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The UN General Assembly is not prone to go on at length about the virtues of the private sector. So you only need to read the General Assembly’s resolution on the Sustainable Development Goals to know that there is a remarkable amount of enthusiasm at the moment for using public resources to promote private investment in the name of development. It is not a new agenda and comes with a track record of successes and failures. But greater flows of private capital to developing countries and growing constraints on traditional donor aid have raised the stakes for the intermingling of public and private resources.
All of this was on the table during this week’s CGD discussion with Philippe Le Houérou, the CEO of IFC, the private sector arm of the World Bank, which has been working in this space for over 60 years. Le Houérou’s remarks and the comments of our expert panel deserve careful consideration, so I encourage you to watch the full session here:
Senior Fellow, Director of the US Development Policy Initiative
Here are my key takeaways, indicated in my opening remarks. The IFC has always faced three sets of challenges, which derive from the fact that, while it invests in private firms, it does so as a public investor with a public mandate. As any private investor, it has certain imperatives and challenges related to financial performance, which it has managed quite well over the years. The IFC has been profitable, maybe less so in recent years, but generally speaking, its financial performance has been strong.
But the trickier challenges derive from its public mandate: to allocate capital in the developing world in places, firms, and sectors where capital is particularly constrained; and to do so where there is strong evidence of positive externalities. For example, will the investment promote cleaner energy, gender inclusion, or broader financial intermediation in the economy?
All of this (generating a financial return, targeting capital constraints, and promoting externalities) is not easily done simultaneously, and when done successfully, it’s not easily demonstrated that it’s been done.
In this regard, Le Houérou’s remarks at CGD were striking. As we would expect from any IFC head, he was enthusiastic about his institution’s role in leveraging private capital and getting from billions to trillions of dollars for development. But he also presented a nuanced and critical judgment about the limitations of the IFC model to date, pointing to a number of ways it needs to change:
He embraced the role of blended finance, pointing to the new agreement between the IFC, MIGA, and IDA to jointly promote and finance private sector projects in low income countries.
He pointed to the need for stronger ex ante project assessments from a broader development perspective, highlighting the model pioneered by the EBRD, which relies on independent impact assessments and ratings for projects. He also acknowledged the risks of elevating financial performance above development impact, citing the problem of a firm-level investment that might have the effect of diminishing rather than promoting a competitive marketplace and thereby destroying jobs in the economy on a net basis.
Finally, as a long time World Bank senior manager, he embraced the need for greater integration of functions across the World Bank group, pointing to the instances where useful IFC firm and sector knowledge was unrecognized and unbidden by country and regional directors in the bank, who only had an economy-level view of things in their countries.
Le Houérou is still relatively new to the job, but the new IFC-MIGA-IDA window alone suggest a willingness to shake things up under his leadership. Can he use the IFC’s billions to deliver trillions for development? That may be setting the bar too high, but his agenda so far seems to be moving in the right direction.
There is an urgent need to change PSW business models to maintain their financial sustainability while doing much better on mobilization and development impact. Two factors are critical for meeting this challenge: enhanced risk management capability and greater flexibility regarding risk-adjusted returns.
Since the 2015 financing for development agreement, donor governments and their development finance institutions have all been singing from the same hymn sheet: we must do more to mobilize private investment. Here I will argue that setting leverage targets in isolation might not get us what we want: more investment in developing countries. Overall investment volumes in chosen markets may make a better target, but any incentives must be soft to minimize the temptation to put public money where it is not needed.