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Published on: 19/11/2024

The third informal finance discussion of the One For All alliance was on banking. Particularly the role of national Public Development Banks (PDBs) in the sector and their untapped potential.

What are Public Development Banks?

In 2021, IRC did a study for the Agence Française de Développement (AFD) with the very long title: "The role of National Public Development Banks in financing the water and sanitation SDG 6, the water-related goals of the Paris Agreement and biodiversity protection". The study provided an extensive academic literature review, interviews and several case studies from PDBs around the World.

PDBs are banks located within the public sphere either by mandate (what they must do), ownership (who owns the bank) or governance (who makes the decisions in the bank). This means that even an 80% owned private bank can be a PDB because the most important criterion is what it is doing. PDBs always have a specific mandate to deliver on public policy objectives that support the economic and social development of a country or region – in some instances this includes water and sanitation.

Caption: ADB Headquarters, Flickr
Caption: Aerial view of the Asian Development Bank headquarters.

How many PDBS are there?

A research team at Peking University keeps track of all the PDBs in the world and their database is publicly available. In the 2024 third quarter update, they identified 536 PDBs, of which 340 operate at national level, 200 are small and 158  are micro-sized. Their total overall financing reached a staggering $22 trillion in 2022. It’s still unknown how many of them invest in water.

What do they do in the water sector?

Because of their public mandate, national PDBs can play an important role in financing water and sanitation services. There is historic evidence that in many European and Asian countries, PDBs were instrumental in reaching universal access. PDBs carry out their mandate in the water sector by providing credit to local governments or utilities for infrastructure development, many of which also structure project finance and finance project preparation through a combination of grants, technical assistance and repayable finance if the project preparation leads to a bankable project.

Only a few PDBs, and these are some of the largest, work upstream, influencing sector reforms for improving regulatory frameworks, channelling central government transfers to local governments and utilities, or administering dedicated trust funds for the water sector.

Our study for the Agence Française de Développement concluded that PDBs are underused in the sector, whilst having high potential to raise cheaper finance in local currency for long-term loans. One of the reasons is that PDBs in many countries do not have a specific mandate in the sector. But there are more details to this story, and this is what this blog is about.

Why are PDBs not investing more in the water sector?

The main constraint for PDBs has not been the availability of funds but a lack of demand from the water sector. Many governments, utilities, and service providers do not have PDBs on their “radar”, even if PDBs provide cheaper and long-term finance, free of currency risks.

There are also perceived and real risks on the supply side. Yet, there are an increasing number of de-risking mechanisms made available to PDBs, such as guarantees, that can mitigate these risks and make it more appealing for PDBs to explore the water sector.

From the water sector side, those responsible for capital investments – whether water ministries, local governments or utilities - have relied historically on central government transfers rather than repayable finance. In many countries, ministries with the responsibility for water often do not play a central role in financing. Instead, local governments or utilities are responsible for obtaining funding for investments, and often do so through other means than directly accessing repayable finance. For example, they use local government grants mobilised through taxes, or only the revenue from tariffs.

Where countries access (concessional) loans from, for example, multilateral development banks, they often pass these on as grants to utilities or local government. In Cambodia, the water sector has access to loans from the central government at an interest rate of less than 1%, so they don’t see the need to access finance from a PDB.

In some cases, mandates or their interpretation are a constraint. In Rwanda, the Development Bank of Rwanda (BRD) has been more focused on sectors like agriculture and housing, but in theory they could also provide loans to water investments. In fact, they have been financing water-related investments, where these are integral to the development of housing estates, like internal piping or wastewater treatment. But for standalone water projects, funding is limited, as it is not an explicit mandate, but also because water sector utilities cannot easily access loans.

And then there are sectors like energy and agriculture that often attract more PDB attention because they have clearer frameworks, mandates and returns on investment. They are also more widely seen as sectors necessary for national economic development. In contrast, water and sanitation-related projects often lack the same political and financial clarity.

Can we get PDBs to invest more in the water sector?

Indeed, we can. Three PDBs – the large bilateral financial institution Agence Française de Développement in France, the national bank Banobras in Mexico and CAF,  the Development Bank of Latin America and the Caribbean - established the Water Finance Coalition following the Finance in Common Summit in 2021. This platform brings together international and domestic public development banks and international financial institutions to bridge the financing gap for water and sanitation services, with the broader goal of achieving SDG 6, the Paris Agreement, and enhancing biodiversity protection. The coalition meets quarterly, it has about 70 member institutions and is still growing. It shares knowledge and best practices among the PDBs and at international events.

In 2023, the Coalition started to provide targeted, very short, technical assistance (TA) to PDBs. This consisted of developing a SWOT analysis and supporting the development of a road map to overcome the supply and demand challenges and increase their portfolios in water-related projects. The objectives of the TA can be adapted to each PDB, it can focus for instance on specific areas such as exploring opportunities for a revolving fund (Vietnam Development Bank) or operationalising a recent water strategy (BOAD - West African Development Bank).

In Ethiopia, both the Ministry of Water and the Development Bank of Ethiopia (DBE) were unaware of the potential role DBE could play in financing water projects. There was a knowledge gap on both sides that began to be addressed during the analysis of options for the country finance strategy.

The PDBs involved in the Water Finance Coalition’s technical assistance have so far found this a useful process to raise internal awareness within the banks for the water and sanitation challenges and to understand the financial needs for different segments of the market. It has helped articulate internal discussions and build a shared vision of what a water portfolio could look like.

PDB engagement with utilities to support project preparation

For all the reasons illustrated above, the relationship between PDBs and utilities seems to be more dynamic than with ministries. Many utilities finance large projects through direct loans from international PDBs like the World Bank or the African Development Bank.

In order to further unlock the potential of national PDBs in the water sector, there is also a need to support utilities (as the ones who would ultimately take loans from PDBs) in project preparation. Utilities often lack the resources to conduct feasibility studies or prepare projects for funding, which is where technical assistance is essential. In Latin America, regional development banks collaborate with national development banks to reach smaller, local utilities. This partnership allows PDBs to target a wider range of projects, including those in smaller municipalities.

Project preparation funds, often grant-funded, are highlighted as a key tool for enabling utilities to access financing. A few PDBs, for instance the very large Banco do Nordeste do Brasil, have project preparation departments (Fábrica de Projectos) that pool  both internal and external grant funds to support municipalities and utilities with technical assistance, helping them to prepare projects for loan acquisition. These pre-feasibility and feasibility studies are costly and require specific skills that many banks need to develop.

Opportunities moving forward?

A first point to consider is with whom to engage to access additional finance: local governments and utilities? Ministries in charge of water and sanitation? Ministries of Finance? Or PDBs? We would argue with all, but in different ways.

Local governments and local utilities are key players in scaling water and sanitation investments through PDBs, but they need support in project preparation and becoming financially more sustainable, so that they can actually take on loans. Yet, we spend a lot of time and effort in involving ministries in charge of water to advocate for more financing of the sector. While this is important for targeting very poor areas, for instance through budget allocations, we need to put some of our attention elsewhere.

Ministries of Water also need to understand the potential role of PDBs in the sector – as was done through the sector finance strategies  developed in countries such as Ethiopia, Rwanda and Honduras (see here the blog on finance strategies).

What about Ministries of Finance? Technically they are part of the Boards of PDBs, and they do have influence in defining priorities and mandates and should advocate for having a clear mandate for financing water-related investments.

While PDBs are still building their internal skills to work in the sector, there are many organisations that are already playing an intermediary role. For instance, the One For All Alliance is testing and supporting the professionalisation of service delivery in rural areas with different service models that have the potential for scalability and could be attractive to PDBs in some countries. Other areas which are interesting for PDBs are market scans in the sector. For instance: What is the sanitation chain? What markets already exist and don’t exist? What is their size? What is the potential for growth? Are there regulations or policies hampering their development?

These intermediaries or “aggregator” roles need to be fully recognised to interface between finance and the water sector, as their insights are valuable in aligning PDBs with water investment opportunities.

Disclaimer

At IRC we have strong opinions and we value honest and frank discussion, so you won't be surprised to hear that not all the opinions on this site represent our official policy.

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