing while other sources (e.g. concessional funding, bilateral aid, or reconstruction loans) are being mobilized following a natural disaster. The presence of a hazard risk management program is a prerequisite.

Lending Rates for the IBRD Flexible Loan (IFL)

10.10.4 Terms and Conditions

Currency of Disbursement: Disbursements may be made in various currencies, as requested by the client. Currencies are acquired by IBRD and passed on to the client.  The loan obligation, however, remains in the currency (ies) in which the loan is denominated.

Currency of Repayment: The loan principal, interest and any other fees are payable in the currency(ies) of commitment.  However, currency conversions are available, under the embedded options highlighted below.Lending rateThe lending rate consists of a variable base rate plus a spread. The lending rate is reset on each interest payment date and applies to interest periods beginning on those dates.

Base rate: The 6-month LIBOR for value at the start of an interest period for most currencies, and a recognized commercial bank variable rate reference for other currencies.

Spread:

• Fixed for the life of the loan. Consists of the IBRD’s projected funding cost margin relative to USD LIBOR, the IBRD’s contractual lending spread, a risk premium and a basis swap adjustment for non-USD loans.
• Variable. Consists of the IBRD’s weighted average cost margin relative to 6-month LIBOR for funding (recalculated twice a year), and the IBRD’s contractual lending spread.

Embedded optionsInterest rate conversions

Interest rate caps and collars

Currency conversions

Front-end Fee0.25% of the loan amount. At the option of the borrower, the front-end fee can be paid out of the loan proceeds upon loan effectiveness. When the borrower does not finance the front-end fee, the borrower must pay the fee no later than 60 days after the effectiveness date, but before the first withdrawal from the loan.Amortization patterns and repayment schedulesBorrowers have flexibility to tailor repayment terms to meet their project and asset and liability management needs.

Amortization patterns may be level, annuity, bullet or customized.

Repayment schedules may be fixed at commitment or linked to disbursements.

MaturityMaximum Final Maturity is 30 years.

Maximum Average Repayment Maturity is 18 years/1.

Prepayment/2Borrowers have the choice to prepay, fully or partially, the amounts they owe on their IBRD loans subject to a prepayment premium.

Maturity: For repayment schedules linked to disbursements, the 18-year limit is the sum of the average repayment maturity and the expected average disbursement period. For this type of loan, the average repayment maturity is calculated as the weighted average period of time between the date of disbursement and scheduled repayment. This limit applies to the repayment schedule for each disbursement amount. The expected average disbursement period is defined as the weighted average period of time between loan approval and expected disbursements.

Prepayment of IBRD Loans: Borrowers have the choice to prepay, fully or partially, the amounts they owe on their IBRD loans. The IBRD may charge a prepayment premium. For IBRD Flexible Loans with a fixed spread and Fixed Spread Loans (FSLs), the premium covers the cost to the IBRD of redeploying prepaid funds, consisting of the Net Present Value of the difference between the fixed spread payable on the prepaid loan and the fixed spread in effect on the date of prepayment. For any portions of the loan which have been converted, the premium will also include the cost of unwinding the conversion plus any transaction fees. On partial prepayment, the borrower may specify those maturities to which the prepayment is to be applied.  Otherwise, prepaid amounts are applied first to the latest maturities due on the loan.  For IBRD Flexible Loans with a variable spread and Variable Spread Loans (VSLs), the prepayment premium is based on the redeployment cost of the prepaid funds which is the Net Present Value of the difference between the contractual lending spread of the prepaid loan and the contractual lending spread in effect for IBRD Flexible Loans with a variable spread on the date of prepayment. Prepaid amounts are applied first to the latest maturities due on the loan. For prepayment of older legacy products, and for further details, please see Operational Manual O.P.3.10, Annex B.

IBRD Contingent Loans – the Deferred Drawdown Option for Development Policy Loans (DPL DDO) and the Catastrophic Risk (CAT) DDO carry the same pricing and all embedded risk management options as the IBRD Flexible Loan.

 Interest Rate Swaps

Most financial market instruments are of such ancient lineage that the initial development is lost in history, but the birth of the interest rate swap is known precisely. The World Bank (more properly the International Bank for Reconstruction) borrows funds internationally and loans those funds to developing countries for construction projects. It charges its borrowers an interest rate based upon the rate it has to pay for the funds. The World Bank had a definite motivation to seek the lowest cost borrowing it could find. In 1981 the relevant interest rate in the U.S. was at 17 percent, an extremely high rate due to the anti-inflation tight monetary policy of the Fed under Paul Volcker. In West Germany the corresponding rate was 12 percent and Switzerland 8 percent. The problem for the World Bank was that the Swiss government imposed a limit on World Bank could borrow in Switzerland. The World Bank had borrowed its allowed limit in Switzerland and the same was true of West Germany.

IBM at that time, 1981, had large amounts of Swiss franc and German deutsche mark debt and thus had debt payments to pay in Swiss francs and deutsche marks. IBM and the World Bank worked out an arrangement in which the World Bank borrowed dollars in the U.S. market and swapped the dollar payment obligation to IBM in exchange for taking over IBM’s Swiss franc and deutsche mark obligations.

After the World Bank and IBM showed the way the market for swap grew by leaps and bounds. Now the amount of the funds involved in the swap market is many trillions of dollars.

The standard, sometimes called vanilla, swap is when one party holds fixed interest rate obligations and the other holds floating rate obligations. The party holding fixed rate obligations may think the short term interest rates are going to go down whereas the party holding the floating rate obligation may think the interest rate will go up. Then the two parties may be willing to exchange responsibilities for the interest and repayment.

While it might seems that it would be unusual to find two parties who want to do the opposite things the surprising thing is that any two parties facing different combinations of fixed and floating interest rates one will have a comparative advantage in fixed rate borrowing the other in floating rate borrowing. The calculator below makes the determination.

 Front-end Fee Policy on IBRD Loans

For all IBRD loan commitments whose invitation to negotiate is issued on or after July 31, 1998, and signed prior to September 27, 2007, a front-end fee of 100 basis points will be charged, payable on the loan’s Effective Date. A front-end fee of 25 basis points will be charged on IBRD loan commitments signed on or after September 27, 2007.

In the event of loan cancellation, adjustments to the front-end fee will be handled as follows:

• If the loan is fully cancelled prior to the loan’s Effective Date, no front-end fee will be charged.
• If the loan is partially cancelled prior to its Effective Date, the amount of the front-end fee payable will be reduced on a pro rata basis and the adjusted front-end fee will be payable to the Bank upon the loan’s Effective Date.
• If the loan is partially or fully cancelled on or after the loan’s Effective Date, no adjustment to the front-end fee will be made. This will apply equally to loans comprised of tranches: if, for example, a tranche were cancelled after the Effective Date, no portion of the front-end fee would be refunded to the borrower.

Comparative Sovereign MDB Loan Charges

            * Variable Spread Loans

** Fixed Spread Loans

 Exchange Rate Risk Management

 Hedging Products through IFC

IFC is one of the few organizations prepared to extend long-maturity risk management products to clients in emerging markets. Our risk management products, or derivatives, are available to our clients solely for hedging purposes. By allowing private sector clients in the emerging markets to access the international derivatives markets in order to hedge currency, interest rate, or commodity price exposure, IFC enables companies to enhance their creditworthiness and improve their profitability.

IFC’s role is to bridge the credit gap between its clients and the market, offering clients access to products which they may not have on a direct basis due to credit or country risk. In offering risk management products, IFC acts generally as an intermediary between the market and private companies in the emerging markets. Since the inception of this program in 1990, IFC has transacted risk management products for about 60 clients in 30 countries.

IFC’s Comparative Advantage

IFC is in a unique position to offer companies in developing countries a broad range of financial risk management products. Some of the benefits we provide include the following:

• Ability to take long term credit risk of emerging market clients.
• A triple-A rating, allowing access to the global financial markets on the most favorable terms.

 Extensive Market Relationships

Technical and legal know-how in the area of financial risk management, arising from the extensive use of derivative products in IFC’s own financial operations, such as funding, liquid asset management, and asset liability management.

 Illustration of Hedging Interest Rate Exposure

IFC offers clients products available in the international financial markets. In this example, a power company in a developing country is going to arrange a long-term contract with the local government. Under the terms of the contract the company is to receive a fixed amount of dollar revenue; however, the majority of its long-term financing is on a floating interest rate basis tied to LIBOR.

The company can protect itself against interest rate volatility by executing an interest rate swap with IFC, where the company pays a fixed rate to IFC and receives a LIBOR-based floating rate. The diagram below shows the cash flows associated with such swaps. Since the company’s debt service on its floating-rate loan is matched by the floating-rate cash flow received from IFC under the swap, the company is left with a fixed-rate obligation. As a result, the interest rate swap has effectively achieved fixed rate funding for the company, matching its fixed dollar revenues under its long-term contract.

Mitigating Currency Risk in Developing Countries

The way an investor perceives risk in a project is often more important than a country’s income level.  Given the long-term exposure of infrastructure projects to major political and economic risks, investors base much of their risk assessment on a country’s political and economic credibility. Since currency risk is a large component of total risk in emerging market investments, finding ways to manage or mitigate currency risk is critical to the success and financial closure of a project.

Currency risk in infrastructure projects can be broken into two distinct categories: currency transfer risk; and currency exchange-rate risk.  Both types are reflected in a country’s credit rating.  Transfer risk or conversion risk, refers to the ability and willingness of the sovereign government to allow its currency to be converted into foreign currency.  Transfer risk is present when a project needs to convert the currency in which it receives revenues into a foreign currency.  Currency conversions are done to purchase material inputs for project operations and to make offshore debt payments.  As a rule, transfer risk is addressed in project finance transactions by limiting the project’s rating to the credit rating of the country where the project is located.

A credit rating is an opinion of the creditworthiness of an obligor/or project with respect to a specific financial obligation.  Many factors are taken into consideration when determining creditworthiness.  Among these are guarantors, insurers, and other forms of credit enhancement pertaining to the obligation.  Also taken into account is the currency in which the obligation is denominated.  Credit ratings are used by lenders and sponsors to gain perspective on a project’s credit risk before investment and financing decisions are made.

A source of objective credit evaluation, credit ratings heavily influence the financing options available to a project.  Ratings are of critical importance since they reflect a project’s financial strength and determine the cost of financing as well as a project’s access to capital markets.  Loan maturities, loan amounts, and credit risk spreads are often decided based on credit ratings.  Potential investors can easily obtain credit and currency risk information from sources such as; The Institutional Investor Index, which furnishes data on transfer risk; and from companies such as, Standard & Poor’s and Duff & Phelps, which offer project finance rating services.

This paper will focus on the more complex problem of exchange-rate risk which refers to the change in value of one currency relative to another.  Exchange-rates are a result of the supply and demand forces for a currency and they rarely remain stable over long periods of time.  Exchange-rates or currency prices can be affected by many different factors including economic policies, political and economic conditions, and market psychology.

Exchange-rate risk is complicated and difficult to manage because it is project-specific and must be evaluated accordingly.  Projects are more limited in their ability to mitigate exchange rate risk than sovereign nations or corporations.  This is because projects generally do not have external sources of revenue, and because they usually have very high debt-to-equity ratios.  Without currency management, project expenses can quickly exceed project revenues and affect the ability of a project to meet its debt obligations.  Currency movements can also affect a project’s operations by increasing the costs of raw material inputs making a project more expensive to operate.  Appropriate incentives must be provided during construction and operation to draw necessary financial support from potential investors.

Investors will expect higher rewards from projects which subject them to higher risks.  Infrastructure investments can bring investors very high rates of return, but because of their long amortization periods they are also more exposed to currency movements.  However, in order to keep tariffs for project services at a reasonable level, long amortization periods are necessary.  Unfortunately, this long term exposure to currency movements adds to a project’s overall credit risk profile.  As discussed above, this can be devastating to a project because it discourages potential investment, makes it difficult to obtain long-term financing, and increases the cost of debt .

More projects are being successfully financed under difficult and risky conditions everyday.  Nonetheless, there are many viable projects and awarded concessions that have not been able to find or attract financing.  By restructuring projects and employing proper risk mitigation techniques financeable projects can be created .

 Currency Risk Management

The globalization of financial markets has emphasized the need for a more comprehensive approach to currency risk management.  The threat of currency risk can unravel a viable project overnight causing severe financial and socioeconomic losses.  Workable projects which perform desperately needed services can be canceled as a result of improper risk structuring.  Investors in developing countries can lower the financial risks associated with volatile currencies by establishing a currency-risk management policy.  Policies which quantify and evaluate all currency exposures can help investors identify objectives, limits, and tactics for risk mitigation.  Designing project contracts and concessions to include risk management strategies can help investors avoid the financial risks that affect future cash flows.  To protect against currency movements, tariff structures should be dynamic and responsive to changes in project revenue streams.  Once the appropriate risk mitigation procedures have been identified and matched according to project needs, risks should be allocated efficiently among project participants.  The project must be structured such that risks fall to the parties most able to manage them.  This paper examines risk management tools investors have used successfully including futures, options, forwards, currency swaps and guarantees.  A case study and a hypothetical project finance sketch offer examples of best practices.  Although, it is not possible to entirely eliminate currency risk from a project, it is possible to increase the odds that a project will reach financial closure.  Well-structured projects which are completed on-time can expand and improve services yielding benefits to all parties involved (IFC 1996).

Asset and Liability Management

Asset Management Services

Portfolios for the World Bank Group and other official institutions, plus approximately $11 billion in pension fund assets for World Bank Group staff. These portfolios are invested in a broad range of fixed income, equity and special asset classes and are actively managed to enhance returns against external benchmark indices.

For the global fixed income portfolios, strategies comprise interest rate decisions, sector rotation and arbitrage. The investment management team includes a strong quantitative and research group, which assists in the development of the strategic asset allocation decision and risk management of the portfolios.

 Pension Investment Partnerships (PIP)

Since the early 1990s, the World Bank has been providing policy advice to its member countries on the design of pension systems. The advice emphasizes flexibility of system design within a broad five-pillar conceptual framework, customized for individual country conditions and placing substantial importance on the key principles of affordability and sustainability.

Treasury supports this work, through the Pension Investment Partnerships (PIP) program, which assists funded official sector pension and social security schemes in our member countries to strengthen their investment management infrastructure and operations, thereby making these pension and social security schemes more sustainable. Treasury draws on its experience, skills and knowledge accumulated through managing about USD 15 billion in pension assets ranging from global equities and fixed income to private equity, hedge funds and real estate over the past 50 years. Treasury also manages over USD 60 billion in reserves and other assets in-house, allowing it access to a wealth of expertise, industry contacts, market information, and financial technology.

Recognizing the impact that governance has historically had on the performance of such schemes, PIP can advise plan sponsors on governance structures customized to the specific parameters of their scheme, which align the incentives of fiduciaries with those of multiple stakeholders and ensure transparency of and accountability for results. As part of advising on appropriate investment policy within an asset-liability context, PIP can also assist pension funds in evaluating existing levels of depth and liquidity in domestic financial markets and asset classes, appropriate investment avenues for pension assets and alternatives that could be created, international investment options, and innovative ways to manage currency risk issues that inevitably arise in such instances. PIP can also assist in educating policymakers on the implicit costs of the legal and political constraints that frequently characterize the investment of pension assets.

Possible subjects for training and advice (customized in each case to the client’s circumstances) may include:

• Governance structures and Plan objectives
• Asset-Liability management and foreign exchange risk management
• Investment policy, including domestic versus foreign assets
• Designing appropriate benchmarks for domestic asset classes
• Outsourcing policy, and selecting and managing investment managers
• Risk budget and tools for measuring, attributing, and allocating risk
• Capacity building in financial systems and human resources
• Communicating with multiple stakeholders, including employees, employers, pensioners, regulators, and government
• Benefits administration infrastructure

Asset-Liability Management

The Asset Liability Management (ALM) team is responsible for allocating funding to various lending products, and for ensuring that the currency, interest rate and maturity sensitivity characteristics of the Bank’s assets and liabilities are within prescribed risk parameters. To achieve this, ALM makes extensive use of derivative instruments including currency swaps, interest rate swaps and other interest rate management products.

The ALM team develops new products and innovative market solutions tailored to meet clients’ individual hedging needs. As part of this, they collaborate with other units to provide technical training to borrowers on pricing, market execution and credit aspects of hedging products and participates in negotiations on Master Derivatives Agreements (MDAs) with borrowers. The ALM team works closely with clients to develop hedging strategies and market tools to achieve their specific debt management objectives.

 An Example: Risk Management Strategy and Execution for IFFIm

As the Treasury Manager, the World Bank manages, mitigates and monitors financial risks arising due to differences in currency basis and timing of pledges from donors, disbursements and debt service of IFFIm.  The risk management tools that are used include, among others, currency swaps and currency forwards, interest rate swaps and forward rate agreements.  IFFIm and the Treasury Manager have entered into a master derivatives agreement and the Treasury Manager hedges IFFIm’s risk positions using its counterparties in the market.

IFFIm’s risk management framework incorporates:

• a prudent approach to balance sheet management, with the aim of mitigating and controlling financial risks;
• suitable risk limits and policies and procedures formulated to ensure that the limits are not breached; and
• appropriate systems, controls and reporting mechanisms for measuring and monitoring residual risks.

In this context, we provide the following services to IFFIm:

• Policy Analysis: develop the risk management framework, taking into account IFFIm Board’s risk preferences, balance sheet dynamics and market limitations, as well as credit, interest rate, operational and foreign currency risks, and the different instruments available for risk transfer
• Strategy Design: advise IFFIm’s Board on optimal risk transfer through a broad-based suit of risks to be hedged out and the instruments available, based on modeling and evaluation of risk management options
• Structuring: Negotiating and Executing transactions to efficiently remove interest rate and foreign currency exposure based on IFFIm’s board-approved risk management strategy;  tactical decision-making on overall execution strategy and timing for transacting on the different currencies to accommodate to market and liquidity limitations; benchmark counterpart market quotes based on in-house models to negotiate prices and ensure best execution.

Treasury Operations

The Treasury Operations Department is responsible for Treasury’s middle and back office functions, all systems services, and provides Cash Management and Banking Relations services for the World Bank Group as a whole. Treasury Operation’s cross-functional staffs provide pricing and valuation, performance measurement, transaction and securities processing and compliance support functions. The middle office provides quantitative analytics support and operational risk reporting and coordinates Treasury’s control risk assessments related to internal corporate governance and risk management functions.

Treasury Operations implements and manages information systems in support of Treasury’s asset management, funding, pension investment, and cash operations functions. Their staffs participate in delivering services for client central banks under the Reserves Advisory and Asset Management Program (RAMP). Special projects are implemented on behalf of external and internal (World Bank Group) clients.

The operational units are structured to provide dedicated processing and analytical support for the Banking, Capital Markets and Financial Engineering (BCF), Investment Management (IMD), Quantitative Risk and Analytics (QRA), and Pension Investment (PID) Departments. This support includes ensuring the integrity and smooth transfer of financial data, the maintenance of legal documentation and prudential controls, and for the provision of all accounting, trade settlement and call monitoring activities for traded financial instruments (e.g. bonds, swaps, swaptions, etc.). Accounting information and financial reports are made available on a daily and monthly basis on Treasury’s secure Intranet and Client Center Internet web sites.

Treasury’s Information Systems infrastructure is supported by two systems divisions, TROFA, developing and maintaining critical financial applications, and TROIS, supporting trade capture and overall systems infrastructure.  Many business applications are supported, including trade entry, portfolio accounting, performance measurement, risk analysis, compliance monitoring, settlement, cash account reconciliation, and financial messaging.  The staff are also responsible for maintaining the trading room, ensuring information security, preparing for disaster recovery and business continuity, providing 24 x 7 support for critical systems, and implementing and managing Treasury’s internal and external web sites.

Systems staffs also participate in providing technical assistance to eligible central banks and international organizations.  Over the past several years, technical specialists have provided on-site assessments, recommendations and support to over a dozen central banks and have hosted focused training sessions for several more.

Public Debt Management

The Public Debt Management team (part of the Banking and Debt Management Department) is responsible for advising IBRD governments, and governments in low income countries in partnership with PREM (Poverty Reduction and Economic Management Network), the Bank’s Poverty Reduction and Economic Management Network, in designing and implementing debt management strategies. Our mission is to assist governments in building capacity in managing the risks of the sovereign debt portfolio.

Building capacity in public debt management involves:

• Establishing key objectives and priorities
• Establishing prudent risk management strategy and policy
• Strengthening middle office analytical capability
• Defining a framework for risk management
• Ensuring consistency with other macroeconomic policies and objectives
• Establishing an organizational structure that ensures clear accountability and transparency of responsibilities
• Establishment of a legal framework
• Recruitment of trained staff, and selection and implementation of effective management information systems

The Public Debt Management team is also the point of coordination in the collaborative work with the International Monetary Fund (IMF).

 Foreign Direct Investment (FDI)

Why FDI?

The development needs today are stark. Billions of people live without access to safe drinking water or sewage treatment. Children can’t attend school because there’s no electricity to light classrooms in some countries, and no roads to get to school in others. The list goes on. Developing country governments cannot shoulder the burden—financially or technically—of addressing these needs alone.

Foreign direct investors can play a critical role in reducing poverty, by building roads, for example, providing clean water and electricity, and above all, providing jobs. By taking on these tasks, the private sector can help economies grow and avert the need for governments to use funds better spent on acute social needs, while taking advantage of the opportunity to make profitable investments.

IFC fosters sustainable economic growth in developing countries by financing private sector investment, mobilizing private capital in local and international financial markets, and providing advisory and risk mitigation services to businesses and governments. IFC’s vision is that poor people have the opportunity to escape poverty and improve their lives. In FY07, IFC committed $8.2 billion and mobilized an additional $3.9 billion through syndications and structured finance for 299 investments in 69 developing countries. IFC also provided advisory services in 97 countries.

Since Peru joined IFC in 1956, IFC has provided over $1.2 billion to more than 50 private enterprises in the country, including $300 million in syndicated loans.  In fiscal 2007 (July 2006 to June 2007), IFC invested $247.7 million in the country’s priority sectors. As of June 2007, IFC’s committed portfolio in the country reached $463.9 million.

IFC’s strategy in Peru addresses private sector challenges, with a focus on fostering sustainable development. Key sectors include financial, microfinance, infrastructure, agribusiness, and tourism. Promoting access to finance for small and medium enterprises and housing is also at the core of IFC’s strategy.  IFC provides added value to clients in extractive industries, helping raise social and environmental standards and increase impact in local communities.

Washington, D.C./Lima, February 5, 2008 — The Board of Directors of IFC, a member of the World Bank Group, on Tuesday approved financial and advisory support for Peru LNG, a natural gas export project that will support growth in some of Peru’s poorest regions and will be the largest foreign direct investment in the country’s history.

Totaling $3.8 billion, this landmark investment is the first liquefied natural gas export project in Latin America. It is expected to transform Peru into a net hydrocarbon exporter after operations begin in 2010. In addition to the $300 million loan approved today, IFC is advising Peru LNG on optimizing the project’s environmental approach and ensuring that local communities benefit.

“We very much value IFC’s support in helping us develop a project that follows best practice environmental and social standards and that extnds the investment’s development benefits to the Peruvian people,” said Steve Suellentrop, President of Peru LNG.

The project consists of an LNG plant and a marine loading terminal 170 kilometers south of Lima on Peru’s central coast, as well as a new 400-kilometer pipeline that will connect to an existing pipeline network east of the Andes. The gas is expected to be sold to overseas markets.

Peru LNG will help generate significant annual tax and incremental royalty payments to the Peruvian government, equivalent to over 1.5 percent of current state revenues. The project will also support the regional economy through local purchasing of goods and services. The company and IFC are developing a community development program in line with Peru LNG’s commitment to sustained economic development.

“In Peru LNG we have found a partner who shares our commitment to supporting economic development through private sector investment,” said Somit Varma, IFC Director and Global Head for Oil, Gas, Mining, and Chemicals. “IFC plays an important role in helping ensure that project benefits reach the people that need them most.”

IFC will help the company purchase goods and services from local small and midsize companies. IFC will also support local authorities in efficiently managing and allocating incremental royalties resulting from the project. IFC seeks to extend local engagement in the project by giving community members opportunities to evaluate the company’s environmental and social performance.

The approval by IFC’s Board followed extensive consultation by IFC staff with affected people and civil society organizations.

The Peru LNG project consortium is headed by Texas-based Hunt Oil Company and includes Spain’s Repsol YPF, SK Energy of South Korea, and Marubeni Corporation of Japan.

Capital Budgeting and Investment Planning

Introduction

The capital budget is largely concerned with the creation of long-term assets (roads, pipes, schools, water treatment plants). The capital budget details the local government’s long-term capital improvement needs. Governments commonly establish a uniform and organized multi-year (5-year) capital investment plan (CIP) to outline the public facilities, infrastructure, and land purchases that the jurisdiction intends to implement during a multi-year period given the availability of funds.

Components of the Capital Budget

The capital budget process is usually a multi-step process, including:

• Inventory of Capital Assets;
• Developing a Capital Investment Plan (CIP);
• Developing a Multi-Year CIP;
• Developing the Financing Plan; and,
• Implementing the Capital Budget.

IFC: Summary of Regular Capital Budgeting

Management has made difficult choices between desirable programs to strike the balance

among pressing priorities. At the same time, Management is requiring productivity gains in

investment operations to ensure that, even in a growth mode, IFC uses its resources efficiently.

Toward this end, IFC departments have been given productivity targets such as the number of

commitments per investment officer which will be monitored throughout the year.

Total Resources

The total resources used by IFC to deliver its overall operational program and development strategy are larger than the Total Budget alone. They include items such as contributions to Advisory Services (AS), and special programs approved by the Board in addition to the Total Budget. They also include spending which is not subject to Board budgetary approval such as the Corporation’s fee-based activities, because it is directly offset against related sources of revenue. In addition, there are resources such as those provided by donors which are used by IFC and which are outside of its financial statements but are keys in supporting advisory type developmental activity. Table provides a comprehensive statement of the total resources that are needed and used to deliver IFC’s full development impact. The table includes all items of this kind that have been approved by the Board, or are presented for Board approval this year.

Table: Total Resources

US$ millions

Recourses Used by IFC, which Impact the Financial Statements

Restated

Budget*FY08

Nominal

BudgetTotal Budget comprised of:

Regular Budget

Depreciation

Corporate Secretariat & Board

Contributions to Retirement Accounts

Other Budget Items533.4 597.9

405.8

28.5

12.9

73.3

12.9533.4 597.9

455.0

38.1

16.8

71.8

16.1Environmental/Social Mediation and Conflict Resolution

Contingency Fund0.4

0.0

Contributions to Advisory Services (AS) Programs (FMTAAS)124.0125.0 – 150.0Jeopardy Expenses 8.07.0Borrowing Expenses 2.02.5Expenses offset by fee income 30.230.5TOTAL698.0762.9 – 787.9

Recourses Used by IFC, which do not Impact the Financial Statements

Restated

BudgetFY08

Nominal

BudgetDonor Contributions to:

Advisory Services

Global Environmental Fund

80 – 90

20

100 – 130

27TOTAL100 – 110127 – 157

Total Budgeting

The Total Budget comprises the Regular Budget plus items that fluctuate independently of discretionary budget allocations. These items are Depreciation Expenses which are the

product of previous capital budget allocations; costs for the Corporate Secretariat & Board; Contributions to Retirement Accounts; and Other items such as the Compliance

Officer/Ombudsman and the Independent Evaluation Group.

Depreciation Expense. Overall depreciation costs in FY08 will increase as compared to FY07. This increase relates to the Corporation’s increased capital spending in recent years. More than half of the depreciation expenses results from investment in Central IT Projects which are necessary to provide the tools needed to conduct regular, ongoing business on a global scale.

Corporate Secretariat & Board. The proposed budget for the Corporate Secretariat and

Board is for IFC’s share in the cost of operation of the Board of Governors, Executive Directors, Development Committee and Corporate Secretariat. The total cost of operations is shared among IBRD, IFC and MIGA through service and support fee agreements which closely reflect the actual use of the Board time by the respective institutions. The significant increase of $3.5 million or 27% increase over FY07 reflects the increased use of Board time by IFC due to significant growth in business.

Contributions to Retirement Accounts. Contributions to the Staff Retirement Plan, the

Supplemental Staff Retirement Plan, and Retired Staff Benefits Plan are expected to decrease by $1.5 million (-1.9%) to an estimated $71.8 million in FY08, as approved by the Pension Finance Committee in April 2007. This reflects the actuarial estimates of funding requirements based on the market valuation of the underlying assets relative to pension plan liabilities. It also reflects the budget set aside for tax supplements expected to be paid in connection with the net pension plan.

Other Budget Items. This category includes the Internal Controls Initiative, the Compliance Advisor/Ombudsman, Field Security, Business Continuity, and IFC’s Independent Evaluation Group (IEG). The increase for this category is largely driven by increased costs for Field Security and Business Continuity.

Environmental/Social Mediation and Conflict Resolution Contingency Fund

The Environmental/Social Mediation & Conflict Resolution Contingency Fund was established in FY03 to assist the Compliance Advisor/Ombudsman (CAO) in mediation and conflict resolution activities. This fund was created in response to the creation of the mediation process following two complaints received against Minera Yanacocha in Peru. CAO has not needed to draw any funds from the Contingency Fund in FY07 since there were no extraneous mediation or conflict resolution issues this fiscal year.

Jeopardy Expenses

IFC designates a project as being a jeopardy case when the prospects for recovery of IFC’s investment are in serious doubt due to expected future loan defaults, country/industry considerations, stock market factors or other factors as determined by Senior Management. The restructuring or recovery of such jeopardy cases often generates significant out-of-pocket expenses (e.g. for travel, consultants, auditors, and legal fees); to facilitate the tracking and reporting (and often the reimbursement) of these extraordinary jeopardy expenses, IFC sets up a separate expense account for each jeopardy case. The Board has traditionally recognized jeopardy expenses as being off-budget, since in the majority of jeopardy cases, IFC’s ultimate recovery on its investments amounts to many times the expenses spent in the recovery process.

Borrowing Expenses

Borrowing expenses comprise three major elements: i) costs incurred in direct connection with specific market borrowings – outside legal counsel fees, auditor fees, travel costs, prospectus printing costs, press notification costs, etc.; ii) rating agency fees; and iii) nonliquid asset management market communication costs (Bloomberg, Reuters, etc.).

Expenses Offset by Fee Income

The Corporation uses appraisal and other fees to offset many of the out-of-pocket expenses associated with the appraisal of investment projects; these are called reimbursable. The reimbursable generally include costs for travel, consultants, and legal counsel.

Special initiatives of the Vice Presidency of Finance and Treasury will be funded from a portion of the Syndication and Parallel Loan Fees earned by the Syndications Department. Such special initiatives relate to resource mobilization, local currency financing products, and decentralization. In FY08, fees will be used to: (i) develop new instruments for resource mobilization; (ii) manage local liquidity and bolster local currency financing through the management of local liquidity; and (iii) pay local counsel fees associated with the development of MATCH
Criticism of the World Bank

Some critics of the World Bank believe that the institution was not started in order to reduce poverty but rather to support United States’ business interests, and argue that the bank has actually increased poverty and been detrimental to the environment, public health, and cultural diversity. Some critics also claim that the World Bank has consistently pushed a “neo-liberal” agenda, imposing policies on developing countries, which have been damaging, destructive and anti-developmental. Some intellectuals in developing countries have argued that the World Bank is deeply implicated in contemporary modes of donor and NGO driven imperialism and that its intellectual output functions to blame the poor for their condition.

It has also been suggested that the World Bank is an instrument for the promotion of U.S. or Western interests in certain regions of the world. Consequently, seven South American nations have established the Bank of the South in order to minimize U.S. influence in the region. Criticisms of the structure of the World Bank refer to the fact that the President of the Bank is always a citizen of the United States, nominated by the President of the United States (though subject to the approval of the other member countries). There have been accusations that the decision-making structure is undemocratic, as the U.S. effectively has a veto on some constitutional decisions with just over 16% of the shares in the bank; moreover, decisions can only be passed with votes from countries whose shares total more than 85% of the bank’s shares. A further criticism concerns internal governance and the manner in which the World Bank is alleged to lack transparency to external publics.

The World Bank has long been criticized by a range of non-governmental organizations and academics, notably including its former Chief Economist Joseph Stiglitz, who is equally critical of the International Monetary Fund, the US Treasury Department, and US and other developed country trade negotiators. Critics argue that the so-called free market reform policies – which the Bank advocates in many cases – in practice are often harmful to economic development if implemented badly, too quickly (“shock therapy”), in the wrong sequence, or in very weak, uncompetitive economies.

World Bank standards and methods are, however, highly valued and adopted in areas such as transparent procedures for competitive procurement and environmental standards for project evaluation. World Bank also engages in funding the education of promising young people from developing countries through its graduate scholarship programs.

A young World Bank protester takes to the street in Jakarta, Indonesia.

In Masters of Illusion: The World Bank and the Poverty of Nations (1996), Catherine Caufield makes a sharp criticism of the assumptions and structure of the World Bank operation, arguing that at the end it harms southern nations rather than promoting them. In terms of assumption, Caufield first criticizes the highly homogenized and Western recipes of “development” held by the Bank. To the World Bank, different nations and regions are indistinguishable, and ready to receive the “uniform remedy of development”. The danger of this assumption is that to attain even small portions of success, Western approaches to life are adopted and traditional economic structures and values are abandoned. A second assumption is that poor countries cannot modernize without money and advice from abroad.

A number of intellectuals in developing countries have argued that the World Bank is deeply implicated in contemporary modes of donor and NGO driven imperialism and that its intellectual contribution functions, primarily, to seek to try and blame the poor for their condition.

Defenders of the World Bank contend that no country is forced to borrow its money. The Bank provides both loans and grants. Even the loans are concessional since they are given to countries that have no access to international capital markets. Furthermore, the loans, both to poor and middle-income countries, are at below market-value interest rates. The World Bank argues that it can help development more through loans than grants, because money repaid on the loans can then be lent for other projects.

Recommendations

Drawing from the testimonies and its own experience and analyses, the Panel believes that:

1. There is a need and urgency to build upon local resistances and alternatives to the dominant economic free-trade and growth oriented paradigm, in order to strengthen alliances and movements, while confronting World Bank culture and ideology, challenging its political and economic role;

2. Commons are for the common good and not for corporate profit. Therefore,  the Bank should abstain from supporting the privatisation of the commons and of life-supporting resources;

3. Socio-economic audits of the World Bank should be undertaken and supported through similar Hearings and Tribunals. In cases of conflicts generated by World Bank projects or policies, a moratorium might be established to enable fair and informed resolutions of the conflicts;

4. The concepts of social and ecological debt should be further developed and operationalized by organizing a session of the PPT on the historical, social, ecological and illegitimate debt;

5. Parliaments and governments should initiate independent debt audits in order to identify historical responsibilities, and the social, economic and environment, as well as juridical implications of debt for peoples’ rights and self-determination.

 Conclusion

It is well known that the World Bank came into existence with the purpose of playing a significant role in creating markets, mobilizing resources while supporting infrastructure and productive capacity. Most recently, notably in the early 90s, it has repositioned itself in support of poverty alleviation while advancing a global free trade agenda through its lending and conditionalities. A parallel and unofficial history of the World Bank tells us years of resistance at the local and global level by social movements and communities eager to reclaim their right to self-determination and control over their resources.

The cases considered in the Hearing show that the World Bank has been extremely influential in dealing with the State and the public sector in borrowing countries. Its interventions have gone much beyond its formal limited role of a lending agency and went into policy-making, prioritizing, budgeting and planning in every sector of governmental action. This has enabled the Bank to generate and force a development paradigm that is market- and growth-oriented rather than aimed at meeting basic human needs while attaining social and environmental justice.  As a matter of fact, its lending conditionalities lead to the conversion of life-supporting natural resources such as land, food, air, seeds and energy into merchandise.

The Nicaragua case showed the failure of privatization of public utilities in guaranteeing full and broad access to electricity for the poor majority of the country, while generating huge profits for the Spanish monopoly Union Fenosa and indebtedness for the State.

As we could learn from the case of cotton in Mali, the local self-reliance and community-based labor-intensive economy has been threatened by the World Bank´s lending priorities that seemed to be linked to the liberalization agenda of, and relevant negotiations at, the WTO.  It is significant that the timing of World Bank programs in Mali coincided with the cotton liberalisation negotiations at the WTO.

One could wonder whether this is a contradiction to the World Bank´s stated goal and objective of reducing poverty , considering that such an institution might eventually become a hindrance to economic and political rights-based alternatives to build another possible world .

The Panel noted the remarks made by the witnesses as to how the World Bank is imposing conditions on countries negotiating a loan, leaving little or no room for these countries to choose their own direction. In at least two cases, we noted that access to the HIPC debt reduction processes was conditioned to the implementation of structural adjustments and liberalization of economies, thereby producing a vicious circle of forced payment of increasing volumes of debt.  Combined with an uneven distribution of resources and benefits, this has also resulted in a massive drain of national resources away from the imperatives that cold ensure distributional and social equity and self-reliance. In this process, the traditional, customary, cultural and territorial rights of local communities and indigenous peoples are compromised and sacrificed. International conventions and UN covenants such as ILO 169 on the rights of indigenous populations have been ignored if not violated.

The panel acknowledges the relevance of the concepts of ecological and social debt when dealing with the consequences of such development paradigm. Additionally, evidence of odious and illegitimate debt – such as in the cases of Peru and Nigeria – has been presented, whereby foreign debt accumulated during dictatorial regimes is  still being paid by the victims of the past.

In many cases, the Panel noted the points made about violations of peoples’ right to be proactively engaged at all levels of the decision-making process. The Panel notes this is not in agreement with the principle of prior informed consent on any policy or decision affecting their own lives, and territories.

Hence, through its policy advice, the Bank has prevented the full exercise of participatory and direct democracy, thereby widening the gap between governments and peoples, creating a fictional political space where genuine interests are overlooked if not ignored. In this context, Parliaments´ roles have frequently been shrunk to merely rubberstamping decisions already made in closed circles.

The Panel learnt, however, that in certain cases, such as in Malawi, countries might be able to find their own route to social justice, food sovereignty and food security, by rejecting World Bank conditionalities and continuing to subsidize local agriculture and markets, while fostering the inclusion of the poor.

The cases on mining in Peru and oil and gas extraction in Nigeria and Kazakhstan show the link between World Bank developmental priorities and the advancement of the interests of transnational companies. Pollution resulting from gold extraction, gas flaring and fossil fuel extraction has resulted in the violation of peoples’ rights to health, a clean environment, and water. No compensation of losses or replacement of livelihoods was ever ensured either by the Bank or by the government despite evidence produced by the Bank itself.

More generally, the continued support of the World Bank to fossil fuel extraction and use, with the associated greenhouse gas emissions, rather than small scale renewable energy,   raises serious questions about the Bank’s role in and commitment to  the Post-Kyoto process and  support for eco-friendly technologies. It is an another case of “institutional amnesia” considering that the 2004 Extractive Industries Review, supported by the Bank itself, recommended a phase-out of Bank financing of fossil fuel projects, the adoption of the principle of free, prior informed consent and compensation for affected communities. We believe these recommendations are still valid and should be implemented.