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02 Dec 21

Network Voices: Insights from IFC’s Blended Concessional Finance Program

Network Voices: Insights from IFC’s Blended Concessional Finance Program

Network Voices is a series where Convergence amplifies blended finance opinions and activities from our network - this interview was originally published in our State of Blended Finance 2021 report.

Interview with Kruskaia Sierra-Escalante, Senior Manager, Blended Finance, IFC

From IFC’s perspective, how can DFIs leverage limited concessional financing efficiently to achieve scale?

First, it’s important to look back at how blended finance activity has scaled since the early 2000s. Five to 10 years ago, when we had a strong year in blended finance at IFC, we were doing around $100 million per year. In the last couple of years, we’ve been doing around $500 million – this year we reached over $700 million.

Overall, there will always be a limited amount of concessional financing because the challenges we are grappling with are so large. For example, IFC conducted a deep dive into the blended finance needs for climate change, finding that we’re short by around $900 million to be able to achieve our goals and ambitions in the next five years.

But how we can stretch the amounts we have? There are several strategies we can do to achieve this:

Firstly, we need to have the right mix of products. As an example, first-loss guarantees can stretch relatively small amounts of concessional financing quite effectively to support a larger portfolio. We’ve done this in our response to the COVID-19 pandemic through the Working Capital Solutions (WCS) Program. Here, we used $250 million of the International Development Association Private Sector window (IDA PSW) to be able to support over $860 million of IFC’s portfolio to provide working capital to many firms that needed quick solutions.

Another product that has a lot of promise in stretching donor financing is performance-based incentives. These are used to help incentivize a change in behaviour. These differ from what we call participation constraints – when you are supporting de-risking through blended finance products like first loss guarantees, subordinate debt, or equity solutions. For example, we have extended performance-based incentives to support more financing to women entrepreneurs through the Women Entrepreneurs Finance Initiative (We-Fi).

Traditionally, blended finance has worked by reducing interest rates. This works well in more mature markets, but we need more solutions and de-risking for difficult markets.

However, the available instruments also depend on donors and conditions of their funding. For example, with grant funding we can do performance-based incentives and first-loss financing. When donors have return expectations, the ability to take significant risk and the leverage potential are more limited.

At the end of the day blended finance must be used efficiently to avoid crowding out private investment. This means when blended finance is being used in mature markets, there should be a bigger focus on bringing in additional partners, and less need for concessional finance. On the other hand, when working in difficult markets, there is a significantly higher need for concessionality – at least at the start. Our leverage numbers also show this: For each dollar of donor funding in climate finance, which is mostly focused on middle-income countries, $3 of IFC money is catalyzed, and $7-8 of third-party capital. Meanwhile for projects in IDA countries, there is less capital mobilized, including from IFC and others ($1.5 to $2 of each), as there is a lower quantum of risk capital available and willing to tag along.

What can donors do to support MDBs in using blended finance more efficiently?

Donors need to provide clarity on the key objectives of their financing for blended finance. If the focus is on too many impact objectives, this is harder to achieve.

We also need clarity on return expectations. If a donor wants high impact alongside returns, there will be trade-offs. If the most important thing is to achieve impact, and we can use any instrument and a lot of risk, that allows us to support projects in more difficult contexts.

Meanwhile if the emphasis is on reporting and evaluating programs, we need the resources to do so.

What are the benefits of deploying blended concessional financing using a programmatic or platform approach (as opposed to a project-by-project basis)?

There are two main advantages of using a programmatic approach: i) efficiency, and ii) transparency.

  1. Efficiency as it relates to processing the underlying deals under the program, but more importantly, efficiency in structuring a solution to the identified market failure that can then help us calibrate the minimum concessionality.
  2. Transparency, including disclosing the type and level of concessionality, and the instruments we are using.

We also think about replication; if the platform works well, IFC and others can replicate it. For example, IFC’s Small Loan Guarantee Program helps financial institutions reach more SMEs in low-income countries. Through a pooled first-loss structure provided by the IDA Private Sector Window Blended Finance Facility, IFC shares 50% of SME portfolio risk with local financial institutions for an IFC risk amount of up to a specified level.

Finally, “platform” doesn’t always just mean aggregating concessional financing (for example, through first-loss capital), or necessarily establishing a separate fund. It can also mean bundling transactions together (e.g., smaller climate-smart deals) and structuring a solution to the identified market challenge.

From IFC’s perspective, how can DFIs ensure the mobilization of third-party capital, in addition to mobilizing their own resources into more challenging sectors and markets?

Third-party capital from the private sector at scale will tend to flow to the mature sectors where they feel more comfortable, like infrastructure assets. Sectors like health, education, and agriculture are still too nascent for most institutional investors to feel truly comfortable.

In addition, we must look at bringing in local banks and take advantage of local capital markets. It’s important to remember the role these local institutions can play and their greater comfort in investing in segments and locations that foreign institutional investors would avoid.

__Convergence observes that there is a need for greater transparency in blended finance transactions. Given IFC’s progress in this space, can you comment on IFC’s work in this regard? __

We are the only DFI that discloses subsidy levels at the transaction level. We started in 2019, and we encourage other DFIs to do the same. In addition to transparent disclosure, more of our programs are using an open approach to bringing in new IFC clients to deliver more impact. At the same time, we need to be mindful that some information is sensitive on a deal-by-deal basis (e.g., pricing and returns) and private sector clients expect that commercially sensitive information is not disclosed. It is a balancing act.