Background Briefing

Q&As ON IDA AND NEGOTIATIONS TO THE 13th REPLENISMENT ROUND

General

1. What is IDA?

The International Development Association (IDA) is the concessional lending arm of the World Bank. It disburses zero interest rate loans, known as IDA credits, to the poorest countries. These loans are repayable over 40 years with a 10-year grace period before repayments begin. 

2. How much money does IDA lend? 

Lending is around $6-7bn a year and has totalled $107bn since 1960. In the last financial year the largest borrowers were Ethiopia ($667m), Vietnam ($629m) and India ($520m). Africa accounted for half of all borrowing and South Asia 18%. Approximately 1/3rd of all lending was directed to human development, 14% to agriculture and the environment and a further 14% to infrastructure.

3. How is IDA financed?

IDA financing comes from three sources: internal income such as principle repayments and service charges; a portion of IBRD profits which are distributed to IDA each year and new funding from donors known as replenishments. Replenishments currently make up the largest share of IDA income at around 55% but repayments, or reflows are making an increasing contribution. They represented 40% of financing over the last two financial years, which is expected to rise to 55% over the next twenty years. 

IDA replenishment rounds are held every three years. In the last round, known as IDA 12, contributions totalled $20.4bn over three years. Of this sum the UK contributed SDR630m, or 7.3% of the total, the EU as a whole 41.1%. For the current round of replenishments, IDA 13 the UK has offered to double its contribution to the equivalent of £1bn, raising its share of total financing to 11.3%, dependant on a satisfactory outcome on negotiations over grants.

4. Why do we need to put more money into IDA?

IDA has been designed in such a way that its financial viability depends on the repayments of its loans. Partly due to the long grace period of IDA credits repayments take time to feed back into IDA’s financial base and so regular top ups are required. The total replenishment target for IDA 13 is 16% higher than for IDA 12. This increase also takes into consideration: the effect of inflation; enhanced support for HIV/AIDS interventions; and re-engagement of the Democratic Republic of Congo and Afghanistan. IDA’s growth also reflects increasing demand and confidence from donors in its effectiveness.

IDA Grants

5. What is the proposal to introduce grant credits for IDA?

Note: the exact US position is changing regularly as negotiations progress. Make sure this is up to date

The US is pushing for a significant share of IDA credits to take the form of grants not loans. The US has proposed that 50% of IDA’s future programmes in IDA-only countries (40% of IDA’s total resources) should take the form of grants rather than concessional loans. They argue that grants rather than loans are appropriate for the poorest countries, for financing health, education and other social investments. 

There is some indication (not made in public) that the US would be prepared to go below 40%, for example 50% of all financing as grants to countries with GNI/capita below $365 which would give about 22% overall. Or to provide 50% of all social sector financing as grants, which would deliver some 16.4% of IDA.

6. What is the UK position?

We do not agree, but do believe that there are instances where IDA cannot lend; therefore there is a legitimate case for grants (amounting to some 5% of IDA).

7. Where does the UK think that grants are appropriate?

The UK is in favour of grants to post-conflict countries, assistance for communicable diseases and after countries have suffered natural disasters.

8. Why is the UK in favour of grants in cases of post conflict countries/communicable diseases/natural disasters?

There are cases where standard IDA support is not appropriate. Post conflict countries tend to be extremely poor with large financing requirements. Evidence shows they often fall back into conflict within a short period of time. In these cases, as for natural disaster assistance, investment appraisal is not the appropriate measure for assistance.

In the case of communicable diseases there is a risk that countries may under-fund prevention or treatment. This is because some of the negative consequences spill over into neighbouring countries so are not internalised by local decision makers. 

Both these cases provide a rationale for grant based assistance but care should be taken to ensure that IDA is not acting in competition with other agencies with more expertise in these areas. IDA is a development institution and should avoid duplicating the work of the humanitarian agencies.

9. Is the UK against grants in general?

No. Grants are the core component of the UK’s concessional development assistance. This is also true of the UN (where grants equal 100% of concessional assistance), the EU (80%) and the other bilaterals (approximately 75%). The UK’s position is that there are instances where grants are appropriate and others where loans are appropriate. IDA’s highly concessional loans serve a specific and complimentary role within the development finance architecture and IDA’s expertise in performance based lending should be preserved.

10. How much will the conversion to grants cost IDA?

The $800m figure frequently quoted by the US as the cost of converting 40% of total IDA resources into grants grossly under estimates the full financial impact of this shift, because it only considers the first 20 years on a cash flow basis. IDA loan repayments are back-loaded, with most repayments only occurring after 20 years. The real cost in present value terms of providing 40 percent grants in IDA13 amounts to $3.7 billion. If IDA were to continue to provide 40 percent grants after IDA13, IDA would lose over $100 billion cumulatively over the next 40 years. For every $65 of grant finance, IDA could provide $100 of concessional loans for investments in education, health or HIV/AIDS programmes.

11. Does the 16% increase in IDA account for the cost of changing to grants?

No. The 16% increase in replenishments from all countries from IDA 12 is needed to compensate for the reasons in Q.4. To pay for the move to the US proposal on grants the increase would need to be 49%. Furthermore, if this sum is not met at the time the grants are issued then it will be higher in future years. This increase is not being met by the US itself who have only offered an 18% increase in their own replenishment.

This scenario only considers loans in IDA 13, not thereafter. Whereas IDA would become increasingly self sufficient under the existing loan based programme a move to grant credits will entail replenishment increases of this magnitude in the future. This would increase its reliance on donors, heightening its vulnerability to changes in political sentiment and undermining its credibility as a multilateral institution. 

12. Is the UK resisting a move to grants because it doesn’t want to pay for them?

No. The Secretary of State for International Development has offered to double the UK contribution to £1bn, subject to a satisfactory outcome on grants. This underlines our commitment to IDA’s multilateral approach to development finance. The UK is against grants being administered by IDA on a large scale for other reasons. These include:

• Grants will seriously undermine IDA’s future financial viability. Reflows account for a large, and rising, share of IDA’s resource base. Jeopardising this source of future funds will jeopardise IDA’s ability to help poor countries in the future.
   
• DfID believes that for aid to be most effective the various institutions, domestic, regional and multilateral, should all play to their own strengths and keep overlap to a minimum. There are already institutions that focus on grant based aid such as those that make up the UN (WHO, UNDP etc) and bilateral agencies, such as ourselves. These are more appropriate vehicles for administering grants. However, grants and loans do play a complimentary role and it is here that IDA can best serve developing counties financing needs through the provision of concessional, but investment appraised, loan based credits.
   
• IDA loans are only a small share of the potential financing available to developing countries: IDA’s concessional loans can allow countries to build up credibility as responsible borrowers, allowing them to progress on to larger financing available through the IBRD and private capital. Countries such as South Korea and China have already successfully used IDA loans as a bridge to these sources of financing.

13. Can poor countries afford loans?

Of course not all countries can service market rate loans. This is why IDA was set up: the loans it offers are on highly concessional terms, with a 10-year grace period, repayments over the next 30 years, no interest, and only a small service charge of less than 1%. In net present value terms, IDA’s loans are at least 2/3 grants. Those that want IDA grants claim that the loans are never repaid. In fact, IDA has a very low default rate (less than 5%). When countries experience problems repaying their debts, this is usually for a mixture of reasons including external shocks (e.g. a serious decline in commodity prices or a natural disaster) or poor governance. We need a clear, coherent approach to these problems, but shifting IDA to grants is not the solution.

14. What is wrong with grants for some sectors but not others?

By proposing grants for particular sectors the US is seeking to influence how countries choose. There are several reasons not to do this:

• Instead of dictating priorities, donors should be encouraging developing countries to set their public expenditure priorities through national consultation processes. This has been the intention of the Poverty Reduction Strategy Paper (PRSP) framework based on the evidence of increased country ownership in programmes and projects leading to more effective aid,
    
• Even if it was desirable to support some interventions over others, it is likely that borrowers would simply redirect resources intended for, say, education into other types of spending: grant assistance would be ‘fungible’,
    
• It is not the case that returns to health and education are systematically lower than other sectors. The returns will be country specific and in many cases will be higher. They may be long term, but so are IDA credits.

15. Which countries are paying back IDA loans?

The bulk of IDA reflows are from countries that have now graduated to ‘blend’ (i.e. IDA and IBRD status) or IBRD status. That is they are sufficiently credit worthy to be able to borrow from other World Bank Group institutions and even access private capital. India and China now represent 40% of all IDA reflows. 

16. Isn’t this just an accounting issue?

No, it is not just an accounting issue. Over time the aid that is given out as grants has to be less than can be given as loans. This is not an accounting trick but simply reflects the fact that reflows will not materialise. Even if funding requirements were met in the future then it will always be possible to disburse more in loans than grants. For every $65 of grant finance, IDA could provide $100 of concessional loans for investments in education, health or HIV/AIDS programmes.

There are also institutional issues involved in the moves to grants (see questions 9, 12 & 14). These include the wider global issues of how IDA complements institutions such those that make up the UN (WHO, UNDP) and the discipline loans provide in ensuring aid is used where it is most effective.

Debt sustainability

17. Don’t more loans equal more debt? 

Of course new loans do represent new debt but this is only a small part of the picture, every country borrows for investment. Many countries that are taking new credits are already paying back older loans and so their debt stocks are falling. IDA’s performance based lending framework ensures that the returns to the projects undertaken are in excess of the repayments on the loan. 

The World Bank’s own analysis shows that the overall grant element of new external financing for HIPC countries need be 58 percent. IDA loans have an implicit grant element of around 65 percent. IDA resources are accompanied by a substantial amount of grant financing from other donors increasing the overall grant element of countries total financing even further. IDA contributes typically some 10 – 20% of total low-income country financing.

If countries have debt sustainability problems, the UK strongly believes that additional assistance for countries should be through the Heavily Indebted Poor Countries (HIPC) initiative. This is a more effective mechanism than converting new IDA loans into grants (which would only have an impact on debt servicing in 10 years time, because of the grace period). 

18. Won’t more loans undermine what was done under the Heavily Indebted Poor Countries (HIPC) framework?

No. The heavily indebted poor countries (HIPC) debt initiative is designed to reduce past debt to sustainable levels. Following HIPC debt relief, countries should take responsibility for their own debt management, including a prudent level of highly concessional borrowing. If poor countries exiting from HIPC cannot service new debt on IDA’s highly concessional terms (with their 10 year grace period, and repayment over the next 30 years) the HIPC initiative would have failed – we must ensure it succeeds.

We recognise that many HIPCs have been adversely affected by the global economic slowdown and the September 11 events. The UK strongly believes that we should consider additional assistance for such countries at HIPC Completion Point. 

19. What proposals does the US have to use grants?

One of the reasons the US is attracted to the use of grants is because money can be channelled to developing countries avoiding governments, as first set out in the Meltzer report to Congress two years ago. The US is also arguing for much tighter conditionality to be applied to grant finance. We consider that both of these arguments run against the international community's strong commitment to the Poverty Reduction Strategy process. Avoiding governments will undermine accountability and entrench some of the worst aspects of current donor behaviours in poor countries. Imposing new layers of detailed conditionality will cut through our agreement to harmonise our demands using policy commitments in Poverty Strategies as the basis for conditionality. 

Negotiations

20. How much weight does the UK carry in IDA negotiations?

Despite making a contribution of 7.3% of new financing to IDA 12 and a potential 11.3% to IDA 13 a legacy of smaller contributions reduces our cumulative share, and therefore our voting rights, to 4.97%. However, this understates the weight of influence the UK carries through coalitions with like-minded donors such as those in the EU and the Utstein group. 

21. What does the EU think of this?

There is an agreed EU position on the switch to grants within IDA. The EU wants to preserve IDA’s strength as a concessional but performance based lending institution. This could entail a grant window for a very small portion of credits in instances such as post conflict countries, this implies a grant window representing no more than 5% of IDA only assistance.

22. What does the Bank want?

The UK position echoes analysis carried out by the World Bank highlighting the comparative advantage of IDA and the strategic role it plays within the global development infrastructure. The World Bank’s President, James
Wolfensohn, has emphasised that it is additional resources that IDA and the World Bank needs and has instead called for a doubling of overseas development assistance.

March 2002

INTERNATIONAL FINANCIAL INSTITUTIONS DEPARTMENT 

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