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Mahika Ravi Shankar (MRS): How can DFIs incentivise local institutional investors and pension funds to participate in domestic capital markets?

Daniela Barrdear (DB): DFIs, and let’s also include some multilaterals who may not be DFIs but operate within this space, are well placed to incentivise movement of capital, especially to what are considered un-bankable investments. They provide loans and grants to fund some of these projects directly, but they can also attract other investors to partner up with the DFIs and put in capital simply because they are involved in that project and lending to a particular entity.

Additionally, they can free up capital of local banks through the usual derisking instruments such as participation agreements, whether on a funded or unfunded basis, and other types that we usually see. So they do have a particular role to play in this space.

MRS: Have you observed any structural barriers which prevent mobilisation?

DB: Over the past couple of years, what we have seen is basically the closing down of finance corridors and the shrinking of the focus of the usual major money-centre banks. We hear time and time again that they are competing for the same investment-grade borrowers, the same projects, with most projects located in Western Europe. You can see why, given the geopolitical turbulence and the perceived higher risk that can be found in some emerging markets.

But this has actually been the norm for many years now. Although you might have these barriers or reduced appetite, we are also starting to see an increasing number of opportunities. for investors keen to look for them. There was a recent piece by the World Trade Organization (WTO) which reported that over the last five years, south-to-south trade or investments – emerging market to emerging market investment – has actually increased 50%, which is really good to see. There is clearly a lot of opportunity in these markets, even if it’s not being looked at by the usual investors.

MRS: In your experience, you mentioned innovative methods in the first question, but have you seen any blended finance mechanisms to attract investors?

DB: There are a couple of things to consider in terms of what actually attracts investors. The reality is that, for the most part, you are looking at the pricing and the quantity of the investment. For example, how much capital can a bank or financial institution release by using the derisking mechanism that is available through the DFI? And at what price? That’s what it comes down to for most banks if you’re looking at the usual investors.

But a lot of the DFIs’ particular effectiveness actually comes from beyond the pricing and the capital maintenance relief. As I mentioned earlier, the benefit of partnering with DFIs is the fact that they are on the ground. They know the local market, they can introduce you to projects and investors where you would not have had those opportunities or known about these particular entities or suppliers or have the documented accounts that your credit committee requires.

We were talking about this in the context of supply chain finance (SCF). When you are looking to ensure that you know the chain, that you can follow it through to the end debtor, or that you know the creditworthiness of that end buyer, often the DFI would have this knowledge and have other records of its profitability and creditworthiness. I find that a lot of times, projects or investments are much more successful with an introduction to that gold nugget client in a market which you wouldn’t have tapped otherwise.

MRS: How do digital platforms have the potential to deepen domestic capital market expansion in emerging markets?

DB: That is the big question – this is what we’re all pursuing, right? We hope so, and there is huge potential. I think that digital platforms and the availability of these digital platforms will actually help proliferate SCF and financing of small buyers and SME suppliers because they will have access to finance that they previously wouldn’t have had.

The great thing about SCF is that it is very different from your usual capital financing. It is backed off your production. In emerging markets, what you have are assets – assets being sold and purchased. If you can leverage that to obtain finance then this opens up the capital with which you can play and grow your industry.

MRS: I want to talk about foreign exchange (FX) risk. You mentioned that south-to-south cross-border payment systems are still in early stages: a barrier which has been difficult to overcome. Are there any SCF structures which can help in terms of reducing FX risk for local participants in emerging markets?

DB: Absolutely. In an SCF structure, you have the buyer who is obtaining a longer payment term and the suppliers who are obtaining payment earlier than they would have obtained otherwise.

If you’re looking at the FX risk, you can actually cement the date when that payment is going to be made. You are not at the mercy of fluctuating exchange rates. If you have certainty as to when your payments are going to be made and the amount of payments that you are going to receive as a supplier, then that allows you to actually hedge your payments and be more sure as to what you’re going to receive rather than looking at the fluctuation on a day-to-day basis and not knowing the value of your ultimate payment. 

MRS: In terms of regulatory and policy frameworks – essentially the balance between encouraging innovation while also maintaining financial stability – how can policy achieve that balance to unlock domestic capital?

DB: If you look at it in the context of DFIs and multilaterals, these institutions are on the ground at more of a political level as well. In Africa, for example, the role that African multilaterals and DFIs can take on (and in some cases are taking on) is much more than just opening up and bringing investment in. They also look at what some investors don’t like about working in particular countries and then work with governments to actually address and change some of those issues.

So some of the exchange controls, for example, or providing a product that will specifically enable the investor to work within those restrictions, even within those legislative restrictions, because it knows that it can then speak to the government and say, “Listen, we are safeguarding what you are looking to achieve with this regulation, but we’re still enabling investors to come in.”

Or even as simply as educating investors on what these regulatory requirements actually mean, so that they’re not just a roadblock. Rather than just being a case of “it’s too complicated, we’re not going to enter this country,” you almost have a partner who will walk you through it.