Speakers:

Stephen Pickford, Director of International Finance at Her Majesty's Treasury

Chair:

Simon Maxwell, ODI

1. Simon Maxwell opened the seminar by outlining the points to be discussed: The case for increased aid, how the International Finance Facility (IFF) would work and what the pros and cons of this 'private finance initiative' model might be.
   
2. Stephen Pickford made a presentation, and referred to background documents available of the Treasury website. He started off by giving some background details. He said that the IFF was first mooted as a way of providing the finance deemed necessary by the Zedillo Commission to meet the Millennium Development Goals. The Chancellor viewed the IFF as part of a global compact that included sound, stable policies, the involvement of the private sector and an increase in aid.
   
3. Stephen Pickford said that the possibility that developing countries would be unable to cope with absorbing such a large increase of aid was not an insurmountable problem. To support this, he pointed to the example of Uganda and to World Bank analysis of developing countries' aid absorption capacities. He cited the importance of more effective aid provision and highlighted related issues on the Treasury's agenda: more predictable long term provision of aid, improved targeting of aid, untying of aid, streamlining of conditionality to support country-owned PRSs.
   
4. He moved on to outline how the IFF would function: It would frontload resources to provide them as soon as possible, since we were running out of time to meet the MDGs by 2015. It was not a new disbursement mechanism or competing bureaucracy, but a facility that raised money. It relied on donors' commitment of streams of annual payments to the Facility. These long-term commitments would be the primary source of the IFF's income. The IFF could then issue bonds on the basis of these commitments. The funds raised by donor commitments and by market borrowing could be quickly disbursed through existing mechanisms, in the form of grants rather than loans.
   
5. The long-term stream of commitments would be legally binding, in order to provide security for investors to lend against. They would be subject to high level financing conditions and recipient countries would have to remain current with the IFF i.e. not go into 'prolonged arrears'. The decision to cut off funding to a country that failed to meet these conditions would be made by its donor country. Financing costs would be as low as possible. Facility bonds would be AAA rated.
   
6. He presented two graphs to show how the financing streams would work. The first option would see a stream of payments committed each year. The second, more realistic option would be a phased stream of annual payments in line with donor countries' GDP. This would allow income to the Facility to build up over time.
   
7. Stephen Pickford moved on to talk about how they saw grants being disbursed. Some overarching principles would have to be met before funds from the IFF were disbursed: funds would have to be targeted at low-income countries, used for poverty reduction, untied. Funds would also have to be used to support countries' poverty reductions strategies and the MDGs, meaning that much of the funding would be directed towards education and health. Money could also be used to fund additional debt relief.
   
8. He then gave a summary of reasons why the Treasury believed the IFF was worth pursuing: it was one of the only concrete proposals around that would deliver the necessary increase in aid to meet the MDGs, it was a way of crystallizing the political commitments made by donors, it provided a stable, predictable source of aid that enabled donor countries to factor aid into their budget planning, it allowed a critical mass of finance to be used simultaneously for a range of projects and it allowed an improvement in coordination between donors
   
9. He then gave a view of where they currently stood in implementing the proposal. He said that discussions had taken place at the G7 meetings of finance ministers in February and April. Support from NGOs and business has been sought. Treasury and DFID officials had visited G8 finance ministries to discuss technical details. The proposal was on the agenda at the G8 meeting in Evian next month.
   
10. Having concluded his presentation, he was asked by Simon Maxwell what he saw as the risks of the IFF proposal. He said that there were risks at different levels; the greatest risk he could see was not achieving the MDGs. He added that providing a lot of additional aid and not achieving the MDGs would be a problem, that this was why they were trying to ensure that aid would be used more effectively.
    
11. Comments and questions focused on three main areas: Aid Absorption and Effectiveness; Governance; and Funding.
    
12. On aid absorption and effectiveness, there was general support for the idea of more aid, though some caveats were noted. For example, the statistical literature sometimes showed that there were declining marginal returns to aid, and also some risk of Dutch disease, especially where the majority of aid was used to fund social services and health and education. There was also a risk that aid would be concentrated on relatively few countries that satisfied donor requirements, and that the great need for additional aid in other countries, for example those in conflict or post-conflict situations would not be met.
    
13. Stephen Pickford and Rachel Turner replied to these points. It followed that careful attention was needed to the use of additional aid, for example in support of results-based public expenditure management systems in developing countries. The issue of governance and corruption was also important.
    
14. On Governance and the IFF, a number of questions were asked, and it was clear that many details still needed to be worked out. The Treasury and DFID were clear that existing disbursement mechanism should be used. However, new funding would have little impact if the institutions that processed it did not do so effectively, and there were questions about whether existing agencies would be able to channel such a large increase in aid effectively. More seriously, it was not clear how the money would be disbursed, who would decide, how a choice would be made between the different disbursement channels and what were the associated transactions costs? Would civil society in developing countries have a role in deciding how aid would be distributed?
    
15. Stephen Pickford and Rachel Turner said that details still need to be worked out about location, overheads and the decision-making process on aid allocations. The governance structure would probably be light: the IFF itself would not scrutinize individual proposals from recipient countries, existing agencies would still handle this e.g. some aid would go through DFID, some would go through the World Bank. They thought that some of these were 'second-order' questions, though not all participants agreed. One pointed, for example, to problems associated with the Global Environment Facility as an example of why governance needed to be clarified early in the process.
    
16. On the financing proposals, questions were asked about tradeoffs between repayments and future aid flows: how would the proposal affect aid donations after 2015? Would the poverty that existed after 2015 be more difficult to tackle? What proportion of the UK's aid spending after 2015 would go towards repayment? How could the AAA bond ratings be reconciled with the taking on of emerging market risk associated with recipient countries? Why could countries wanting to increase aid not issue their own bonds?
    
17. Again, there was work to do on some of these issues. Stephen Pickford and Rachel Turner emphasised that accessing bond markets was a valuable way to increase the flow of aid to developing countries, and that it was consistent with the use of financial markets to manage time-preference. It was expected that 80% of the net present value of committed future funds could be securitised (i.e. borrowed through bonds). They thought there was a good case for IFF rather than country-level bonds, because a joint programme that bound countries together was more credible. Donors would be jointly responsible for commitments - however, they did not think the UK would have to make good on another donor's flows if that donor broke its (legally binding) commitment. Finally, they emphasised that the IFF should not be seen as mortgaging the future, but creating a positive dynamic in the debate about aid and government's commitment to it.