THE ROLE OF DEVELOPMENT FINANCE INSTITUTIONS IN INFRASTRUCTURE DEVELOPMENT

THE ROLE OF DEVELOPMENT FINANCE INSTITUTIONS IN INFRASTRUCTURE DEVELOPMENT: WHAT NIGERIA CAN LEARN FROM BNDES AND THE INDIAN INFRASTRUCTURE FINANCE COMPANY

1. Nigeria is unfortunately no exception. Although we are currently investing around 7% of GDP on infrastructure, which is above the average for sub-Saharan Africa, research has shown the need to increase this figure to at least 12% of GDP. Overall, the country requires an annual investment of US$10 billion over the next ten years in order to reduce its infrastructural deficit; an amount the Nigerian government cannot solely provide.
2. To address these challenges, we need to look beyond traditional approaches, particularly with regard to financing. The scope for making investments of the required scale is severely constrained by government finances. There is a lot we can learn from other emerging economies. My keynote today will focus on two countries, India and Brazil, in an effort to see what we can gather from their approaches. But first, let me start by outlining some of the infrastructure challenges that we face in Nigeria.
3. The current level of infrastructure deficit in the country is perhaps the major constraint towards achieving the national vision of becoming one of the 20 largest economies by 2020. Approximately 70 per cent of the 193,000km of roads in the country are in a poor condition, whilst only 20 per cent are paved. According to enterprise surveys, the power outages the nation experiences amount to over 320 lost days a year, with over 60 per cent of the population lacking access to electricity. At the same time, over $13 billion is spent annually to fuel generators^[1]. A country, which once had one of the most extensive railway systems in Africa, can barely boast of a functional route either for passengers or freight today. These conditions are unacceptable and pose a significant threat to the growth of the Nigerian economy.

CHALLENGES IN INFRASTRUCTURE FINANCING

4. The sustainable growth and development of our country hinges greatly on the provision and maintenance of adequate infrastructure. The current state of infrastructure in Nigeria poses a significant problem; and the financing gap has proven to be the ‘thorn in the flesh’ of efforts to alleviate this problem. The non-availability of long-term funds, absence of risk sharing structures, lack of clarity around the governance of the PPP framework, and a dearth of expertise to assist banks and other firms engaged in infrastructure financing, are some of the challenges that are hampering development efforts.
5. In general, building infrastructure is a capital-intensive process involving large initial costs, low operating costs and long term finance given the gestation period of projects. Furthermore, infrastructure projects are often characterized by non-recourse or limited recourse financing i.e. lenders can only be repaid from the revenues generated by the projects. This results in greater market and commercial risks for the lender, who has to be prepared for a longer horizon of debt repayment. The non-recourse nature, unique risks, and complexity of arrangements also call for special appraisal skills.
6. In addition to general project risks, some infrastructure projects typically possess externalities, whereby the social returns are often greater than the private returns. This necessitates some form of subsidization, such as government guarantees or viability gap funding, in order to attract the private sector.

7. Government has traditionally been the main financier of infrastructure projects, including responsibilities for implementation, operations and maintenance. However, declining financial resources and competing priorities have made it difficult to continuously utilize the fiscal budget. Experience has shown that funding for infrastructure through budgetary allocations can be volatile and inadequate.

FINANCING OPTIONS FOR NIGERIA

8. To reiterate my earlier point, Nigeria requires over US$10bn annually over the next ten years to bridge on infrastructure gap. Foreign direct investment receipts outside the traditional oil and gas sector, and more recently telecoms, are far from significant for infrastructure financing needs. Existing sources of long-term financing such as multilateral loans, euro and/or dollar bonds, private equity and so on, are either grossly inadequate, expensive or unavailable based on the present global economic realities. Furthermore, they are usually accompanied by currency and interest rate risks. For local Deposit Money Banks, the maturity transformation risk is high based on their present funding structure which mainly consists of short-term deposits, coupled with limited skills to perform their intermediation role. It is thus critical that we identify alternative sources of low-cost long-term funding for infrastructural development, preferably in local currency so as to mitigate exchange rate risk.
9. One potential solution is the use of pension funds. Nigeria has over N2.3 trillion in Pension funds, which yield predictable streams of income in the long­term that match their typical long-term liabilities. In addition, they hedge against inflation and are less volatile. Across the world, pension funds, insurance companies and private equity are playing an increasing role in infrastructure financing. The Pensions regulator, PENCOM has performed creditably well in trying to balance safety, liquidity and maintenance of fair returns. They have recently amended the regulation on investment of Pension Fund Assets to allow for the investment in infrastructure bonds that are registered by the Securities and Exchange Commission.
10. The capital market in Nigeria also provides a variety of financing instruments that could lead to larger pools of funds. There exist numerous possibilities of raising finance through the issuance of bond instruments (Federal Government (sovereign) bonds, Government Agency bonds, Sate/Local Government bonds). The advantage of the bond market is that if offers less risky investment and regular returns, which guarantee investor patronage.
11. With the on-going debt crisis in Europe and the US, Nigeria must begin to explore financing opportunities in emerging markets in Asia and the Middle East. For example, the Dim Sum Bond Market, which is essentially bonds denominated in Chinese Yuan Renminbi (RMB) and issued in Hong Kong for foreign investors who desire exposure to RMB-denominated assets, provides a viable alternative source of funding. By issuing Dim Sum Bonds to finance infrastructure assets, Nigeria can take advantage of the lower yields compared to Euro bonds. An agreement for oil sales to China in RMB can also be reached so as to hedge any currency risk.
12. The Sukuk bond market is a substitute for the conventional interest- based securities. The Malaysian experience in which the government could undertake a Sukuk issuance program comprising both government guaranteed and non-government guaranteed issuances of varying tenors, sizes and expected returns and yields to maturity can be drawn from. In the case of Nigeria a special purpose vehicle could be set up that buys a building to be used (e.g. an Airport) – a sovereign Sukuk bond could then be issued raising 15-30 year funds, service charges and fees from the asset used to service the bond.

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THE ROLE OF DEVELOPMENT FINANCE INSTITUTIONS IN INFRASTRUCTURE DEVELOPMENT: WHAT NIGERIA CAN LEARN FROM BNDES AND THE INDIAN INFRASTRUCTURE FINANCE COMPANY