Euromoney, December 2011

Microfinance has its problems, but it can drive the economies of developing nations. So what if it wasn’t there? To find out, Chris Wright heads to the former Soviet republics of Tajikistan and Kyrgyzstan to meet its lenders and clients

In a village in rural Tajikistan, Mastura Asoeva is flicking through her accounts. Perched on a stack of wooden boards in front of piles of stick bundles and clay bricks, the mother-of-four doesn’t look an obvious CEO, but business is good: her basket-weaving operation is growing and, for a fee, she trains women in other Tajik villages in the same skill.

Some 2,400km by road to the north-east in Maevka village, Kyrgyzstan, Taalaibek Gaipberdiev is surrounded by traditional, local carnival costumes that his company makes for lease to the growing population of the nearby capital Bishkek. It wasn’t how he planned to build his business. “Initially, I just wanted a photo studio where children could take pictures in carnival outfits, such as fairy-tale pictures, but at the end of the year our customers asked to lease out the costumes for New Year parties,” he says. “I said no. But they wouldn’t leave my office.” Now he has 3,000 costumes and employs 40 people in an outlet and workshop.

Meet the next generation of banking clients.

To see this article as it ran in Euromoney, click here: CW Microfinance p2

Asoeva is a customer of Tajikistan microfinance lender Humo and Partners; Gaipberdiev a borrower from Kyrgyzstan’s Bai Tushum & Partners. They represent a growing constituency of people in the world’s more poor and obscure locations who are building businesses on the back of microfinance lending. Modest in scale individually, they are a powerful force in aggregate, and steadily growing to be the drivers of their national economies.

Microfinance has problems: that’s understood. There are those who feel it encourages inescapable indebtedness, that its interest rates are intolerably high and that the lenders lack governance or prudence.

But what if it wasn’t there? To find out, Euromoney went to two of the world’s least-visited nations, the former Soviet republics of Tajikistan and Kyrgyzstan, travelling between the capitals by road, to meet not only the lenders but the clients of microfinance.

Euromoney starts its trip in the Tajikistan capital Dushanbe, where a swirling Afghan dust storm has given its wide tree-lined boulevards an orange hue and closed the national airport. There’s always a local theme or need that distinguishes national microfinance industries – post-war rebuilding in Bosnia, agricultural efficiency in south Asia – and in Tajikistan, it’s the empowerment of women.

In a parallel of Yugoslavia, Soviet rule kept a lid on deep ethnic tensions here that dated back centuries. When the Russians left, civil war erupted, killing around 60,000 people and rendering half a million people refugees. The gutted economy, left over after peace was declared in 1997 – its GDP per capita having fallen 70% in the meantime – offered little hope. Many of the remaining working-age men went to Russia, often not returning. “The men in the country unleashed the war, fought the war and left the country, and the consequences fell in a burden on women, children and old people,” says Sulamo Khoshakova, director of the Association of Microfinance Organizations of Tajikistan (AMFOT). Every client, banker, leader who Euromoney meets in Tajikistan is a woman.

Complicated

Microfinance is youthful here. International organizations came in at the end of the war, and the first 10 years of microfinance came under their remit. It’s only in the past six years that local institutions have set up under Tajik legislation. It has not always been straightforward. “Extending loans to women was complicated at the beginning,” says Khoshakova. “Women were only expecting humanitarian assistance. The first steps were to make them understand these loans needed to be repaid.” There were social issues too. “The mentality in this country is that assets belong to men,” she adds. “Women have the capacity, but they don’t have the economic opportunities.”

The message has got through: AMFOT says there are 123 registered microfinance organizations in the country, 78 of which are members of the association. Shoira Sydykova, director at microfinance lender Arvand, says her institution has 15,000 clients – making up a credit portfolio of just 54 million somoni (TJS), or $11.36 million – and believes that in Tajikistan there are 160,000 micro borrowers. Loans vary in scale: $300 used to be a common starting point; these days it’s not considered sufficient to launch a business, and some loans might be as much as $5,000 (Arvand’s average is $660, with 60% of loans going to rural areas). Khoshakova estimates that 12% of able-bodied people in Tajikistan have received microfinance loans. “If there were no local microfinance organizations, most women would not have access to loans,” she says. “I’m quite sure rural women would not approach banks to receive a loan. The name bank dissuades women from approaching.”

Exploding myth

Approaching microfinance institutions (MFIs), it seems, is less intimidating than banks. Nazokat Hafizova runs a beauty salon on one of Dushanbe’s main thoroughfares. It is bustling when Euromoney visits, and the tape-recording of the interview fights a vibrant background noise of blow-dryers and bellowed Tajik and Russian chatter. Hafizova is on her fourth loan from local microfinance lender IMON International: the first, in 2007, bought the equipment; the second the property; the third rehabilitated it; and the fourth bought additional equipment, for more sophisticated laser treatments.

Talking to Hafizova explodes one myth: that microfinance recipients have no idea about finance and approach the lenders wide-eyed. She is, no doubt, among the sharper end of the borrower pool, but one lesson of the trip is just how savvy people tend to be about what is available. “There are numerous microfinance organizations in the city,” she says. “I selected IMON because it has the most attractive interest rates.” Talking about the benefits of information and training IMON has provided involving income and expenditure, she notes: “It is crucial, when the world is facing the financial and economic crisis.” I hear more calm common sense in these interviews than I had in the G20 press conference in Washington two weeks earlier.

The street-smart nature of microfinance recipients can be a double-edged sword. A challenge in microfinance is indebtedness, particularly where the same borrower will go to multiple lenders. Even in rural areas, we repeatedly hear of people knowing exactly how to shop around for loans. Khoshakova says: “When they approach us, we begin to explain something to them, and they say, ‘Of course we know that. Finco is doing this and IMON is doing that.’ They are well informed about what schemes there are in the country.” She adds it is common to find “women receiving multiple loans, borrowing several times”.

A comment from Hafizova, also repeated by others on the trip, concerns the broader social impact of microfinance lending. “My successful business has had an immense impact on my personal and family life,” she says. “I have been able to buy an apartment through the income from this business. I have created new jobs for skilful ladies who are working for me. And my husband has become a client at IMON and launched his own business.” Her sister is about to take a loan to launch her own business too. This is what microfinance advocates argue: improve one person’s life and the spill-over effects are potentially transformative.

Family provision

We leave Dushanbe for the suburbs to find Khakifa Sobirova, who runs a bakery. It’s a hive of industry in a dim room, where a young man in a white bandana hoists loaves in and out of a clay-walled oven while another kneads the dough. They then emboss the bread with local patterns.

In a courtyard, Sobirova is a woman of few words; it later turns out that, in this patchwork country of races and clans, she is Uzbek and understands little of the translator. However, she does tell a story of climbing a rung up the ladder: how the bakery, in the family for 40 years, was galvanised with a $300 loan in 2000 and now bakes its way through five bags of wheat flour a day for sale in the local green market; how it employs three family members and has helped her daughter set up an embroidery business, proudly displayed in a room off the courtyard; and how it has not only empowered a family but kept it in existence.

“Our business helps us a lot to keep the family together,” she says. “I have been able to arrange marriages for three of my children. Two are remaining. Hopefully I can manage a marriage for them as well.” With business good, her husband and son have never had to follow the herd to Russia for work; both drive taxis in Dushanbe.

Paid marriages and family unity will never show up in microfinance statistics, but nothing comes through more strongly in borrower comments than this: not the size of a house, or the food on the table, or a car or a cow, but the sense of providing properly for a family. Sobirova sums it up: “Before, life was difficult.”

Lenders, too, like to keep families together – it’s good for business as well as society. “It is a role model for the next generation to have a family consisting of a mother, father and children,” says Mavsuda Vaisova, general director of Humo and Partners – the suggestion being that this has not been the norm.

This is one of the happier borrower relationships. Sobirova poses cheerfully for pictures with an IMON branch manager, staging a chat about company accounts at the kitchen table, before handing out generous amounts of fresh bread. But is it always like this?

From the customer side, the big problem with microfinance is the rate of interest – although, lacking anything to compare it to, no client we met complained about it or described any problem in meeting terms. AMFOT says interest rates in Tajikistan vary from 2.4% to 3.5% per month. “Of course, it is a very high interest rate – we do understand,” says Khoshakova. “But we cannot simply extend loans at lower interest rates, because the funding we receive is expensive itself.”

Cost of funds is a common refrain among microfinance lenders, particularly when lending in local currency. “The basis for pricing is the cost of funds,” says Sydykova at Arvand. “Since somoni are much more expensive, the interest rates are accordingly higher.” Arvand charges 22% to 26% per year in dollars, 30% to 38% in somoni, but Sydykova says this is much better than working with a loan shark. Robiya Asrorova, a loan officer at IMON, says 10% per month is not an uncommon loan-shark rate – without sympathetic repayment terms – and adds: “There were cases where individual lenders gave out loans for a term of three or four months, then required the money back before the term expired.”

Cost of funding comes up in Kyrgyzstan too, where MFIs cannot do transactions in hard currency, yet get their funding from overseas. Bai Tushum & Partners, a Kyrgyz MFI, says that four years ago the hedging costs for it to manage this risk were 3% to 4%; today, a commercial bank will charge 12% or 13%. “In this situation, it is hard to talk about reducing interest rates for our loans,” says Gulnara Shamshieva, general manager. She says that, depending on external factors, interest rates on loans have swung from 48% a year in 2000 to 24% in 2005, before climbing again. “We have to provide a balance, but MFIs cannot directly affect this situation,” she says. Besides, it’s not an easy business to do cheaply. “We are an institution that operates in rural remote areas, trying to reach clients far from towns and cities,” she says. “We provide loans without any collateral. It’s high risk, high cost.”

Lenders say they have flexible repayment schedules, giving the impression that they are not particularly tough on missed payments, and that their delinquency rates are incredibly low, from negligible to 2%. Asrorova says that IMON has never, in 12 years, sold any property that was pledged as collateral for a loan; Sydykova says Arvand’s non-payment rate is 0.5%, adding: “The repayment rate is very good. It is because the loans are short term.” This is an interesting point, and on the face of it counterintuitive: why does a short-term loan make it easier to pay? Perhaps for someone new to debt, the immediacy of a deadline makes it easier to plan for. Sobirova, the baker, asked about the challenge of repayment, says: “It wasn’t difficult for us. The first loan I received was just six months and I had to repay in instalments.”

Training

Some 25km east of Dushanbe, we are in farmland. Near a cluster of houses, a boy is driving a cow across a field. Neat pats of manure dry outside the entrances to the homes, to be used for fuel. In one of these homes, we meet Mastura Asoeva, the basket-maker. “I am an entrepreneur and farmer,” she begins. “[Before microfinance], our living standard was average.” Then 10 years ago, an international NGO got involved in the local community, providing training in agronomy, engineering and farming, building capacity and eventually leading to an introduction to Humo, one of Tajikistan’s bigger MFIs. A loan provided agricultural inputs, from seeds to training, and the modest 0.1 hectares of land she owned became the source of tree branches for her basketry.

Asoeva exemplifies that – apart from the fact entrepreneurs can thrive anywhere – the money is not a lot of use without training to go with it, which somewhat blurs the line between a commercial lending operation and a development organisation. “Initially, the quality of our products was low,” she says. She got advice on improving them; now she trains people throughout the local region, receiving income for doing so. Today, she talks like a venture-capital recipient. “I have always been able to pay on time,” she says. “I was confident in myself and I have always produced my products with confidence that I would be able to sell them and repay my loan.” She has bought a plot of land to build a new workshop “to expand my production”; the foundations are being put in as we talk.

She has no doubt that, as a woman, life would have been much worse without the loan. “It’s important women have got this motivation, this desire of developing, of moving forward,” she says. “If a person tries her best, she will never fall into poverty.” Without microfinance, though, she says she’d have to go to “individuals”, a common shorthand for loan sharks. “There are many of them in this country,” she says. “They try to make you bogged down in debts.” All four of her children have been educated on the proceeds from the baskets.

Further out of Dushanbe, Burigul Kholova is a farmer in the village of Andigon. Where I am convinced Asoeva could run Hewlett Packard with a bit of training, Kholova, a mother-of-eight, is more guarded and probably more representative of the ordinary rural people who make up the bulk of microfinance clientele. Her first loan was just TJS68 ($14.30) for potato production, followed by another of TJS300 for goat farming, and then others totalling TJS7,000. Today, she combines land farming and livestock, with one hectare devoted to wheat, maize, tomatoes, potatoes and cucumbers, and then cattle that are milked.

The loan started simply: Humo came to the village to explain what it did. Along with the loan came training, on subjects including canning vegetables, cooking biscuits and writing project proposals. Asked what difference microfinance has made, the answer is familiar. “Our business has made a tremendous change to our life,” she says. “We had only a two-room house. With the money we received, we built additional houses, we arranged the weddings of our children and we provided for our children’s schooling.” One is at university. The next goal is “to buy a new tractor to improve our life”.

Remote areas

It is time to get moving to Kyrgyzstan. Heading south in a Land Cruiser with Lotte Pang from the global development institution International Finance Corporation (IFC), which is producing a video on microfinance, Euromoney is swiftly among cotton fields, then craggier, dusty land where little agriculture is supported, beyond hardy troops of goats. It’s out here, in the rural areas, where microfinance reaches places with no alternative. The road becomes uneven, then disintegrates. At times, it is a river bed. Late in the night, the driver points across a river at dim lights on the other side. “Afghanistan,” he says.

After that it takes a full day of driving along the Panj River, which marks the Afghanistan border, to reach Khorog, the capital of the semi-autonomous Gorno-Badakhshan region of Tajikistan. This is not so much Tajik as Pamir territory, and fiercely independent. Tribally and culturally different, it took the losing side in the civil war, and not much development funding has come this way from the government since. There was a time when money in Khorog ceased to exist, and traditional barter took its place, before the Aga Khan started pouring in money. Today, it hosts the University of Central Asia.

Getting this far into the wilderness gives one a new perspective of the challenges that face MFIs. “There are some technical problems faced by microfinance organisations in remote areas, such as not having a computer or internet,” says Khoshakova. Also, keeping track of a far-flung and often large client base with a low average loan amount is a headache. Sourcing personnel is another challenge, since microfinance organisations generally don’t pay well.

Euromoney might have overdone it. Driving up the Pamir Highway, built over the mountains by the Soviets, we blow a tyre at 2am, at an altitude of 4,000m and 90km from the nearest village – in a blizzard. The drivers get out to change the wheel. They hand me a torch and tell me to walk in circles around the car. “Watch for wolves,” one says.

Surviving this, we arrive at dawn in Murgab, a half-Tajik, half-Kyrgyz town, where electricity alternates between the two halves throughout the day. It is utterly bleak and barren but beautiful, and it’s hard to see where an economy could be built here. Much employment comes from the NGOs who have set up here to help. As the sun rises, a stream of grinning children, some probably no older than four, arrive with pails to get water from the well. Japanese stickers on the well’s pump show its foreign providence.

Jigsaw puzzle

It is another full day’s drive amid the mountains and alongside a Chinese border fence, newly moved after Tajikistan ceded a chunk of its territory to China in exchange for road-building assistance, before we reach the magnificent inconvenience of a Central Asian border and cross into Kyrgyzstan. On the other side, the land is more fertile; more populated by yurts. And that brings us to Kyrgyzstan’s theme of microfinance: the fact it is 66% rural (and 34% below the poverty line). “We are a mountainous country and we don’t have many big cities or towns,” says Shamshieva at Bai Tushum, whose own client base is 80% rural. That’s a business model, as well as being a challenge. “We provide access to financial services for all unbankable people in rural areas,” she says. “They have no attractive collateral.”

It is not an easy model to run. In a place lacking financial literacy, the problem of over-indebtedness is acute. “Our credit bureau [an IFC-backed initiative aimed at helping lenders assess indebtedness of potential clients] says about 35% of clients are running between institutions,” she says. “When business is going well, maybe you are able to repay multiple loans, but when it comes to a crisis, it creates problems – and not only for one institution.”Bai Tushum won’t lend to any client who has more than 70,000 som (KGS) – $1,536 – in outstanding loans, but not every lender applies such standards.

There are other problems. We spend the night in the city of Osh. Barely a year ago, this was the scene of bitter violence that one could justifiably call ethnic cleansing. There is still an edge here; a policeman was killed the night before we arrive. Stalin has a lot to answer for in this part of the world: it was he who set the random jigsaw puzzle of borders around these Central Asian states, where in the space of 100km one can go from Kyrgyzstan to Uzbekistan, back to Kyrgyzstan, and back, and back again, and in to Tajikistan, without turning left or right off the road. Tensions between these nations flare frequently, particularly if something such as a proposed hydro plant in one country threatens to cut water flow to agriculture in another – and this is yet another challenge microfinance must face.

Driving further through Kyrgyzstan, another problem becomes evident: corruption. Euromoney is stopped seven times in a day and fined each time. “It is illegal to photograph gas stations,” says one policeman, moving through the pictures on the cameras. There are no photographs of gas stations, but he fines us anyway.

There is a big push on microfinance in Kyrgyzstan. President Roza Otunbayeva has long championed it as a cause, and the National Bank’s Emil Saryazhiev, who heads the department for methodology and licensing, lists the statistics with some pride: 630 microfinance organisations, including four microfinance companies, 317 microcredit companies, 111 microcredit agencies, and 198 credit unions. Shamshieva at Bai Tushum says there is KGS18 billion ($397 million) in microfinance lending nationwide, or 30% of the total banking sector loan portfolio, covering almost 400,000 clients – far more than the banks. Even then, she estimates that only 17% of the economically active population of the country is banked.

Despite the huge numbers, Saryazhiev says: “The National Bank is doing its best to focus more on the quality of microfinance institutions than the quantity.” Amendments are going through on the licensing of microfinance, allowing institutions to upgrade to commercial banks, with the aim that they can provide a greater range of services to rural people, including leasing.

Talking to a central banker, though, exposes another area of potential conflict with this rapidly growing sector. “[Microfinance organisations] should be for the people, not the people should be for them,” he says. “Therefore they should not think about their own profit, they should rather think about assisting people to make up capital and start their own business. Those that are concerned only about their own profit should be step by step pressed out of the market.”

This approach sounds public-spirited but provides no reason to encourage anyone to lend. Microfinance providers believe they do good. “This is our social mission, to help eliminate poverty,” says Shamshieva. However, they also hope to turn a profit. Sydykova at Arvand says: “The profitability and sustainability of microfinance means it is a long-term activity. It means it will exist, it will expand and it will cover larger areas.” It prompts efficiency too, she argues. And Asrorova at IMON suggests customers don’t mind lenders making a profit. “There is immense trust between our organisation and its clients,” she says. “Both parties are interested in getting profit out of this business.”

MFIs are also wary of being seen as somehow invulnerable solutions to poverty. “Sometimes microfinance is perceived as a treatment for all pains, all diseases,” says Vaisova at Humo. “Microfinance provides access to finance. It is not a solution to all problems.”

She is right, and as Euromoney leaves Bishkek, questions remain about the whole model: the rates, the supervision, the habits it can engender. But it is, today, the best available model, and indisputably improving many lives. “If an MFI does not operate in this country, just think of all those people in remote rural areas,” says Shamshieva. “Who will go there? Who will finance them? Nobody.”

Box: Deposits

Microfinance in Central Asia is chiefly about lending, though some institutions are beginning to take deposits. It is not easy to do so. Arvand, for example, has just 660 deposit clients. “The population has not developed a culture of savings,” says Sydykova.

At Bai Tushum, Shamshieva says deposits are vital and not just for customers. “When we started, we considered this mainly from one side: a cheaper source of funding, but it’s also a product for poor people. It’s one thing to get a loan and use money to develop your business, but one day this loan must be repaid: there has to be something at the end of the cycle, something to save.” She says deposits are “one of the ways to reduce poverty” and generate internal sources of funds for the country, but she notes that, these days, they are not really a cheap source of funding anyway.

Box: International Finance Corporation/Lars Thunell

Microfinance has become one of the mainstays of the World Bank’s IFC arm and a passion of its Swedish CEO Lars Thunell.

IFC is working with 110 MFIs in more than 50 countries. Its investee clients had an outstanding portfolio of nearly eight million loans as of June 2011, worth just under $12.6 billion. Yet the feeling internally is that much more can be done; that there are three billion poor people on Earth and, at best, microfinance reaches less than 20% of its potential market.

Microfinance can be defined in a number of ways, but to Thunell, it is chiefly about “the very base of the pyramid. It’s a way of providing access to finance and loans to these people.” IFC’s role, as he sees it, is not just about pouring money in but helping to shape a sustainable industry, with proper training, improved capacity and a supportive regulatory infrastructure. And he likes the idea that microfinance can be an engine for gender equality. “It’s a lot about women,” he says. “Women are the ones who are picking up this opportunity and moving it forward. It allows them to create their business – which in certain cultures creates some tension – and we see that they reinvest the money and spend it on their children’s education, rather than going to a bar and spending the money there.”

Some of the key debates internally at the IFC concern job creation and productive use of loans. Thunell sees microfinance as being a spur to self-employed entrepreneurs in particular, but wonders how many other jobs are created as a consequence. “The debate now is how we move some of the small informal companies into real companies and get them to grow,” he says. There’s also an explicit goal at the IFC to ensure that microfinance lending goes into productive investment, not consumption. “But there is a question how stringent you should be about that,” he says. “If an entrepreneur has a sick child, the best thing might be for him to use the money for that. It’s not all black and white, and you have to recognize that.”

The IFC acknowledges the debate about interest rates but tends to come down on the side of lenders. “The costs are high in terms of administering the systems – there is the cost of money and losses,” says Thunell. “And we have to remember, what is the alternative? Not getting the money at all, or going to one of the peddlers and paying over 100%.

“As a development institution, of course we’d like interest rates to be lower, but at the same time we would like the microfinance institutions to be sustainable. In some countries, a government has come in and said you can’t have an interest rate higher than X. And in some cases that has meant the MFIs disappear. The interest rate came down, but the loan volume came down even more dramatically.”

Asked about the possibility of encouraging a culture of indebtedness, Thunell speaks about improving financial literacy around responsibility, but also makes a more fundamental point about inclusion. “Who am I to decide that here in Europe and the US we should be allowed to borrow but we should not allow the bottom of the pyramid to?” he says. “These are intelligent people, capable people, and if you give them the right education and incentives they will handle it. I’ve been amazed when I’ve visited slums around the world, you see micro businesses all over the place. The question is how you bring those ecosystems into the bigger world to benefit from trade.”

Thunell believes microfinance is “still at the beginning” and says there are “big parts of the world we haven’t really been able to reach”. The financial crisis has made this worse still: as Western banks deleverage, the ability to source funds for MFIs is getting worse. A long-term answer is the development of local currency capital markets, but that takes time.

Part of the problem can be at the top. “There are many places where you still have governments that are either suspicious, or haven’t put in place regulations,” he says. “You have banking regulators who are watching their turf. You need different regulation for microfinance, and sometimes that’s hard to get.”

Other challenges include lenders to MFIs overestimating the risks involved – IFC attempts to guarantee first losses to alleviate the risk – and quality of information, for which IFC often works to develop credit bureaux to help lenders make risk assessment on clients.

However, the message that keeps coming through is the need to build capacity in individual institutions. “In the long run, if we’re going to scale this and reach as many millions of people as we think we need to meet, then we need to make institutions sustainable,” concludes Thunell.

With thanks to Morag Livingston and Jonathan Lewis

Cesar Purisima is in full flow. The Philippines finance secretary is sitting in a cavernous Hanoi conference centre at the Asian Development Bank annual meeting and is talking up his country’s prospects in the light of a unified southeast Asia. “We are really bullish looking to the future of an integrated Asean,” he says, as images of idyllic Boracay beaches and the rolling chocolate hills of Bohol drift past on a TV monitor behind him, a pitch to attract more intra-Asian tourism to the Philippines. “Asean is an economy of 600 million people, a very favourable demographic, and the Philippines is very well positioned to actively participate in that.”

Purisima is doing something that more and more people in this region tend to do: speak of Asean as a single economic bloc. It’s a compelling case. A combined Asean economy would, UBS says, be the sixth largest economy in the world.

There’s just one problem with this unified vision: it hasn’t happened. It’s not even close to happening.

The Association of Southeast Asian Nations brings together 10 nation states embracing a greater variety of wealth, society and political process than could be found almost anywhere else in the world. Free-market, first-world Singapore has about as much in common with isolationist Myanmar (Burma) as the USA does with Bolivia. Oil-rich Muslim prefecture Brunei and impoverished, communist Laos might have some passing relationship in terms of geography and flora, but certainly not in economy, language, politics, religion or culture. Indonesia’s economy is 118 times bigger than that of Laos, and its population almost 600 times greater than Brunei’s. The 10 member states occupy a span of 141 rungs on the World Bank per capita GDP ranking, a greater range than the entire African continent.

“We are some distance away from Asean being an economic bloc,” says Taimur Baig, a chief economist at Deutsche Bank. “They are not homogenous economies, and not even comparable in many regards. Some are resource economies, like Malaysia and Indonesia; some are based more on electronics trade, like the Philippines or Thailand; even in terms of political systems, they are very different.”

Still, the fact that it’s not there yet doesn’t mean that progress cannot be made: as recently as 20 years ago, the idea that Portugal and Estonia might one day share the same currency would have been preposterous. “Asean is clearly not a single bloc now,” says Edward Teather, economist at UBS in Singapore. “There are barriers between countries in movement of capital, movement of labour, movement of ideas. But it’s precisely because you can move towards breaking those barriers down that opportunities are created.”

SUBHEAD: TRADE AND 2015

Asean came into being in 1967 in Bangkok, amid the Vietnam war, with a mandate to accelerate economic growth, social progress, cultural development and stability through the region with collaboration and mutual assistance. While it has expanded over time, its five original member states of Indonesia, Malaysia, the Philippines, Singapore and Thailand remain its core today. It has never really been a political or economic powerhouse, and didn’t even have legal form in its own right until 2008, but has nevertheless had a few milestones along the way, chiefly the signing of a free trade agreement in 1992, the Chiang Mai initiative of bilateral swap agreements in March 2000, and the formal introduction of broader FTAs (both intra-region and between Asean and China) from January 2010.

Asean’s biggest moment – and the closest thing to the unified Asean that some envisage – is due to happen in 2015, when the Asean Economic Community is created. This would involve free movement of goods, services, investment and skilled labour, and in theory a freer flow of capital – although this, discussed below, may be the trickiest part of all.

Economists quite like the idea: Teather at UBS argues that progress towards a single market should enhance growth prospects across the region, and will also spur infrastructure development and more cross-border M&A. It’s particularly appealing at a time when so much of the rest of the world is a mess (although Asean in aggregate would actually be very heavily exposed to the world economy, with one of the world’s highest export to GDP ratios). “What’s envisaged is a pretty big deal,” Teather says. “It would allow a spread of ideas across the region. That matters because there is such a divergence between Cambodia and Laos, for example, and Singapore: if you can bring capital skills ideas into those poorer countries, you could potentially make a huge difference to how those millions of people see their incomes grow in future.”

But right now, it’s interesting to note that, as Teather puts it, “Asean in aggregate has strong links with the rest of the world but less so with itself.” Only 25% of total Asean economy trade is with other Asean economies, he says, far lower than internal free trade within the European Union or NAFTA.

Anecdotally, people think this is changing – and in particular the need for trade to go in and out of Singapore, as it always used to, is declining. Purisima, for example, says the Philippine electronics industry has already been bolstered by integration. “Moving products from Manila to Penang to Singapore is like moving it from Chicago to the Silicon Valley,” he says. “It’s all efficient now. That’s going to be the strength of Asean integration.” Some analysts see improvements in regional activity too. “There is a lot of political chatter but the important point is businesses are moving together with to without agreements on free trade integration,” says Tai Hui at Standard Chartered.

But there’s clearly a long way to go. “There will be considerable transitional requirements” between now and 2015, says Baig. “It’s not just a question of unified visa-free travel or a removal of trade barriers. There will need to be far more advanced arrangements as far as customs, trade agreements and labour movement are concerned.”

There are also some questions about commitment. For example, the Asean Investment Fund is being established right now, probably with initial capital of US$500-800 million. Compare this with the US$80 billion the European Commission put to work to enhance growth and employment within the EU, or the US$596 billion the ADB has calculated is needed in capital for a better Asean transportation network between 2006 and 2015, according to UBS. Partly reflects the fact that the investment that brings Asean together, if it comes, will be from local money, not from some major supranational: Asean is only really there for coordination and doesn’t have a great deal of institutional heft (as anyone who has tried to get its Jakarta-based secretariat to respond to a phone call or email might attest).

The infrastructure side of it has a lot of foreigners interested. Various plans flourish and fade from time to time: a pan-Asean highway network; a Singapore-Vietnam-Kunming rail link, or another from Kunming to Laos and Bangkok; an Asean power grid, or a Trans-Asean gas pipeline. 2015 harmonisation might make it easier for projects like these to get underway, with all the knock-on effects that infrastructure development provides. This is a crucial point: progress in infrastructure development, and in particular private sector involvement, is seen as the weakest link in national circumstances from Indonesia to the Philippines and beyond.

SUBHEAD: THE CAPITAL QUESTION

The roadmap for 2015 includes a commitment to freer flow of capital: greater harmonization of financial security rules, mutual recognition of market professionals, a broader investor base with managed withholding tax issues, and market-driven efforts to establish exchange and debt market linkages.

And this flow of capital is perhaps the single most important point. Because if Asean doesn’t meaningfully exist as a trading bloc, it most certainly doesn’t exist as a single pool of liquidity. Southeast Asian nations have some of the highest savings rates anywhere in the world, but if those savings are ever invested cross-border, they don’t go into Asean neighbours; they fly into dollar assets. “There is a lot of work to do, especially at the regional level, to make sure the region’s savings are increasingly intermediated through the local markets, not the global markets,” says Sabyasachi Mitra, a senior economist with the Asian Development Bank’s Office of Regional Economic Integration.

It should be said first that since the Asian financial crisis – when Alan Greenspan said Asia didn’t have a spare tyre, in reference to the lack of local bonds – the region’s local currency debt markets have improved out of sight in terms of their scale, maturity and sophistication. Currency mismatches that blighted Asia in the late 1990s have been significantly alleviated by the availability of local funding in the same currency as an issuer’s liabilities; in the Philippines, for example, the state can raise funds at maturities out to 25 years (making infrastructure financing feasible in a way it never was before), while in the middle of the global financial crisis San Miguel Corporation was able to raise Ps38.3 billion (US$800 million) entirely from local markets at a time when G3 markets had shut down.

But the problem is not local market development, but an absolute lack of coordination among them so that they can attract funds from their neighbours. “Capital markets integration is much further away than on the trade front,” says Dato’ Lee Kok Kwan, Deputy CEO at CIMB, the Malaysian bank which is a rare example of an attempt to build a pan-Asean presence in local financial services. “Cross-border in Asean means US dollars. The excess savings in Asean are invested in the lowest yielding assets – US Treasuries – and then reinvested by western funds into high growth economies such as Asean+3. The question is, why can’t Asean + 3 invest in itself and instead require foreign fund managers to do it for us?”

Various initiatives have been started to try to improve things. The ADB has been behind many of them, notably the Asian Bond Market Initiative, launched in 2003 to help local bond markets to grow and develop integration between them. Among other things, this initiative tries to promote more local currency issuance, improves regulatory frameworks, tries to harmonize rules around the region, and looks for ways to boost liquidity. It also hosts the Asian Bond Market Forum, which is designed to bring the private sector into these initiatives, and publishes data sources such as AsianBondsOnline.

Another initiative is the Asean Capital Markets Forum, made up of Asean regulators and formed in 2004. In 2009 this group endorsed something called the Asean Plus Standards Scheme, which aims to set capital market disclosure standards for cross-border offerings of securities. The idea is that if an issuer makes a multi-jurisdiction offering in Asean, they can use common disclosure standards as well as whatever additional requirements each individual market requires (that’s the ‘plus’ bit). The ACMF is also in charge of a roadmap to implement the capital markets elements of Asean’s 2015 economic community blueprint.

Then there are the Asia Bond Funds, launched by the Executives’ Meeting of East Asia-Pacific Central Banks (EMEAP), made up of the central banks of 11 economies including most Asean states. Its first US$1 billion fund, launched in 2003, invested in dollar denominated bonds from Asian sovereigns and quasi-sovereigns; a second, with $2 billion in 2004, created a pan-Asian bond index fund and eight single market funds in Asian local currencies, to allow investors to get diversified exposure to Asian bond markets. There is much discussion in the region about what a third Asian Bond Fund would look like, with a growing belief that it should focus on investing cross-border in primary and secondary local currency bond markets. “ABF2 has done its job very well, but that job – buying local currency bonds – is done and dusted,” says Lee. “The market’s come a long way. The next big jump is into cross-border issuances and cross border investing. That should be its macro objective.”

On top of that, various bilateral deals have been struck; and there is the Chiang Mai initiative, which created a US$120 billion pool of foreign exchange reserves to preserve currency stability and liquidity in the region.

Market regulators in Asean sound keen. “We are very much at the forefront of the integration of Asean capital markets,” says Tan Sri Zarinah Anwar, Chairman of the Securities Commission of Malaysia. “But when we talk about integration, we’re not really talking about one single market, but more in terms of enabling access to each other’s market.” She is involved in harmonising debt rules around cross-border transactions, and is assisting the development of direct access between Singapore, Malaysia, Thailand and the Philippines’ stock markets, for example, “but without bypassing or marginalising domestic intermediaries:  a very important consideration that has to be taken into account when integration takes place.”

The qualifier Zarinah adds is interesting, because it suggests there’s a potential downside to integration: the potential erosion of domestic financial services. She’s not the only one who sees it. “Integration must be carefully designed,” says Nurhaida, chair of Bapepam, the Indonesian market regulator (like many Indonesians she goes by just one name). “The various initiatives being put forward at the Asean level try to improve on the current eco-system,” she says, but in some cases with side-effects: a proposal for a linkage among central depositaries, for example, would “kill domestic custodian institutions.”

SUBHEAD: BECOMING A SAFE HAVEN

Perhaps greater integration, or better credit ratings (see box), would help with a very annoying problem. From any rational perspective of sovereign debt and other fiscal indicators, Asian nations should be seen as safe assets. But whenever the world economy wobbles, capital tends to flee Asia, and go back to the US and Europe – precisely the places that have generally caused those wobbles in the first place.

When does Asia become the safe haven? “To some extent, it has already happened,” says Neeraj Seth, managing director and head of Asian credit at BlackRock. “You see it more in fixed income than equities, which have been more volatile; in bonds the capital flow in Asia has been consistent and positive, and I do believe over the long term it will continue. The only risk is in the short to medium term there could be small patches of reversal.”

But these short term reversals remain considerable, and this is something that keeps finance ministry and central bank officials awake at night in Jakarta, knowing that 35% of rupiah government bonds are now held by foreigners who could in theory disappear at any time. In equities, it’s worse still.

Fund managers think the long term answer to this is the development of significant institutional investors. “I would expect the Asian stock markets to continue to be higher volatility, because they are still the marginal stock markets in global equity portfolios,” says Kerry Series, founder of 8 Investment Partners, an Asia-focused fund manager in Sydney and a great believer in the long-term outperformance of Asian equities. “Asia Pac is only 6% of the MSCI developed world index. When investors change their attitude to risk, it’s going to be marginal stock markets that perform better or worse. And Asia is only now developing the institutional investment structures that underpin long-term investment in markets.”

And perhaps this is the most crucial point of all: when Asian pension funds, insurers and other institutional investors reach meaningful size, as they inevitably one day will, this could potentially be the tipping point that has been missing from Asean. It will lead to stability of markets and capital flows, and to the establishment of sensible long-term investors with the ability to look closer than the dollar markets and instead see opportunity in their near neighbours. “The creation of local pension funds is just at its beginning in some countries, especially in Indonesia and the Philippines,” says Sitohang. “But as they become more established and institutionalized, that counterbalance of local money filling the gap left by foreign capital flight is going to get more and more powerful.”

There are those who feel that for 20 years Southeast Asia has promised a lot and failed to deliver. But the truth is it, and Indonesia in particular, is the world’s bright spot today: low debt, high growth, demographically well placed. “Southeast Asia has already been through the issues plaguing the rest of the world now,” says Teather. Maybe this time, at least, it can steal a march on the rest of the world.

BOX: THE CURRENCY IDEA

If a single currency in Asean looked far-fetched before, it looks positively absurd in light of the stresses afflicting the euro zone today. “I think Asean leaders are watching what’s happening in Europe extremely carefully now,” says Helman Sitohang at Creit Suisse. “It may provide some good lessons about how far you should push cooperation and integration.”

A single currency is not on the agenda. You won’t find it in the long-term visions of Asean mission statements or ADB ambitions. But actually, is it so strange an idea?

Edward Teather at UBS points out that if you were to look at the ratio of the Thai baht to the Malaysian ringgit prior to the Asian financial crisis, and again today, it would be pretty much the same: around 10 times. “There is a linkage there, though it is not explicit in any way,” he says. “Southeast Asian central banks and countries like to make sure their currencies don’t appreciate suddenly and in a fashion that renders their exports uncompetitive.”

Not all cross-rates follow this rule, but they’re generally pretty close. Asean currencies have, pretty much en masse, appreciated against the euro and dollar; they have also behaved in concert against resource currencies like the Australian dollar and the Swiss franc.

“From a de facto exchange rate regime, how big a step is that?” asks Teather. “It’s not such a pie in the sky idea as you might think.”

BOX: RATING AGENCIES

Asean is one of the few regions of the world where the talk is not of downgrades, but of upgrades. Mostly, this is about Indonesia, where all three international rating agencies have Indonesia just one notch below investment grade, with a positive outlook; most analysts expect Indonesia to be upgraded by at least one of them by the end of the year (the smart money’s on Fitch), and probably all three within 12 months or so. The Philippines, too, is on the right track, with Finance Secretary Cesar Purisima on a personal crusade to get a ratings upgrade (the country is BB+ at Fitch, one notch lower elsewhere) in recognition of the undeniably impressive reductions being made to the budget deficit. “As our debt to GDP goes down, it creates more fiscal space for additional investment,” says Purisima. “When you do that, you get into a more virtuous circle. Our hope is that will be rewarded with an upgrade to investment grade: the market is already rewarding us by allowing us to borrow at close to investment grade prices. Our CDS prices are tighter in some cases than our friends in Indonesia.”

But there is another question about sovereign ratings in Asia: have they been getting a raw deal?

One person who is certain they have is Dato’ Lee Kok Kwan, Deputy CEO of CIMB. “There are real problems with international rating agencies,” he says. “They do not reflect credit risk in this region. Leverage is low; savings rates are high; governments are in strong fiscal positions; and you can see both cash spread prices and CDS prices for credits in this part of the world that trade way better than their international ratings.”

His particular complaint is with the sovereign rating system, which then affects the entire Asian corporate world because of the sovereign ceiling. Ratings agencies tend to include measurements such as media freedom, or right to free assembly, within their assessments. “What’s that got to do with the probability of default?” Lee says. “Thailand has $700 million of total foreign currency debt, supported by $160 billion of reserves. Its debt is almost zero and its local currency bonds are so popular it can’t issue enough to satisfy domestic demand. Its savings rates are about 30%.” Yet Thailand, at BBB+ from Standard & Poor’s, Baa1 at Moody’s and BBB at Fitch, is rated considerably below troubled European sovereigns Italy (A+, Aa2, AA-), Spain (AA, Aa2, AA+), and on a par with Ireland (BBB+, Ba1, BBB+).

Some internationals think he may be on to something. “Standard & Poor’s sent their report to the US treasury before it was published?” says Kelvin Tay, strategist at UBS. “In this part of the world there is no pressure on that front: Asian governments have no leverage over ratings agencies. But the flipside is, the transparency on getting numbers, hard data, is a lot more difficult here.”

It will be interesting to watch the development of Dagong, the Beijing-based international credit rating agency; already some Asian states appear to think it a more tuned-in, relatable voice in Asia. In truth the ratings aren’t actually that different:  Dagong has Malaysia at A+, Thailand at BB, the Philippines at B+ and Indonesia at BBB-, in line with international standards (and in the Philippines case, worse). But it is harder on Spain, for example, which it rates A.

One subject that often comes up allows for a greater role for local, home-grown ratings agencies, such as TRIS Rating in Thailand, Rating Agency Malaysia (RAM) and Malaysian Rating Corporation (MARC) in Malaysia, Pefindo in Indonesia and MARC in Malaysia. Generally, there is no mutual recognition of one another’s ratings cross border, which is one of the many impediments to integration of bond markets, whether from an issuer or an investor perspective. “If you are going to expand the market in the region then there’s got to be guidance for investors to look at in terms of the credit standing of different issuers in the region,” says Amando Tetangco, Governor of Bangko Sentral ng Pilipinas, the Philippines central bank.

From time to time people suggest a single credit rating for Asia, but the idea does not seem to have caught on, and in some quarters triggers outright indifference. Nurhaida, the chair of Indonesian capital markets regulator Bapepam, was asked about the regional agency idea by Euromoney in April. It is, she said, “something which I find amusing.”

BOX: Governance: has anything changed?

In July, a Boeing 737 belonging to Thailand’s crown prince touched down at Munich airport. It was to stay there considerably longer than planned. German authorities, upon realising who owned the plane, seized it in connection with a long-standing payment dispute between a failed German construction group, Walter Bau, and the Thai state, which insolvency administrators claim owe it more than Eu30 million – the reason the company went under in 2005.

The dispute dated back 20 years, to the construction of a road between Bangkok and its airport. Thailand never paid and the Thais have long since refused to respond to claims for the money.

The plane has since been released – so somebody’s presumably paid surety – but the incident recalled a pre-Asian crisis, fast-and-loose era of bad governance and questionable creditworthiness, long gone. Or is it? How much has Asian governance really changed?

The accepted barometer of corporate governance standards is the Asian Corporate Governance Association and its CG Watch publication, produced in conjunction with CLSA. “Corporate governance standards have improved over the past decade, but even the best Asian markets remain far from international best practice,” began its 2010 report, bemoaning that regulators make it too easy for companies to get away with box-ticking, markets lack effective rules on governance, and institutional investors generally don’t do enough to push for reform. “Rather than use the global financial crisis as a platform to push reform forward, governments have taken a complacent view, happy that the crisis this time did not start in Asia.”

Jamie Allen, ACGA’s Secretary General and the driver of the report, sees a mixed bag around the region. Singapore, he notes, has moved ahead on a number of issues, including company law amendments, voting methods in shareholder meetings, and appointments of proxies. Thailand has improved from a regulatory perspective, but the change of government – led by the sister of the deposed and convicted Thaksin Shinawatra – raises questions. Malaysia has just unveiled a wide-ranging new corporate governance code, which is clearly positive, and there is progress in Indonesia. “There are lots of difficulties there and I don’t want to overstate the case for Indonesia,” Allen says. “But we did feel that in terms of what companies, the government, Bapepam are doing, their efforts were more thought out and better organised than the Philippines.”

The Philippines dropped to last in the 2010 ranking, which didn’t go down particularly well – chiefly, it is understood, because they couldn’t believe they were worse than Indonesia. “The Philippine government doesn’t support the securities commission; there are real governance issues on the stock exchange, where brokers still dominate the board; we found cases where major companies were breaking listing rules and there didn’t seem to be any enforcement. There’s just the whole level of corruption in the Philippines: it’s bad in Indonesia, but at least they’re trying to do something about it there.” ACGA’s latest report chiefly reflected practice under the previous administration; it remains to be seen if the Aquino government, which built a large chunk of its entire electoral platform on ending corruption, can make a difference.

Intheblack magazine, July 2010

In late May, Juan Miranda was in the Afghan town of Mazar-e-Sharif, attending the inauguration of Afghanistan’s first railway. As Director General of the Central and West Asia Department of the Asian Development Bank, Miranda had been involved in the funding and development of this railway, a vital 75-kilometre link to the border with Uzbekistan and the international railway networks beyond. But as he stepped back to take a photo of the train moving slowly backwards and forwards on the tracks, he noticed a huge transmission line in the back of a shot, and a road behind it. He realised he had been involved in the development of all three.

When you are a multilateral banker in this part of the world, the work can be tough, but when it works out there’s the joy of seeing a tangible difference being made. And Miranda’s patch of Asia is all about high challenge and high reward. His department operates in 10 countries most of which few people could successfully locate on a map (and, if they could, it would be for all the wrong reasons): Afghanistan, Armenia, Azerbaijan, Georgia, Kazakhstan, the Kyrgyz Republic, Pakistan, Tajikistan, Turkmenistan and Uzbekistan. It is a patchwork of mostly landlocked countries with sometimes random borders, stubborn bureaucracy, limited commercial laws, dominated by mountains and deserts, into which Miranda must coax international private capital to invest.

The challenge is not just about getting foreigners to come in, but to get these disparate nations to work together too. One might expect the former Soviet states to be kindred spirits, but that’s often far from the truth. “After independence from the Soviet Union, these countries embraced sovereignty like you and I would a long lost brother,” Miranda says. “But as a result of that they created economic structures that were directed towards self-sufficiency and putting up borders.” The ADB is one of six multilaterals that backs the Central Asia Regional Economic Cooperation (CAREC) programme, which seeks to improve efficiencies between Central Asian nations, focusing on connectivity, energy security and trade facilitation. “The nearest port to some of these countries is 2,000 kilometres away,” he says. “Unless people can move from point A to point B efficiently, you’re not going to be very competitive.”

Miranda, CAREC and the ADB have focused their energies on transportation, and have devised six transport corridors, some north-south through Afghanistan and into Pakistan, others traversing Kazakhstan from east to west to link Europe and China. And this speaks to an advantage Central Asia does have: being in the way, separating Europe and China. Becoming an efficient conduit for goods between these states will be to Central Asia’s benefit, and will cement a shift away from reliance on Russia and towards greater integration with China. Other less visible things are no less important: trade facilitation, such as removing tariffs and speeding up the flow of goods across borders, is crucial to the ADB realising its ambition of doubling per capita income within the region within a decade, pulling poverty down from 40% to 25% in the process.

The good news is that when something works, it really has an impact. That transmission line in the back of Miranda’s photo in Afghanistan runs from Uzbekistan to Kabul, and supplies it with constant electricity for the first time. “Delivering electricity 24 hours a day instead of two hours a day is a transformation,” he says. “It’s not a solution in itself, but it’s a means to an end.” By this he means that helping with infrastructure makes it a little easier for Afghanistan to find its footing as a country. “Optimism is something that can come and go, but we have to let it be with us,” he says. “You’ve got to wake up in the morning thinking that you’re doing good. The task is not for the faint-hearted and the security aspects are not getting any easier but I am optimistic this resilient country, these resilient people, can put things together.”

“The political differences between groups across the country are clear, but one thing that binds them together is to reconstruct the nation, and to do that you need development,” he says. “We are part of that agenda, to do projects that will make a little difference to the country.”

Elsewhere in Central Asia, the ADB has been making gradual headway. Talking to IntheBlack at the ADB’s annual meeting in Tashkent, Uzbekistan in May – the first time the bank had held its meeting in Central Asia – Miranda bemoaned the lack of a landmark public-private deal that would get the region truly noticed. “We haven’t had in Central Asia the unique transaction that says: the future looks like this,” he says. “If one happens, we’ve created a message. We convey an opportunity to the international investment community that this place is open for business.”

A month later, over the phone in the ADB’s Manila headquarters, he is able to suggest that such a deal is finally close to the finish line. The $3.2 billion Surgil project in Uzbekistan will involve the construction of a petrochemical plant with a production capacity of more than 500,000 tons of polypropylene and polyethylene, made by converting gas deposits. It will be structured as a PPP (a public-private partnership) and will combine a number of foreign investors – who have not yet gone public in their involvement – with the Uzbek state oil and gas company, with the management and the exports run by international shareholders. “In turning gas into chemicals it moves a commodity into a value-added product with an international market ready-made,” Miranda says. “If it works well, instead of just exporting their gas they can get foreign investment into the country and generate jobs.”

Getting foreigners in requires more than just a visible opportunity. What’s also lacking is the legal infrastructure to protect and encourage an investor. “In Central Asia we have the big ticket projects waiting for the private sector to invest, but unlike other parts of Asia the upstream work lags behind,” he says. There are places where concession laws do exist – Kazakhstan has gone so far as to build a dedicated PPP unit within its government and has an approved list of projects for it to pursue – but few foreigners have so far been willing to jump in. “There is a comfort zone that is not that huge here, and we need to expand that comfort zone.”

Uzbek landmarks apart, he thinks it’s important to be reasonable in expectations. “Would you be able to have an all-singing, all-dancing concession and BOT [build-operate-transfer, the classic public-private model in more developed markets]? Maybe not right now. Maybe you go in more realistically and expect a management contract to start with. If you go from zero to something that’s no longer zero, that still represents success.”

Miranda himself, who is Spanish-born and English educated with a degree in agricultural economics from Reading University, first visited Central Asia in 1992 after the Soviet Union was dismantled. Back then he was working at the European Bank for Reconstruction and Development. When he took over his current department for the ADB in 2006, he felt that he had “a longer memory of the region” thanks to his earlier role, and he remembered its potential. “They have the things that everybody should want: a growing market, investment opportunities for regional and international players, and an area strategically as important as most. It is an area with rich traditions but is landlocked and needs to be integrated into the world economic system.”

Miranda’s career has involved plenty of private sector work between the multilaterals: at once stage he set up and managed his own project finance boutique investment bank that he later sold to Morgan Stanley, becoming a senior executive at the US powerhouse as well as a stint in a Spanish investment bank. People who have sold their own banks to Morgan Stanley don’t generally need more money, and one suspects he is drawn to this ADB role, with its dismal flights and endless visa queues, out of a sense of duty. “Central Asia has the importance and that thrill where things are yet to be done,” he says. “As a development bank we like to be involved with change.”

And, once in a while, there’s a visible reward. That Afghan railway, the first in the country’s history, built across unforgiving topography in a nation at war? It was finished ahead of schedule.

BOX: Out of Hours

What are your interests?

Lots of them – music, sports; I play golf well enough to beat most of my colleagues. I like classical and jazz music and I like to watch football – I’m a long-standing fan of a team called Deportivo La Coruna. I’m happy to report to you that we beat Manchester United twice.

What words do you live by?

Accountability and responsibility.

What keeps you awake at night?

The happiness and health of my healthy and happy children.

What are you reading?

Henry Kamen’s Spanish Empire. It argues that the empire could well have been the first big example of globalization and outsourcing!

The Asian Development Bank is to continue with its carbon fund initiatives despite growing uncertainty about the future of carbon markets.

The development of carbon markets based on the clean development mechanism – in which polluters in wealthy countries offset their own pollution by buying credits generated by clean energy projects in the developing world – have suffered a series of setbacks in the last six months. The Copenhagen agreement failed to deliver clarity on the structure for carbon credits after the Kyoto accord expires in 2012, and several countries who had pledged to develop carbon trading initiatives have delayed or abandoned them.

Most recently Australia announced its cap and trade system will not now be launched until there is a clear post-2012 structure, and even then it will clearly face a challenge to be passed into law.

“Basically in the last 12 months some of the events were less than ideal,” said WooChong Um, the ADB director who has spearheaded carbon trading initiatives at the bank. “But I’m still optimistic that there will be some kind of global agreement.”

The ADB has launched two carbon funds. The Asia Pacific Carbon Fund was launched in 2007 and raised $151.8 million from European nations. This fund invests in clean energy projects and buys the carbon credits that come from them, and has allocated most of its money in projects such as hydropower, landfill and biomass to energy in countries including Vietnam, India and China.

A second, innovative Future Carbon Fund was launched in 2008 to invest in projects that will generate carbon credits after 2012. This was designed to make sure clean energy projects were not delayed because of uncertainty about the future structure of carbon markets – uncertainty that has worsened since Copenhagen.  This raised $100 million, including a $20 million contribution from Korea.

Both funds are distinctive because they commit money up front, whereas others do not contribute until the project is built and generating credits, which can undermine the projects’ viability.

“Our direction is the same,” said Um. “Our energy and climate change priorities remain the same. All of them have to be undertaken, it’s just that it’s probably not as easy now.”

The effectiveness of carbon markets divides opinion. “The carbon market is an effective tool primarily for meeting the commitments of developed countries to mitigate [their pollution] at lower cost,” said Prodipto Ghosh, a member of the Indian Prime Minister’s Council on Climate Change, and former Indian environment minister. “But it is not a tool for financing developing countries’ own actions for mitigation.”

Philippe Delhaise, CEO of Carbon Management Consulting, disagreed. “It [carbon markets] helps, because it makes the difference between a project that would not be undertaken and a project that is. There’s a huge transfer of technology and funds going to 2000 projects all over the world. The volumes are small, but we have a war here, we have to do something and every bit helps.”

Mr Delhaise said that despite uncertainty, it was inconceivable that the carbon market would not have a future post 2012. “Nobody really knows but the one thing that is certain is you cannot, on December 31 2012, tell your Guatemala pig farmer reducing methane emissions: ‘sorry, you expected 21 years of carbon credits, but now nobody will buy them from you.’ That is nonsense. It’s not going to happen.

“Whatever the new system, there will be a way to price those carbon credits and get the reward to the investor.”

For many years now, the Asian Development Bank has being trying to coax the private sector to take a leading role in its projects and initiatives. The logic is straightforward: the ADB’s own assets as a lender are finite and inadequate for the social and infrastructure challenges the region faces, but if the bank can be a catalyst for private sector investment, then impossible funding targets become potentially achievable.

Last year the ADB put out a book, Infrastructure for a Seamless Asia, which argued that between 2010 and 2020 Asia needs to invest approximately US$8 trillion in national infrastructure, as well as $290 billion on specific regional infrastructure projects in transport and energy. On the flip side, it argued that if this happened, “developing Asia’s real income during that period and beyond could reach $13 trillion.” This contention – that if you spend money, you will make money – is the message the ADB must get across to the private sector.

How’s it done so far? “As a bank I think we’ve made tremendous progress both from the perspective of real investment, and catalysing additional investment in the region,” says Philip Erquiaga, director general of the Private Sector Operations Department of the ADB. Firstly, the bank has “ramped up our operations rather dramatically” in pure dollars and cents commitments, Erquiaga says. “Back in 2001 we were doing less than $100 million a year [private sector operations] in terms of approvals; last year we were close to $1.7 billion, with $1.8 billion anticipated this year.” By 2020, the bank hopes that engagements in private sector development will account for 50% of approvals.

Alongside that, the ADB has put heavy resources into what Erquiaga calls “upstream work” – creating the right environment for private investment, from company law and land registration to adjudication. Another challenge has been capacity. “If there is one lesson we have learned in dealing with the private sector in our operations, it’s that they don’t want the rules of the game to be changing on them midway through their investment. To ensure that does not occur you need to establish the right environment and to ensure that a PPP is staffed with the right people with the right competence.”

Since the ADB can only ever take a 25% role in the financing of a project, it has necessarily moved from being a banker to a broker. “It’s in our nature to act as a broker to make sure the deal gets done,” Erquiaga says. This, though, has changed as a consequence of the financial crisis: these days the ADB finds itself putting a lot of deals together with other international agencies, rather than with commercial co-financing. When the New Bong Escape hydro plant in Pakistan, the country’s first run-of-river hydro development, was financed last year, the ADB was alongside the Islamic Development Bank, IFC and Proparco, the French development finance institution. “Otherwise the financing would not have been available,” Erquiaga says.

Hopefully, though, that retreat of the private sector is temporary, and in the meantime the ADB continues to try to provide the facilities to keep them interested, such as political risk cover, partial credit cover – a guarantee can cover as much as 99% of credit on an individual transaction – and simply the ADB’s own participation. “A lot of people look to us for the halo effect,” says Erquiaga. “The fact that the ADB is involved in a transaction, with our close relationships with governments and so forth, means there are fewer instances of the rules of the game changing midway through.”

For many years the ADB has used a funds model to try to attract investment. The bank has been active in private equity since 1983, and today has 40 current funds, covering about 400 individual portfolio companies, with around $720 million of total current commitments.

Again, the ADB is held to a 25% limit on fund participation, but funds are one area where the catalytic effect of the ADB is easily measured. “If we look across the entire portfolio since 1983, we see that for every one dollar we have put into a fund, approximately eight is raised elsewhere,” explains Robert van Zwieten, director of the private sector capital markets division at the ADB. “That’s a huge effect and amplifies the impact we could have with our own resources.

“It’s far beyond what we ourselves could muster. The multiplier effect continues as funds then take minority equity stakes in portfolio companies.”

For much of the decade the focus was exposure to the SME and infrastructure sectors. “Those are widely seen to be a huge source of employment, and jobs are a conduit for poverty reduction,” says van Zwieten. From 2007 the department’s view broadened, with more activity in areas such as microfinance, clean energy and water, and socially responsible investing, as well as an increasing focus on frontier markets “where private equity is nascent or non-existent.”

The change of focus brought a shift in approach too: in clean energy the bank struggled to find suitable investable funds in late 2007, so stepped up to incubate some itself. That process entailed an RFP process that attracted 19 bids, five of which were accepted, and today they are “only just coming to the starting line, due to the harsh fundraising climate for such novel funds in 2008 and 2009.”

Hopefully these funds will, in time, be free-standing. One fund manager the ADB has long backed approached van Zwieten recently saying they hoped to start a fourth fund, and raise $700 million through it. “These follow on funds are getting a lot of mainstream institutional investors coming to the fore, which is exactly how it should be – but if they can do that, there’s no role for us,” van Zwieten says. The ADB’s own capital is better deployed in those that have yet to develop such traction.

Project finance in Asia, while hit by the credit crunch, has a number of reasons for optimism. Funding sources appear to be returning, and the demand for power and infrastructure in Asia is every bit as big as it always has been.

“Project finance is a very long term game with a considerable gestation period for any of these deals,” says David Gardner, managing director and global head of project finance, resources and energy group at HSBC. “We don’t see a lot of volatility day in day out: you might have to delay a project but for the most part deals need to stand up on their own and if so will remain on the books. There’s a real supply-demand gap so transactions will still get done.” He says over the last year or so around US$10 to 15 billion of project financing has been done in Asia, and that next year he would expect $20 to $30 billion.

Project finance has held its head above water in Asia chiefly because of the liquidity of local banks, which have been relatively unaffected by the financial crisis and have the further advantage of higher savings rates in Asia. Take a look at the biggest announced project finance loans in the last 12 months and local names dominate both in the syndicate and at the mandated lead arranger level: China Development Bank on the Kazakh-Chinese Gas Pipeline; SBI Capital Markets on the ONGC Petro Additions petrochemical complex and the Aircel and Vodafone Essar financings in India; BDO Capital Investment and Bank of China alongside HSBC on the National Grid Corp financing in the Philippines; Bank of China on the China Super Bridge; and IDBI Bank on the Coastal Andhra Power plant in India.

Offshore banks have been hit to varying degrees. “We started to see the whole liquidity premium come into play in the middle of last year,” Gardner says. “Banks had real costs involved in providing long tenor to these transactions so the appetite for them has diminished.” Consequently tenors have shortened and the underwriting market has stepped away. “Most deals done last year were on a club basis with a few banks sitting around a table on a take and hold basis,” says Gardner. “The market is easing back now and we may soon start to see some underwriting, albeit on a smaller scale initially.” He says in terms of tenor “the sweet spot is now probably in the seven to 10 year range”. Bankers say they would like to see a greater contribution from local currency debt markets, where Malaysia and India have shown some success for project bonds.

While activity has slowed, progress on some bigger deals does suggest a brighter future, and this is nowhere more true than with the Victorian Desalination Plant in Victoria, Australia, a A$3.5 billion public-private partnership financing. The winning bidder for this project was Aquasure, a consortium comprising Degremont, Suez Environment, Macquarie Capital Group and Thiess. Funding is in place for this with 15 lenders backing the bid, and syndication under way as this edition went to press.

The deal’s sheer scale is significant in itself, particularly coming out of the credit crunch. “We’re hoping that a deal like this will reopen the underwriting and syndication market for next year,” says someone close to the deal. It’s also interesting in being a fully carbon offset project serving a key community need – Victoria has been in drought for a decade now – and it is understand that these issues, combined with the strong support of the Victorian government, helped to attract banks to it.

Progress with this deal is likely to be felt in other Australian PP projects, covering roads, hospitals, schools and prisons, among other things. The A$750 million Peninsula Link project linking two roads in Victoria is at the shortlisted bidder stage, while there are prison PPPs in Victoria and Darwin and another, worth A$2 billion, for the Royal Adelaide Hospital in South Australia. Another project financing underway in Australia is a A$750 million deal for Epic Energy to build a pipeline in Queensland. Several windfarm projects are also in progress, and at some point the PNG LNG project in Papua New Guinea – a deal that has the potential to transform that country’s economy – will move forward.

Elsewhere, project financiers expect China to be a major driver across the board from power to oil and gas, petrochemicals and mining, driven by ample demand and the Chinese government’s willingness to push growth, as well as vast domestic liquidity in the local banking system. India too has liquid banks and huge infrastructure demand, and is going to be another driver of project finance in Asia:  in the power sector alone, it has announced 14 so-called “ultra mega power projects”, each with a capacity of at least 4000 megawatts, as part of a plan to create an additional 100,000 MW of capacity by 2012. As always with India, getting to the finish line can be a challenge, but the intent is immense.

The global financial crisis required decisive thinking from regulators, governments and institutions worldwide, but none more so than the World Bank, IMF and the World Bank’s finance arm, the International Finance Corporation (IFC). A decade ago, these groups were instrumental in trying to turn around Asian economies during the financial crisis there, and they were widely criticised for some of the measures they took. This time around, how did they do?

The headlines fell to the IMF by dint of the enormous sums involved, and the public nature of their announcement. In April, when the G20 group of leaders spoke of committing $1.1 trillion to combat the financial crisis, the bulk of it – $750 billion – was pledged to be delivered through the IMF, representing a trebling of its lendable resources. The institution’s emphasis appeared to be on building its power to act: as Andrew Tweedie, the director of the IMF’s finance department, put it in the IMF’s own in-house magazine, the IMF built bilateral borrowing arrangements “to strengthen its lending war chest to combat the ongoing global economic crisis”.

The IMF approach had some interesting elements, particularly the $250 billion allocation of a reserve asset called Special Drawing Rights. In July the IMF’s executive board approved a framework for the issuance of IMF notes to member countries and their central banks, as a method of raising funds and – the IMF says – providing members with a secure investment. Additionally it has expanded credit agreements, increased concessional lending to very poor countries, brought forward a review of the fund’s country quotas, and is considering revising its own investment mandate with a limited sale of gold holdings to create an endowment to generate income.

But one could argue most of the interesting things about the IMF, chiefly reform, are still to come and not yet really up for review. Instead, when it comes to individual, technical programmes, many of the most interesting policy initiatives relevant to financial markets came out of the IFC, part of the World Bank group. All told, its programmes designed to help private enterprises cope with the crisis are expected to involve more than US$30 billion of financing over the next three years – not all of it from the IFC, but in combination with funds mobilized from governments and other financial institutions. That is in some sense the point of the IFC: not to put a vast balance sheet on the line in isolation, but to use it to draw in other sources of funds.

From that perspective, the most obvious cause for alarm at the outset of the financial crisis was trade. Trade is, as the IFC has frequently said over the last year, “the lifeblood of the global economy”, and it was immediately under threat. As capital moved towards lower-risk assets, it left emerging markets, with trade finance lines being cut in some of the areas that needed it most.

The IFC already had a Global Trade Finance Program, basically a one-off guarantee facility which did not deploy funds for trade but did provide support in the form of guarantees in order to make sure emerging market trade transactions would still go through. So its first step was natural: it doubled the size of this programme, from US$1.5 billion to US$3 billion, in December 2008. But something strange happened.

“We thought when we doubled the programme there would be immediate uptake across the markets,” recalls Scott Stevenson, manager of the Global Trade Finance Program at the IFC. “But when we made that increase the immediate uptake was much less than was anticipated.” Banks had pulled back all their own capital, and in Europe they were further constrained by the arrival of Basel 2 with its heavy risk weighting towards emerging market exposure. “It was a convergence of negative effects, but it meant that global liquidity collapsed – not only the interbank market, but liquidity available for trade finance.”

What was needed was not the guarantees, but the pool of funding in the first place. “When we saw the market dry up like that we started fishing around for what we could do,” says Stevenson. “It was not just a drying up of liquidity but the entire secondary market, because the investors who would traditionally be buying up the securitized trade portfolios had put their tails between their legs.” So the IFC’s next step was to build what it calls the Global Trade Liquidity Pool, which among other things was a sort of synthetic secondary market. At that point, the World Bank was estimating that the gap in the liquidity in the system, between what was there and what was needed, was between $200 and $400 billion, clearly beyond the remit of the IFC balance sheet or anyone else’s in isolation. The idea was instead to partner with governments and development institutions to pool resources, and then to get the banks themselves involved: “established international players with footprints in emerging markets, who had liquidity but not the secondary market to churn their portfolio,” Stevenson explains. The banks would create portfolios, the pooled IFC fund would purchase 40% of them, and the banks retain 60%. IFC’s own contribution to the fund was $1 billion, additional donors $3 billion, and the involvement of the international banks is intended to put a further $6 billion to work, making a $10 billion programme.

It took time, but by April the World Bank was able to announce that the UK, Canadian and Dutch governments were all involved, and that the first two lines, of $500 million and $400 million, would go to Standard Chartered Bank and Standard Bank respectively (in Standard Bank’s case as a full loan rather than the 60/40 arrangement, since Standard’s extensive networks in Africa were deemed vital). Since then Citigroup and Rabobank have agreed terms, while Commerzbank and JP Morgan will be next.

The theory of the scheme was widely supported, with criticism instead focusing on the length of time involved to get it running. The IFC funds were put to work at the end of June and the commitment for donor funds is in place, but at the time of IFR’s interviews, in early September, disbursement of the pooled funding had still not taken place, although it may well have done so by the time this article is published. “I think the lesson learned is that in dealing with public sector counterparts, a lot more time is necessary in terms of response,” says Stevenson. While private sector institutions were, he says, the ones who pushed the programme, “from the donor side you do get into the machinations of governments, and that’s the slower part.”

Although the global markets have clearly improved dramatically in the meantime, Stevenson has little doubt the funds will still be necessary. “Because of the advent of the increased capital rules that Basel 2 is demanding, a lot of the major banks are still constrained in terms of what they can do in higher risk countries of the world,” he says. “That really is the focus at IFC as well as other donors. First tier banks are fine and seeing liquidity come back into the market. But second and third tier banks in those countries, for them, liquidity has not returned.” In fact, he has no doubt that additional funding is going to be necessary. “If you look at the overall ability to respond to the shortage in the market, this is – I don’t like to use the term – a drop in the bucket.”

While it would obviously have been preferable to see funds deployed faster, a benefit that may have come from the process is an unprecedented level of cooperation among world bodies. “This was a crisis that was well beyond what anybody would have imagined,” says Jyrki Koskelo, vice president for Europe, Central Asia, Latin America and the Caribbean, and global financial markets and funds, at the IFC. “It forced everybody to work together. Some of these initiatives helped us and the international community to align our interests, and when we worked on that basis the damage was contained a bit more than if the IFC had done anything alone. A lot of it is signaling to the market: this is what happens in a crisis, and this is what had to be done.”

While trade and liquidity were among the most visible problem areas, there was plenty else to worry about too. Another example was microfinance, which in a relatively short time has become absolutely vital. According to Martin Holtmann, who heads microfinance for the IFC, there are believed to be about 140 million households in the world that have access to microfinance credit, and a much larger number who have access to micro savings. Many of these institutions, and the people who borrow from them, faced a double hit within the space of the year, first with the vast food price rises in 2007, and then the financial crisis. Deposit-taking microfinance institutions, excepting some problems in Eastern Europe and particularly Ukraine, came through the crisis largely unscathed and in some cases enhanced by the run on commercial bank deposits. But those that exist chiefly to provide credit faced a serious liquidity crunch. “Take a country like Bosnia,” says Holtmann. “There would normally be commercial banks providing funding to the MFIs [microfinance institutions] but that supply has totally disappeared, creating a liquidity issue. You wouldn’t call it a crunch, because MFIs like any other prudent institutions had secured medium term financing, but eventually you hit the rollover risk, and certainly that’s happening in certain parts of the world.”

So IFC set up a $500 million facility, the Microfinance Enhancement Facility, with the German development bank KfW to support microfinance institutions facing refinancing difficulties. It aims to support more than 100 institutions in up to 40 countries. “The top 150 microfinance institutions in the world account for roughly 70 to 80% of the total supply out there. That’s essentially the group this facility is targeted at,” says Holtmann. At the time of our interview about $140 million of funding had already been approved, mostly in the area covering Eastern Europe and the Balkans, and Latin America. (Perhaps surprisingly, African institutions suffered less in the crisis, partly because they have tended to have more access to deposits, and also because the crisis had less of an impact on African than it did in, for example, Eastern Europe).

As elsewhere, things have already improved, but Holtmann says it is “too early to cry victory.” He sees quasi-commercial investors coming back into the market, but “a creeping up of portfolio at risk – a slow deterioration of loan portfolio quality.” Even so, this is not so bad compared to many retail banks since the default rate on microfinance portfolios is often strikingly low, although he says institutions in Bosnia, Morocco and Ukraine are on the watch list. In some cases, there is a need for capitalization, and part of the IFC’s role is to provide the right instruments for that, whether equity infusions or subordinated debt.  “When the crisis hits you first and foremost need liquidity, you don’t worry so much about solvency,” he says. “In the long run of course you do have to worry about solvency, but the moment you’re illiquid, you’re dead.”

One interesting element of the microfinance response is that the facility is managed externally, by BlueOrchard Finance, responsibility Social Investments and Cyrano Management, all specialist fund managers. This, Holtmann says, increased the capability. “Last  year we did 33 transactions in microfinance. With these fund managers we can triple, quadruple the number of transactions.”

Another vital area requiring a response was infrastructure. “In several countries in the world today which are developing infrastructure projects are funded only partially with a long term debt structure with quite a bit of it based on rollover maturities,” says Koskelo. “When that [the ability to roll over debt] stops, the good infrastructure projects get stopped as well.”

Usha Rao-Monari, senior manager in the infrastructure department at the IFC, recalls: “A number of projects had come to the market for financing and were not getting it, and in a number of other projects preparation was stopping because of fears that they wouldn’t get long term debt.” She recalls from the Asian financial crisis how banks can back away from this capital-intensive, long-term sector; “it ended up becoming what is known as the lost decade for infrastructure in Asia. We did not want to repeat that.”

The response here was the Infrastructure Crisis Facility, which has debt and equity components. The debt side had raised US$2.4 billion when announced in April and Rao-Monari hopes by the annual meeting in Istanbul in October another $700-800 million may be in place. Then on the equity side, $1 billion is targeted; IFC has approval to put in $300 million of its own balance sheet on the equity side and up to $2 billion in loan co-financing. But – once again – as yet, none of it is deployed yet. “We already have a pipeline of projects waiting for it to be set up and we will start putting money up almost instantly,” Rao-Monari says. Her hope is that, when funds finally do get put to work, “it will send such a huge signal to the market we are going to be deluged by projects. There is stable financing available, Mr government representative and Mr private sponsor, so don’t worry about building projects.”

Then there’s agribusiness. During the 2009 financial year IFC invested $2 billion – a record – across agribusiness, through the supply chain from farm to retail, to boost production, increase liquidity and improve logistics, as well as increases access to credit for small farmers.

Elsewhere, the IFC Capitalization Fund was launched with $1 billion of the IFC’s money and $2 billion of Japan’s, through the Japan Bank for International Cooperation, in order to provide additional capital for banks in developing countries, in subordinated loans or equity investments. Here, too, little has been dispersed, although the first investment took place in Paraguay’s Banco Continental, with a US$20 million contribution.

And IFC is also planning a private sector programme to take on and resolve distressed assets.”If you look at the NPL rates in Eastern Europe, there are horrible projections about where they might end,” says Koskelo. “We’ve tried to prepare ourselves for that. We haven’t signed individual NPL platforms yet but we do expect to sign some of the first vehicles for NPL funding soon.”

The capitalization fund in particular is an area that looks like shutting the stable door after the horse has bolted, with the financial environment now much improved, but Koskelo says there is every need for such a facility. “Unfortunately the capitalization needs are pretty much in line with what we expected,” says Koskelo. “There’s a significant uptick of demand today. There was a limited need about six months ago, because the crisis had not yet hit the banking sector properly through NPLs. Today, the pipeline of banks requiring capitalization is unfortunately increasing.”

Apart from criticism of the time taken to get things moving, NGOs have focused concern on the increased power of the IMF without a change in its policies. Speaking of the IMF funds, Peter Chowla of the Bretton Woods Project noted in August: “This substantial amount of resources may never be provided, and, if it is, may not have the intended positive effect on developing countries. Experience so far demonstrates that the IMF is still imposing damaging pro-cyclical conditions on some borrowers, and that the finance provided to low-income countries will be too small.” Chowla noted that by early July only $100 billion of the $500 billion of new lending that was supposed to come through the IMF had actually been signed off.

At Third World Network, another NGO, Bhumika Mucchala has argued: “At a time when devastating financial and economic crisis is calling into question the governance and policies of all the major institutions that constitute the existing international financial order, the IMF appears to have escaped any such major reevaluation…. The IMF, now financially reinvigorated with a fresh infusion of funds, is still pursuing some of its discrete policies.” Like Chowla, Mucchala wanted to see reforms in lending instruments, conditionality and policies “toward more even-handed and broad-based implementation which better meets the needs of its developing-country members.” Mucchala sees a contrast between loan conditions – for example, advising a reduction in Pakistan’s deficit through lowering public expenditure and removing energy subsidies; or, in Hungary, freezing public sector wages and placing a cap on pension payments – and the rhetoric of officials calling for fiscal stimulus programmes to boost demand and consumption. To this point Mucchala quotes the IMF’s wording in a $532 million loan to Serbia: “Anything less than a tight fiscal stance could… jeopardize the credibility of the programme in the eyes of foreign investors and the Serbian public.”

The charge that the IMF has opportunistically bolstered its own standing through the crisis is occasionally leveled at IFC too. Bretton Woods Project in July noted that the crisis had given the IFC an expanded role “but its methods may leave a bitter taste with civil society.” The NGO argues that the liquidity deals with Standard Chartered and others “likely subsidises their activities in the sector”. Bretton Woods is also uncomfortable with the formation of the IFC Asset Management Company, which will buy shares in emerging markets companies and will initially manage the capitalization fund, as well as a $1 billion private equity fund, with the intention of attracting third party funds such as national pension funds and sovereigns. Bretton Woods is not alone in this: Aldo Caliari from Center of Concern, another NGO, has said: “Access to credit [for developing countries] has traditionally rigged the playing field against developing country companies. Now, instead of fixing those asymmetries, this device will allow foreign investors to help themselves to any company they might have in their sights, bearing little or no risk, courtesy of IFC-provided public money.”

It’s widely accepted that corruption is a problem in the developing world, and that the worst of the consequent economic hit is to the poor. Development projects such as those supported by the Asian Development Bank are especially vulnerable: they take place in some of the poorest parts of the world, with the lowest ability to supervise, and the greatest incentive to steal. But what to do about it?

Kathleen Moktan is the director for public management in the governance and participation division at the ADB, and is practice leader on public management and governance. She has been a part of the bank’s farthest-reaching initiatives in this area, including the Second Governance and Anticorruption Action Plan (known as GACAP II), approved in 2006, which aims to improve the implementation of governance and anticorruption policies in sectors where the ADB is active; and a joint initiative with OECD which aims to harmonise approaches and share good governance practices.

In Moktan’s reading, corruption is not necessarily any worse in Asia than elsewhere, it just has a greater effect. “Corruption will occur, fraud will occur, crooks are everywhere in the world,” she says.

“The difference is the way institutions deal with it. Institutions in the developing world are weaker so vulnerability is higher. In the developing world the returns from corruption are high and the risk of prosecution is low, so the risk/return tradeoff is different.” The other difference is the impact: the poor and disenfranchised are the worst hit by corruption, and in countries where a greater proportion of the population is below the poverty line, the effect is naturally greater.

Changing the risk/reward tradeoff is at the heart of the ADB’s attempts to tackle the problem in Asia. By strengthening institutions – the independence of the judiciary, the experience of auditors, the accountability and monitoring of public financial management systems – the ability to catch perpetrators is improved.

It’s a slight shift in approach, enshrined in the GACAP II documents launched in 2006. “Past institutional and governance efforts have tended to be too short term and spread across too many sectors,” that document says. “To few resources have been allocated toward preventing corruption and building systems and capacity in public financial management and procurement.”

But it’s not all at the top level, or at least not anymore. “In one country we looked at we noticed that corruption was not occurring at the bidding or tender process, but instead there was collusion at the build phase,” she explains. “The ADB would pay for 100% of a bridge but find they actually only got 80%. Instead of three inches of asphalt, there was one inch, or 10% less reinforced cement.” In this instance the monitoring needed to be taking place at implementation, not the bid.

At the top level, Moktan believes implementing agencies around the region are getting a lot better at spotting what she calls “red flags, where something may be amiss. We’ve trained them to look for things that don’t seem right.” That might mean noticing that the phone number in the letterhead is the same on three separate shortlisted bids. “Executing agencies now are picking these things up more often than not.”

So is it working? It’s a difficult thing to assess: do high numbers mean improving supervision or rising corruption? The Office of the Auditor General, Integrity Division (OAGI) reports that in 2008 the ADB imposed sanctions on 41 firms and 38 individuals in 2008; that brings the tally to 552 firms and individuals banned from working for the ADB since it began investigating corruption allegations in 1998. OAGI, whose headcount dropped from 15 to 12 in 2008, opened fewer new investigations in 2008 than any year since 2002, but at the same time the complexity of investigations is increasing and the number of open investigations in 2008, an average of 105, is higher than previous years.

“I think the biggest measure of success is the extent to which corruption is openly discussed in most countries in Asia and the Pacific,” says Moktan. “10 years ago, nada. It was all viewed as too highly sensitive. Now I can have a meeting with 50 people in the region discussing the nature of political corruption and how it impacts their ability to deliver as government officials.” There has been a certain amount of diplomacy in this process: Moktan says it is best to depersonalise the conversation. “It’s rare you meet public officials now who will not discuss vulnerability to corruption – but if we start with ‘sir, we think you’re a crook’, they won’t,” she says. “If we start with ‘what do you want to achieve and let’s look at where your own goals are at risk’, most are willing. If you don’t put on a western value label, you can have a meaningful discussion.”

Investment products and practices that seek to benefit from rising food prices are under increasing scrutiny as a partial source of those rises, putting food affordability out of reach of the poor.

More and more mutual funds and structured products are being launched based on agricultural themes, either buying the stocks of food-related companies or taking bets on soft commodities such as grain and corn. Some funds have gone further and set out to purchase farms, cattle stations or even just vacant land.

For example, in Australia alone yesterday two new agricultural investment products were launched. JP Morgan launched a vehicle called Trio, which among other things exposes investors to the JP Morgan Commodity Curve Index, an agricultural benchmark; and Macquarie added a well-established agribusiness mutual fund, the DWS Global Equity Agribusiness Fund, to its Fusion Funds range.

Opinion is divided on the impact. “I think it is certainly making it worse,” said Shane Oliver, head of investment strategy and chief economist at AMP Capital Investors. Alongside the impact of weather, crop failures, food for fuel and rising income levels, he believes speculation and investment approaches are significant impacts. “Speculative activity in food markets has become particularly evident in the last six to 12 months fuelled by strong fundamentals for food prices and uncertain equity, credit and property markets,” he says.

“Basically traders and speculators flocked to commodities including food this year as it was one of few investments still providing solid returns.” He said the emergence of food as an asset class “will provide a strong structural underpinning for food prices – which is not good for people living in emerging countries.”

The allure from an investment perspective is clear. “The demand for soft commodities is really just beginning to increase and we believe the opportunities here are quite considerable,” said Chris Larsen, managing director of DWS Investments. “Including agricultural investments within a portfolio can provide several benefits including increasing its growth potential and lowering risk through diversity.”

The DWS fund invests in listed securities such as Archer Daniels Midland, Syngenta and Monsanto, an approach less likely to push up food prices than food stocks. But other funds make direct investments in farms. In June Macquarie Bank launched the Macquarie Pastoral Fund, which owns and operates beef cattle and sheep production properties in Australia. Tim Hornibrook at Macquarie said the fund would exploit increasing disposable incomes in Asia that are likely to translate into more consumption of red meat and therefore higher prices for beef exports. Hedge funds including UK-based Odey Asset Management, US commodity fund Ospraie Management have bought farms, while a Agriculture Fund launched by Blackrock has purchased a large area of land in Norfolk, UK, all of it likely to contribute to an upward momentum in food or agricultural land prices..

ADB President Haruhiko Kuroda told Emerging Markets: “You cannot explain by simple demand-supply conditions the huge, phenomenal increase in rice prices in the last four to five months.” But he added: “It’s not hoarding by a big company or hedge fund, it’s people trying to purchase rice sooner rather than later because of potential price rises.”

NGO groups are calling for changes to the ADB’s Safeguard Policy Update to bring it more closely into line with the Equator Principles – the environmental and policy guidelines devised by the International Finance Corporation and signed to by many of the world’s leading banks.

The SPU aims to improve the effectiveness of the ADB’s safeguard policies, and by April 22 had gone through 13 rounds of consultation workshops worldwide since the consultation draft was first published in October.  But some feel they fall short of the Equator Principle standards – and feel that at a time the ADB is greatly boosting the importance of private sector participation, they ought to move closer to them.

“In the October draft the ADB say that they want to harmonise with the Equator Principles,” said Mishka Zaman, manager of the Asia program at Bank Information Center, a Washington DC-based NGO. “As an objective they aspire to that, but the draft does not match up to it. The actual language will not help them get there.”

Joanna Levitt, Co-Director of the International Accountability Project based in San Francisco, identifies a number of key differences between the two models. “The Equator Principles begin with a clear statement: no play, no pay,” she says, referring to the EP statement that signatory financial institutions will not provide loans to projects where the borrower does not comply with social and environmental policies and procedures. The SPU draft, she says, “has no such clear statement.”

She adds: “EPs, across the board, have clearer, more explicit language, benchmarks and requirements, including on consultation, disclosure, grievance mechanisms, and reporting requirements.” She believes the SPU draft is vague by comparison.

Other examples are that SPU does not require categorization for involuntary resettlement projects based on the level of risks and adverse impacts of projects, and “uses language that leaves a dangerous amount to the discretion of the borrower.” She says that SPU does not require independent monitoring; does not make clear that borrowers have any heightened assessment responsibilities for higher impact projects; and has subtle but important differences of definition regarding negotiated settlements and the avoidance of involuntary settlement.

That said, these comments refer to a draft that will be revised to reflect “the feedback and advice received through the extensive consultations,” according to the ADB; a revised document will be posted on the bank’s website for further comment. It will be clear then whether NGO concerns have been addressed.

Even then, the principles will not please everybody. “We feel that as a starting point, the ADB should use the equator principles for its private sector operations,” says Zaman. “But even with them, I am sure there are things that can be improved. We would like them to offer the Equator Principles as a base for discussion and we can move upwards from there.”