The G20 Explores Multilateral Development Bank Reforms

The Multilateral Development Bank (MDB) system has mostly resisted the unravelling of the international order. However, the multiplication of MDBs has considerably reduced their collective effectiveness. This fragmentation is now preventing them from adapting to global challenges and from harnessing private capital for development. In response, the G20 is exploring solutions to fix the system. A set of proposals will be discussed at the upcoming World Bank Spring Meetings in Washington, DC. Most recommendations are incremental fixes and do not entail institutional change. Others could pave the way for significant reforms, with the potential to transform the MDB system.

What next

On April 19, a working group will brief the G20 Finance Ministers and Central Bank Governors and consult with MDBs on possible reforms to global financial governance. Most of the modest, consensual proposals will be welcomed as first steps toward a more sustainable MDB system. Other, more controversial ideas will continue to be discussed until the final recommendations are presented in October 2018. In any case, this process will entrench the G20 as the key decision-making body for MDBs. As such, it will provide the G20 membership with the possibility to revamp the MDB system in the next few years.

Impacts

  • The ongoing debate on a World Bank capital increase will become peripheral to the larger discussion on MDB system reform
  • If implemented, a cross-MDB risk insurance platform would create a one-stop shop for investors and expand opportunities for private reinsurers
  • If implemented, system-wide securitization would create new asset classes and expand opportunities for institutional investors
  • If implemented, the in-country MDB coordination platforms would enhance ownership of projects by host government in middle-income and stable low-income countries

Analysis

Since the creation of the World Bank at the 1944 Bretton Woods conference, the public institutions that provide long-term international financing for development have proliferated.

Given the scale and multifaceted nature of development challenges, the multiplication and functional differentiation of MDBs is not inherently negative. However, concerns have emerged regarding the coherence and governance of the system, and about the efficient use of public resources.

Such concerns predate the New Development Bank and Asian Infrastructure Investment Bank (AIIB). However, the establishment of the two China-led MDBs have intensified the fragmentation of the MDB system and thereby accentuated the critical challenges associated with it.

Fragmentation

The fragmentation of the MDB system has created three critical problems.

The first problem is duplication. Each MDB replicates all attributes of its sister institutions, from the administrative and research departments to country offices. Instead of enabling economies of scale, the MDB system unnecessarily ties up financial and human capital that could be deployed in countries and projects that need it most.

The second issue is free riding. Some MDBs cross-subsidize others by taking more risks and shouldering more costs. For instance, in 2017 the World Bank and the AIIB partnered to finance the rehabilitation of the Nurek hydropower plant in Tajikistan. For the project to be financially sustainable, the World Bank provided two highly-concessional loans and a grant; in turn, this soft package enabled the AIIB to lend on much harder terms.

The third difficulty is unfair competition between MDBs. Borrowing countries can choose the lending product most competitive in terms of pricing, policy conditionality, and financing modalities. If unchecked, the competition can lead to a race to the bottom, to the detriment of creditors and debtors alike.

Aggravating factors

All other things being equal, these problems have constrained the effectiveness of MDBs. In the changing context of development finance, they risk, however, undermining the whole system.

The role of the MDBs is evolving in response to two simultaneous developments:

  • the rise of transboundary challenges, such as climate change, international migration, and pandemics that MDBs have increasingly sought to address;
  • the growing gap between investment needs and available public financing, which MDBs have endeavoured to bridge by mobilizing private capital.

In this process, the negative effects of fragmentation have become more acute, with increased risk of overlapping mandates and undercutting practices.

For instance, the World Bank recently started implementing the “cascade,” a new operational approach to harness private financing for development. When preparing a project, World Bank staffers must consider private solutions first and public options only as a last resort. This modus operandi can only work if other MDBs do not seek to get their own money out the door. In other words, the World Bank’s new approach cannot be effective in the absence of system-wide coordination and cooperation.

In effect, the fragmentation of the MDB system is preventing MDBs, starting with the World Bank, from transforming themselves and fully fulfilling their new missions.

Recent steps

Since 2015, MDBs have enhanced their collaboration on strategies, policies, and operations to mitigate these problems. Meaningful coordination and cooperation have been achieved in infrastructure development, climate change, and private capital mobilization. In these areas, MDBs have agreed on collective commitments and on universal metrics to measure their progress. Two recent examples include the common MDB principles on crowding-in private finance, endorsed by the G20 in Hamburg, and the joint MDB statement on climate finance at the One Planet Summit held in Paris.

However, these efforts remain largely declarative: most lack in enforceability and specificity. Some have also failed to overcome fundamental disagreements among MDBs, including on private capital mobilization.

Envisaged Solutions

In April 2017, the G20 established an Eminent Persons Group (EPG) tasked with recommending practical reforms to improve the functioning of the MDB system. In March 2018, the EPG released a note outlining ideas for discussion. Most of these proposals do not require the creation of new institutions or the major alteration of existing ones.

The EPG argues for the pursuit of cross-MDB collaboration and for a clarification of mandates. It calls for the establishment of in-country platforms through which MDBs and bilateral donors would coordinate their operations.

The EPG also encourages a system-wide pivot toward private sector solutions. To this end, it proposes that the Multilateral Investment Guarantee Agency, an institution of the World Bank Group, be repurposed to service all MDBs. At the same time, the group advocates for a single organization, most likely the World Bank, to enable system-wide securitization of loans.

Furthermore, the EPG recommends that the G20 provide strategic direction and oversight to the MDB system. The decisions made in this forum, which lacks formal authority, would still require the ascent of each MDB to be implemented.

Possible pathways

Most recommendations put forward by the EPG have already garnered consensus. However, the proposals that risk altering the balance of power within the system will be opposed. China and the other shareholders that are under-represented at the World Bank might resist making it the first MDB among equals. Shareholders which do not belong to the G20 will likely challenge its leadership.

Even if all EPG recommendations are endorsed, they would not amount to the necessary revamp of the MDB system. Nonetheless, by entrenching the leadership role of the G20, the EPG could make possible more transformative reforms in the medium term, including a redrawing of all MDB mandates based on their comparative advantages.

This is an electronic, unedited version of an article published in the Oxford Analytica Daily Brief

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