Most DFIs are very aware of the pressure to act quickly and play the role of the first responders. Analysts on all sides are calling multilateral and bilateral banks to “shift their mindset” and act swiftly, as the COVID-19 crisis is unfolding and might trigger a profound economic and social crisis, as sufficiently reiterated in the recent boom of reports (BCG, IMF, Goldman Sachs). We need, however, to be realistic and aware of the high pressure and difficult choices they are currently facing:
- DFIs have their own KPIs and covenants to comply with. They are likely busy stress-testing and understanding the situation of their portfolio and clients as a global depression is unfolding. Which exposure should they write off? Which client is best to support and why? Can they follow a portfolio approach? How low will that local currency go? Do they have to raise more capital themselves to be able to take an additional hit in the upcoming quarters? How long would that take? The buffer left to be part of new (and urgent) initiatives and collective efforts might be limited, sector-wise.
- DFIs rarely invest alone. They co-invest with other peers and commercial players. There has been a consensus for many years that mobilizing private money is the best way to address the funding gap. They reach a substantial part of their impact objective through funding local banks and intermediaries. They are now facing significant outflow out of the emerging markets and an overstressed local financial sector, so the room for action is quite limited.
- DFIs are constrained by strict processes and “good practices” to follow (KYC, mandate, investment process, governance, regulation, exposure/risk limits, etc.) requested by their stakeholders (mostly with good intentions to avoid distorting markets, moral hazard and ineffective allocation of money). How far can their leadership and stakeholders go in waiving constraints and allowing quick funding for the companies in need?
- Available funding might be limited. Don’t quote me on the accurate numbers, but their total balance sheet might be around €45 billion. These are committed and long-term investments. The spare cash to invest might be 10% of that, and likely much lower, as it is used for provisioning as precaution for the aftermath. As a way of comparison, €40 billion were pulled out of emerging markets in March alone, and the total balance sheet of microfinance institutions combined in the low-income countries is more than €100 billion. Considering this, most funding needs to come from the EU commission and national governments through top-ups and expansion of existing programs that DFIs manage and implement.
The easy wins for European DFIs in my opinion are as follows.
- Positive signaling by setting the tone at all multi-creditor discussions about their priority to save jobs and the private sector in the concerned countries;
- Leveraging their involvement as LPs in many funds to steer emergency and relief funding;
- Waiving repayments to allow for liquidity;
- Paving the way and facilitating the swift creation of regional facilities to support SMEs in need;
- Allocating “no-questions-asked” budgets for regional teams so they can disburse quickly for the troubled entities. I keep saying “quick,” as timing is of the essence here.
However, there is a risk that some will follow the path of least resistance, with most incentives pushing for safeguarding capital and waiting for the storm to fade out:
- Making some announcements with no actual disbursements and injection (as conditions for disbursement are not met)
- Doing what some are calling “COVID-washing” – taking some small initiative to show that they’re doing something, but with woefully insufficient scale and resources
In the near term, DFIs will be acting in a vastly different post-COVID funding landscape. They will be almost the sole alternative for many companies with good fundamentals in low-income countries, with little competition, though the funding needs will also decrease in affected sectors. They will have the opportunity to step up, but it is mostly necessary now. Years from now, all their clients and stakeholders will remember how they acted in the COVID-19 crisis.