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By Chris Adams*

May 2001

In the Asia Pacific region, infrastructure projects - roads, ports, power stations etc. - have traditionally been initiated, owned and managed by the state. The projects have been financed through taxes or by borrowing from commercial banks and international financial institutions such as the Asian Development Bank (ADB). The role of the private sector has been relatively limited, usually restricted to subcontracting in the construction phase. Our governments have retained ownership and control over the assets and any associated revenue stream and, in exchange, have borne all risks and contingent liabilities.


All this has changed over the last two decades. Demand for infrastructure investment has increased dramatically in response to rapid industrialization and urbanization in Southeast Asia and the transition from centrally planned to market economies in the Mekong sub-region. Governments are no longer able to finance infrastructure projects solely or even predominantly from the public purse. Many governments in the region have a narrow tax base and regressive tax regimes. All face budgetary constraints, in part due to declining terms of trade for primary commodities and the high cost of debt servicing. Aid flows have also declined, reflecting global trends, as well as the cessation of aid from the former Soviet bloc to the Southeast Asia transition economies (SEATEs) and the high cost of yen denominated loans from Japan. Governments are also under pressure from multilateral agencies to strengthen fiscal discipline. This precludes state financing of infrastructure projects through borrowing from state-owned banks or expansion of the money supply.

Governments are also reducing their involvement in the design, construction and management of infrastructure projects in response to the prevailing emphasis on privatization in development discourse, the poor performance of some - but by no means all - state-owned enterprises and public utilities and the policy prescriptions of bilateral and multilateral agencies.

As a result, governments are looking to the private sector to not only finance but also to build and operate infrastructure assets. The SEATEs in particular have relatively low saving rates and weak domestic capital markets and have looked to regional and global private capital markets and the multilateral development banks (MDBs) to fill the gap. This has coincided with a dramatic surge in private capital flows from developed countries and later the newly industrialized economies of the region to emerging market economies (EMEs). This began in the late 1980s, particularly in response to a cyclical downturn in interest rates and a longer-term fall in rates of return on investment in mature industrial economies.


These private capital flows have been highly skewed geographically, a characteristic that has became even more pronounced in the wake of the Asian financial crisis. Private capital flows are now concentrated in Northeast Asia, particularly in Korea, China and Taiwan. Foreign direct investment (FDI) in Southeast Asia has increasingly gone into mergers and acquisitions rather than into green field projects. Transnational corporations (TNCs) from the US, the UK, the Netherlands and Singapore have been able to pick up productive assets at fire sale prices, aided and abetted by the IMF's policy emphasis on the liberalization of foreign investment regimes as a condition of emergency lending to crisis-affected countries after the crash in 1997. Similarly, new commercial bank lending - albeit on a much smaller scale - is being used to restructure existing external liabilities rather than invest in new plant and equipment.

Even before the crash however, the private sector was reluctant to invest in large-scale infrastructure projects in emerging market economies because of: long lead times; high up-front costs; frequent cost and time over-runs; a high level of disputes; a high proportion of sunk costs; restricted markets for project outputs; limited availability of foreign exchange; restrictions on currency convertibility and profit repatriation; vulnerability to policy and regulatory change and weak dispute resolution and legal systems.

In response, the MDBs have tried to increase the level of private sector involvement in public sector infrastructure projects, particularly through the use of turnkey contracts and build-operate-transfer (BOT) schemes. The MDBs have reduced the cost of credit and the risks accruing to private investors by providing political risk insurance and partial credit guarantees as well as by providing concessional finance from their own sources and/or mobilizing finance from export credit agencies (ECAs) and commercial banks. In addition, the MDBs have used their substantial leverage over small, heavily indebted countries to impose policy, regulatory and institutional changes that favor private interests.

This is part of a larger change in the role of the MDBs that began in the 1980s, initially with the World Bank (WB). In response to falling donor support and the surge in private capital flows to developing countries, the MDBs - fearing a loss of their rationale and hence legitimacy - shifted away from their traditional emphasis on providing low cost finance for public sector projects to providing strategic policy advice, policy-based lending; support to the private sector and mobilizing private capital flows to developing countries.

All this is now done in the name of poverty reduction rather than growth in GDP. However, the macro-economic framework for the ostensibly nationally owned but WB/IMF Board approved poverty reduction strategies remains largely unchanged, retaining the neo-liberal emphasis on privatization, capital account liberalization, market-based pricing and trade liberalization that characterized adjustment programs in the 1980s and 1990s.

The ADB has followed suit.


Despite a brief flirtation with an Asian, particularly Japanese, development model, the ADB has largely fallen into line with the Anglo-American orthodoxy that has held sway in the WB and the IMF since the early 1980s. Japan's preference for project lending, investment in public infrastructure, protection for infant industries, a strong regulatory role for the state and mercantilist trade and industry policy has given way to the US emphasis on private sector development, private capital flows, a reduced role for the state, policy-based lending and structural adjustment. This reflects the primacy given by Japan to the maintenance of the relationship with the US, the slowdown in the Japanese economy that has undercut the appeal of the Japanese model, the high degree of integration between the US economy and the economies of many smaller countries in the region and resistance from many Asian countries to a Japanese-dominated ADB.

This policy emphasis has led to significant changes in the scope and cost of services provided by the ADB over the last ten years. The ADB has placed an increasing emphasis on providing policy advice, both in terms of macro-economic as well as sector-specific policy. As a result, the ADB has increased program or policy based lending relative to project lending. In response, the number of conditions attached to ADB loans has steadily increased over the last five to ten years. The ADB is also placing an increasing emphasis on co-financing i.e. mobilizing funding from other sources for ADB-funded projects, particularly from ECAs and commercial banks that charge higher interest rates and have lower, if any, social, environmental and human rights guidelines or standards. The ADB is also increasing its direct support to private sector projects. Whilst this still accounts for a relatively small proportion of ADB lending, the head of the ADB Policy and Strategy Unit has spoken in favor of establishing a separate entity similar to the WB International Finance Corporation within the ADB. Finally, up until the recent replenishment of its concessionary loan facility - the Asian Development Fund (ADF) - the ADB was increasing the proportion of hard loans relative to soft loans.

To add salt to the wound, the ADB has increased the cost of its loans and other services. The scale of the ADB's unprecedented lending to crisis-affected countries in 1997/98 weakened its financial position, threatening its credit rating in global capital markets. Borrowing governments wanted the ADB to address this by increasing donor government contributions. Donor governments wanted to address this by increasing the service fees and interest rates on ADB loans, suspending the transfer of operating profits to the ADF and reducing the term for loans extended to crisis-affected countries and large middle income countries. That the donor governments prevailed is of no surprise - donor governments control 54% of the votes on the Board of Directors and hold five of the twelve executive director positions. In addition, the President, as well as other key positions in the ADB, is almost always drawn from the Japanese Ministry of Finance.

In summary, ADB lending has become expensive, with more strings attached and, for some countries at least, repayable over a shorter period. Not surprisingly, loan disbursements slowed and repayments increased in FY2000. As a result, the net transfer of resources from the ADB to developing countries fell dramatically from $1.7 billion in 1999 to just $3.7 million in 2000. If the smaller ADF flows are put aside, then there was a net inflow of OCR resources to the ADB worth $778 million in 2000. This means that the ADB took more money out of the region than it put in.


These changes privilege middle-income countries and larger low-income countries at the expense of the least developed countries and small island states. This will reinforce an existing geographic skew in ADB lending. Just eight of the thirty-nine borrowing countries in the ADB have received 80% of all ADB loans since it was established in 1966. Up until recently, most if not all of these were strategic and commercial allies of the US and Japan. Only one of these - Bangladesh - is a least developed country (LDC). The other twelve LDCs in the region have received less then 4% of all ADB loans since 1966.

These trends will be reinforced by the operationalization of the ADB private sector strategy that was approved by the Board in 2000. This strategy has three strategic thrusts: a) creating enabling conditions for business; b) generating business opportunities in ADB-funded projects, particularly through the use of turn-key contracts and BOT schemes; c) catalyzing private investment through direct finance, cofinancing and the extension of partial risk and partial credit guarantees to private investors.

That the ADB Board approved a poverty reduction strategy soon after adopting the private sector strategy is of no surprise. This was the key, after all, to shoring up donor support for a financially troubled institution. The ADB has, as a result, developed an ostensibly participatory approach to the development of its country strategies, including participatory poverty assessments. However, these strategies - now developed in close collaboration with the IMF and the WB - uniformly promote the role of the private sector and good governance, the later often narrowly focused on private property rights, contract law and commercial dispute resolution.

Private sector support is nothing new for the ADB. The private sector has always been the principal beneficiary of ADB lending since it was founded in 1966. In its first decade of operation, companies from donor countries like Japan, Germany and the UK - three of the largest shareholders at that time - captured 80% of ADB-funded contracts for goods, services and civil works (GRSCW). Between 1966 and 1999, Japanese and US companies have won contracts worth more than all ADB lending to the 13 LDCs in the Asia Pacific region. Companies from the top ten donor countries won contracts worth more than the combined value of all ADB loans to 30 of the 39 borrowing countries in the region over the same period. All donor countries, with the exception of Japan and Canada, get back more money from the ADB by way of commercial contracts than they put in as grants and capital subscriptions. In effect, donor governments are using the ADB and the rhetoric of poverty reduction to channel taxpayer funds to private companies without any democratic oversight.

Whilst the proportion of ADB-funded contracts for GRSCW going to donor country companies has declined over the last three decades, the proportion of ADB-funded contracts going to donor country consulting companies has actually increased over the last five years. This is of particular concern because many of these companies were established in the 1980s and 1990s to take advantage of the ideologically driven processes of privatization initiated by Reagan in the US, Thatcher in Britain, Keating in Australia etc. This severely proscribes the policy options offered to borrowing governments in receipt of ADB-funded technical assistance from ideologically driven consulting companies.

Private companies have particularly benefited from participation in BOT projects. These have been heavily promoted since the 1980s by the ADB, the WB, the IFC, ECAs, bilateral agencies and companies specializing in BOT projects. In a typical BOT project, the sponsor - usually a joint venture (JV) between several private companies and/or state-owned enterprises - is granted a concession by the state to design, finance, build and operate an infrastructure asset for a set period, usually 25 to 30 years. During the concession period, the JV is allowed to sell its product e.g. power from a hydropower plant, at a rate high enough to repay any debts accrued in the construction of the asset over a 10 to 15 year period and generate a profit at an internal rate of return of at least 15%. At the end of the period, the asset is handed over to the government free of charge.

BOT projects are very complex in financial and management terms, typically involving a host of players, including governments, private companies, legal advisors, financial intermediaries, private investors, consulting companies, NGOs and research institutes. As noted previously, private investors are reluctant to put money into large-scale infrastructure projects in EMEs because of real or perceived commercial and political risks. It is the allocation of these risks and contingent liabilities between the various players involved in a BOT project that determines whether investors will support a project or not. The risks and liabilities are usually identified, priced and allocated to different players through a complex and interlocking set of contracts, including concession agreements, licenses, shareholder agreements, purchase agreements, project agreements, guarantees and loan agreements.

These contracts price and allocate risks and contingent liabilities in a number of ways, some of which are outlined below.


BOT projects are usually financed on a non-recourse basis i.e. in the event of default, the investors in the project do not have recourse to the assets of the JV partners, only the assets and revenue stream of the project itself. Project financing is also usually highly geared i.e. the project is predominantly financed by borrowing money rather than through equity investment. Whilst this reduces the risk to the JV partners, the high level of external borrowings, coupled with the high cost of imported technology and the repatriation of profits and dividends can exacerbate balance of payment problems for the host country and lead to an increase in external indebtedness. Furthermore, the loans are usually raised from ECAs or from a syndicate of commercial banks. These loans have higher interest rates and shorter repayment terms than both non-concessional and concessional loans from MDBs or grants from bilateral sources, driving up project costs. In addition, ECA loans are linked to purchases from specific companies in the ECA’s home country, which precludes competitive bidding and further inflates project costs.

As noted previously, commercial lenders will not invest in large-scale projects in EMEs without risk insurance and/or partial credit guarantees from ECAs and MDBs. These typically require a counter-guarantee from the host government. For example, if a private company defaults on loan repayments, then the ECA or MDB will reimburse the lender using its own taxpayer guaranteed funds and then transfer the cost - plus a penalty - to the host government, thereby adding to that country's bilateral or multilateral debt stock. Both the MDBs and the ECAs have preferred creditor status, ensuring debt repayment ahead of other parties involved in the project. These instruments effectively transfer both commercial and non-commercial risks from the JV to taxpayer-funded institutions and in turn to the host government.

Project revenues are usually paid into an offshore “escrow” account, managed by an independent party or an MDB involved in the project. The revenues are then periodically dispersed to the various players, beginning with the commercial investors, then the JV itself for operation and maintenance costs, then the host government for taxes and royalties and then the equity investors in the form of dividend payments. If the host government is also an investor in the project, then it has a vested interest in maximizing dividend payments. This can conflict with its role as an independent regulator or advocate for affected communities.

The concession agreement will usually grant the JV free or heavily discounted access to land and other natural resources e.g. land and water for a hydropower plant. Similarly, the agreement will often grant the JV exemptions on import taxes during the construction phase as well as tax and royalty holidays on project revenues. The concession agreement will also often externalize social and environmental costs by transferring responsibility for environmental and social impacts to the host government and/or by capping the financial responsibility of the JV for mitigation measures and compensation.

Most if not all of the output from the project e.g. power from a hydropower plant are usually sold to a single purchaser e.g. a state electricity utility. The terms of sale are covered in an off-take agreement. This requires the purchaser to buy a fixed quantity of the project output at a fixed price for a set period e.g. 25 years on a take-or-pay basis i.e. the purchaser must pay for the product regardless of need. This transfers market risk from the JV to the purchasing utility that then transfers the associated costs to consumers.

In summary, risks in BOT projects are rarely if ever removed. Rather they are identified, often unrealistically priced and then reallocated. Reducing risk to private investors typically means increasing risks to the host government, consumers and communities affected by the project. Ideology, economic and political power and institutional capacity have as much, if not more, of an impact on the final allocation of risks and contingent liabilities, than do public interest criteria. Least developed countries with limited experience and institutional capacity are at a distinct disadvantage in this process. The resulting contracts are treated as “commercial in confidence”, reducing transparency and participation. Furthermore, the contracts are usually drawn up in accordance with international rather then national law and, in the event of disputes, are subject to the jurisdiction of third party courts, reducing national sovereignty. The contracts also typically preclude policy and regulatory change that would have a detrimental effect on the project for the life of the concession agreement, further reducing sovereignty in policy-making processes.

In summary, the uncritical privileging of the private sector and private capital flows in development discourse, in MDB policy, in structural adjustment and crisis-lending and most recently in MDB-supported poverty reduction strategies at the national level, has had disastrous consequences for the poor. The processes that this has unleashed - privatization, capital account liberalization, market-based pricing, commercial cofinancing, the diversion of taxpayer funds into non-concessionary lending and subsidies for the private sector, the externalization of social and environmental costs in private sector projects and reduced participation in project design and policy formulation - have, when taken together, benefited private interests at public cost.

Furthermore, it has undermined the capacity of progressive and activist states to design, finance and deliver infrastructure assets in particular and public goods in general. Instead, it has reinforced a model of dependent development, a model dependent on external finance, imported technologies and ideologically driven policy prescriptions.

Progressive taxation reform and the redistribution of productive assets to expand the domestic market and hence the domestic tax base - as well as increasing grant aid - is part of the solution to the financing of infrastructure development. Similarly, a much greater reliance on endogenous technologies and expertise is key to developing assets that are responsive to local needs and consistent with local institutional capacity. As Keynes once said, let finance be national. Let the design and delivery of public goods be likewise.

*Chris Adams is a visiting researcher with Focus on the Global South [email protected]

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