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Stay ahead of the curve with CGD Development Updates

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In an era of tight budgets, the US government needs to maximize development programs that deliver bang for the buck and services that people want.  To do this, it must lean heavily on programs that leverage private capital in support of core development objectives.  On this front, one of the best tools is a small, nimble USAID outfit called the Development Credit Authority (DCA).  Like all effective programs, DCA has a laser-focused mission.  It does one thing and it does it well - it unlocks capital in developing countries.  However, a misplaced congressional constraint is preventing DCA from delivering even more impact. 

DCA’s recipe is pretty simple.  Through limited and time-bound loan guarantees with private lenders (mainly commercial banks), it demonstrates that underserved entrepreneurs can be safe credit bets.  Like agro-businesses in Senegal and El Salvador, port operators in Ghana, or retail outlets in Jamaica.  And DCA has used this secret sauce to great effect.  In just the last two years, it has helped to catalyze over $1 billion in private lending, all with an annual operating budget of only $8 million.  Therefore, it should come as no surprise that the Obama Administration is leaning heavily on DCA to support its major new initiatives, such as Power Africa.    

If loan repayment rates (98%) are any indication, DCA is doing a pretty darn good job.  This means that the partner banks get sufficient comfort to continue lending without a DCA guarantee in the future, thus DCA’s benefits outlive its program.  It also means that US taxpayers are helping to boost job creation and economic growth at close to no cost. 

Since the US government is ultimately underwriting the loan guarantees, Congress has naturally placed some limits on what DCA can do.  Through appropriations language, it has dictated that DCA cannot exceed: (i) $300 million in total risk exposure in any single country; and (ii) $750 million in the total face value of partially guaranteed loans extended globally in any given year.  [If that second constraint sounds a bit jumbled, well you’re not alone.  But, stay with me.] 

The problem is that the face value limit makes no sense.  DCA doesn’t operate in terms of total loan values.  It almost never guarantees more than 50 percent of any given loan, government bond, or loan portfolio.  So, for a $100 million loan facility for Kenyan electricity companies, DCA’s actual risk exposure would be $50 million.  That’s what USAID would have to pay out to the partner bank if every single borrower defaulted on their loan.  In turn, the partner bank would have to absorb the other $50 million in loan defaults.  [Remember the actual loan default rate is less than 2%.]

Why does this all matter?  Because the face value limit needlessly prevents DCA from bringing sister guarantee agencies to the table to unlock even greater volumes of development finance.  So for the Kenya electricity facility example, let’s say that DCA was able to convince someone else to help support affordable, reliable power generation.  Let’s call them Turbo Guarantor Inc.  And DCA was able to convince Turbo Guarantor (and the local Kenyan bank) to expand the electricity loan facility to $1 billion.  DCA would still only partially guarantee $100 million, with Turbo Guarantor covering the rest. 

That’d be a fantastic way to leverage scarce DCA resources and promote the Obama Administration’s goal of helping to ensure that every Kenyan citizen had access to reliable power, right?  Absolutely.  But, the existing congressional limit would prevent this deal from happening.  DCA wouldn’t actually be able to approve its $50 million in risk exposure because the face value of the guaranteed loan facility now exceeded its entire annual global cap of $750 million.  It would be forced to either walk away from the transaction or convince Turbo Guarantor and the partner bank that they should be much less ambitious. 

Instead of preventing DCA from mobilizing and leveraging other players in support of US development priorities, Congress should be empowering it.  There are easy options for responsibly fixing this problem.  Congress could simply increase the existing $750 million face value limit to something much higher, say $5 billion.  That’d probably work in practical terms, but it would still be a perverse way of measuring true US government risk exposure. 

A much better option is to just change DCA’s risk exposure limit to a metric based on what DCA has actually guaranteed. 

The good news is that Congress is currently considering legislation about promoting access to reliable electricity in Sub-Saharan Africa.  Let’s hope that they use this opportunity to make a quick and easy fix for DCA.  And by doing so, empowering USAID to provide even more development value – and taxpayer value – in the future.