Private Investors Can Help End Poverty. They Just Need to Think Small and Local.
Infrastructure investment can not only combat the poverty of today — it has the potential to stave off the poverty of the future. And yet only $6 billion of private infrastructure investment went to the world’s poorest countries between 2010 and 2019 — that’s less than 1% of the total $1.1 trillion invested during that period. This remarkable dearth of financing took place during a historic period of loose monetary policy, in which central banks flooded global markets with liquidity. The authors argue that now is the time to incentivize investors to direct capital towards promising infrastructure projects in low-income countries.
“It is important to remember that all poverty is local.” Beyond a mere repurposing of Tip O’Neill’s famed quip about politics, this line from the UN’s 2009 report “Rethinking Poverty” is an impressive understatement of a powerful fact. To understand an individual’s locality is to understand why that person lives, and could continue to live, in a state of poverty.
More than a locality’s wealth, tax policies, or business environment, infrastructure is what makes the difference. Quality infrastructure — from transportation (airports, transit, heavy rail) to social (education, housing, health care, sanitation) to digital (broadband) — doesn’t only elevate residents’ quality of life, it creates and supports the services that catalyze capital investment and expand the taxpayer base. And in addition to reversing the poverty of today, infrastructure investment has the potential to stave off the poverty of the future — a critical lesson given the prospect that the most economically vulnerable areas of the world could experience a “lost decade” due to the Covid-19 pandemic according to the World Bank’s Global Economic Prospects report.
Consider that between 1990 and 2009, coinciding with the greatest reduction of poverty in human history, the global population living in urban slum households fell from 47% to 33%. During that same period, three nations that would emerge from the poorest to the middle-income wealthiest economies — China, India and Brazil — saw their urban slum populations reduced from 44% to 25%, 55% to 24%, and 37% to 22% respectively. A dramatic expansion in urban infrastructure — from improving water access and sanitation facilities, to providing durable housing and sufficient living space, to ensuring reliable electricity to name a few benefits — was the driving force behind these reductions that benefitted tens to hundreds of millions of people.
This is precisely why recent private investment trends have been so disturbing. According to the Global Infrastructure Hub, only $6 billion of private infrastructure investment went to the world’s poorest countries between 2010 and 2019 — that’s less than 1% of the total USD $1.1 trillion invested during that period. This remarkable dearth of financing took place during a historic period of loose monetary policy, in which central banks flooded global markets with liquidity. Because financial capital leapfrogged the poorest markets with the greatest development needs, the prospect of delivering sustainable development leapfrogged these markets as well.
One critical reason for this lack of investment involves the gap between commercial data and private sector decision-making. Admittedly, there are real investment challenges given these countries’ lack of deep capital markets, the difficulty of doing business, and lack of strong rule of law. But data clearly shows that the 10-year default rate for infrastructure investment in Africa is less than 2%, with social infrastructure for Africa historically showcasing the lowest default and highest recovery rates. Yet, in an era when the flooding of liquidity in global capital markets has increased investors’ threshold for risk (hence the rise of the term “stupid money”), investment in promising infrastructure investments in low-income markets has been a clear outlier.
Another issue is currency risk. Most infrastructure investments in low-income countries are entirely denominated in foreign currencies, not local currencies, which means borrowers are subjected to foreign exchange risks triggered by currency fluctuations. Additionally, local governments often have to request permission from their national governments to borrow in foreign currency, which can prove challenging even for the municipalities with strong balance sheets.
Finally, local governments in the world’s poorest countries often lack the capability to borrow in capital markets. The reasons are myriad: Localities’ credit profiles are determined by the debt of national governments regardless of their fiscal standing — one reason why the World Bank states that only 20% of the 500 largest cities in developing countries are investment-grade — and many localities are denied the legal authority to issue debt, levy taxes or be liable for debts. As a result, national governments emerge as the borrowers of choice, which means local infrastructure projects compete with national priorities, including defense, for essential financing.
Combating poverty in the world’s low-income and least developed markets will, of course, require public sector action, namely from central governments, who must empower local governments to access capital markets. They should extend regulatory authority to borrow, tax authority to garner municipal revenues for debt repayment, and legal liability of debt to increase investor confidence. Localities should also be able to borrow in local currency without central government authorization, which will allow investors who can hedge their currency exposure to access the pool of investments to finance opportunities in developing countries directly.
But more than public sector action, we need innovation that incentivizes investors to direct capital towards promising infrastructure projects in low-income countries. This includes innovative finance methods and tools to strengthen synergies between major global capital markets and concessional finance actors like development finance institutions, multilateral organizations, and OECD governments. Developed countries can leverage blended finance instruments to ensure that their overseas development assistance (ODA) can be used as concessional first loss capital to entice the private sector to finance infrastructure projects.
Just as importantly, we need data innovation, beyond the data regarding commercial viability of projects. It is well past time for localities’ creditworthiness to be assessed on the strength of their own balance sheets. This calls for the kind of credit data that can signal to markets precisely the municipalities with strong balance sheets and, therefore, creditworthy and investment-grade. Bringing such data online would not only catalyze private investment, but it would also empower business and policy leaders to advocate for separate accounting of national debt from local debt.
UNCDF is already piloting these very innovations. Along with United Cities and Local Governments and the Global Fund for Cities Development, UNCDF has launched an international municipal investment fund to deliver private and public finance to locally-based infrastructure projects in developing and least-developed countries — with a target capitalization of EU 350 million at first closing. Additionally, we conducted credit tests of several municipalities and found that seven localities (three in Bangladesh and four in Nepal) were investment grade. Once we were able to present this to the government of Bangladesh, we were able to agree on piloting a credit program with those municipalities.
We hope our fund and credit data innovations will not only deliver financing to infrastructure projects in low-income areas, we also hope it will prove the investability of similar projects, spurring the rise of new funds and instruments as well as a greater unlocking of private finance for infrastructure projects that can deliver from the standpoint of commerce and development.
All poverty is local. But all prosperity is local as well. The path to prosperity is only as sound as the infrastructure it is built upon. It is time for private investment, and the global financial system, to demonstrate this fact.