NDF - Financing for climate change and development projects

Development Today: "NDF and the case for niche development funds"

Photo: GMS Environment Operations Center/Stephen Griffiths
20.11.2013

In his article in the latest Development Today, Robert Wihtol discusses the role of niche development funds, with particular attention to NDF

The following article (DT 14-15/2013) is reprinted with permission from Robert Wihtol and Development Today magazine. The original article can be read from www.development-today.com

The Nordic countries are at a crossroads as they consider whether to replenish the Nordic Development Fund. Robert Wihtol argues that NDF has a strong track record and is a vehicle for promoting Nordic values.

The global development community has long debated the relative virtues of concentrating or diversifying development finance. Proponents of concentration argue that having just a few large international development banks and funds provides economies of scale, critical mass, and the centralization of technical knowledge and expertise.

Proponents of diversification, again, point to the shortcomings of monopolies or oligopolies. They note that concentration stifles competition, distorts prices, leaves gaps in coverage, and does not stimulate innovation. Large institutions cannot specialize in everything. A variety of development finance institutions are needed. Alongside large banks and funds, the proponents of diversification argue, there is a need for specialized niche funds.

Bank landscape

Modern-day development finance has its roots in the end of the Second World War. The Bretton Woods institutions – the World Bank group and the International Monetary Fund – were established in 1944 to finance post-war reconstruction and stabilize the world economy. Once Europe and Japan were rebuilt, they shifted their focus to developing countries.

In the 1950s-1960s regional banks emerged to complement the role of the World Bank. The European Investment Bank was established in 1958 to support European integration, the Inter-American Development Bank was set up in 1959, the African Development Bank in 1964 and the Asian Development Bank in 1966. Each was intended to address the specific development needs of its region. The European Bank for Reconstruction and Development was established in 1990 to finance the transition of east and central Europe to a market economy.

More recently, sub-regional banks and specialized vertical funds have emerged to meet specific needs. Under the leadership of Saudi Arabia, the Islamic Development Bank was founded in 1973. The Andean countries in Latin America, and the Caribbean and Black Sea countries have also set up their own development banks. The Nordic countries have established their own Investment Bank and the affiliated Nordic Development Fund (NDF).

Major vertical funds include the International Fund for Agricultural Development (IFAD), which was established in the wake of the 1970s food crisis, the Global Environment Facility (GEF), founded in 1991, and the Global Fund to Fight AIDS, Tuberculosis and Malaria, established in 2002. Some vertical funds have been entrusted to the World Bank for administration, while others have their own governance structures.

Most recently, the five BRICS countries, Brazil, Russia, India, China and South Africa, have unveiled plans to establish their own development bank. The initiative reflects the developing world’s growing dissatisfaction with the Bretton Woods institutions, in which the Western countries dominate. Developing countries are pushing hard for change in the international architecture for development finance. Private corporations and the non-government sector have also in recent years rapidly expanded their funding for development initiatives.

Plethora of institutions

The abundance of development banks and funds reflects the current strong commitment of governments, private firms and civil society to address development issues. However, the plethora of institutions with varying mandates, legal requirements and financing procedures strains overstretched recipient governments. The effectiveness of the banks and funds also varies considerably, making it difficult for donor governments to know how to allocate their funds most effectively.

Some donors prefer to channel funds through the World Bank and other major development banks. Others see value in the creative energy generated by diversification. Niche funds can be innovative and nimble. Key criteria that donors should be looking for include client-orientation, innovation, focus, and effectiveness in delivering results.

NDF at crossroads

The NDF is a case in point. The five Nordic countries established the NDF in 1989 as part of an effort to strengthen their cooperation in development cooperation. The specific purpose of the NDF was to promote economic and social development in poor countries by providing concessional financing for projects of interest to the Nordic countries.

Initially the NDF provided credits for a range of infrastructure and social development projects, mainly in cooperation with the World Bank and regional banks. The NDF relied on its partners to prepare and implement projects, and wielded influence mainly through its selection of projects. Following a comprehensive review of the NDF’s role, in 2009 the Nordic countries gave it a new and more focused mandate, to provide grant financing for projects addressing climate change.

For the past three and a half years, with a staff of 12-13 and annual grant approvals of about EUR 40 million, the NDF has implemented its new mandate effectively. An independent evaluation published in 2012 was highly positive and indicated that the fund had successfully reinvented itself.

The Nordic countries are once again at a crossroads, as they consider whether to replenish the NDF, and to strengthen and review its priorities. Even with additional funding it is likely that the NDF would initially maintain its focus on climate change. However, with a strengthened financing base it might consider making a cautious start in providing concessional loans alongside current grant aid. After all, the NDF is an international financial institution. In the longer term, a stronger financial base could allow the NDF to expand into other areas that are consistent with Nordic priorities.

Nordic Values

There are five reasons why this niche fund should be strengthened.

First, the NDF has a strong track record. Its financing partners find it quick and effective. A recent independent evaluation gave it top ranking in a comparison of development agencies. The large multilateral development banks hold the NDF in high regard, which is no mean feat. The NDF is considered more nimble and efficient as a partner than larger funds such as the GEF.

Second, the NDF is client-friendly. By focusing on cofinancing, it works through the established procedures of its partners and does not burden recipient countries with new legal requirements or procedures.

Third, the NDF provides a vehicle for the Nordic countries to promote their own values and development policies. The policy-level debate at the World Bank and regional banks is loud, and the Nordic countries’ voice is easily lost. The NDF provides a complementary tool to work with these banks directly at the project level.

The availability of additional grant financing from the NDF provides a powerful incentive for the staff of larger development banks to take Nordic priorities into consideration. The independent evaluation concluded that the NDF was effective in attracting additional financing and promoting Nordic values.

These generally “progressive” values include promoting equality, narrowing gaps in the distribution of incomes and assets, and focusing on the most vulnerable groups in society. Nordic values get top priority in all NDF projects, which is not necessarily true of other climate funds.

Assistance provided by the NDF is untied, but also offers an avenue to link Nordic expertise to development work. Nordic experts can play a key role in sharing technical knowledge and building capacities in recipient countries. At the same time, they gain experience and develop their own skills.

Fourth, the NDF has a highly innovative project portfolio. This is rare in development finance and should not be underestimated. Stringent criteria ensure that NDF projects genuinely address climate change and are not simply “old wine in new bottles”. In Latin America, the NDF has developed an innovative credit guarantee tool to enhance energy efficiency which it is now looking to emulate in Africa and Asia.

Finally, the NDF is an important addition to the Nordic toolbox. The international development finance architecture is constantly changing. As the number of banks and funds has increased, so has the importance of cofinancing. The NDF provides the Nordic countries with their own vehicle to respond to such change, and to influence development issues directly.

 

Robert Wihtol
Independent specialist in development banking with 20 years at the Asian Development Bank, including as Director General for East Asia.