National Development
Banks in comparative
perspective
C. P. Chandrasekhar
Jawaharlal Nehru University, New Delhi
Why development finance
Late industrialisation requires lumpy investments, with long
gestation lags to occur simultaneously in multiple industries.
In most late industrialisers liquidity and maturity
mismatches between the expectations of savers and
requirements of investors results in the absence of such long
–term finance
While government can finance such investments through
taxation or borrowing, the private sector often cannot
because of the absence of markets for long–term finance.
Besides, if left to markets, come sectors may not be financed
because of higher costs or perceptions of risk.
Development banks
Present across the world and mandated to provide credit at
terms that render industrial and infrastructural investment
viable.
Tend to lend not only for working capital purposes, but to
finance long-term investment as well.
Invest in equity as well, resulting in them adopting the
unconventional practice of investment in equity in firms
they are exposed to as lenders.
Closely monitor the activities of the firms they lend to, with
nominated directors on the boards of companies
Technical assistance
Involved in decisions such as choice of technology,
scale and location
Provide merchant banking services to firms they lend
to, taking firms to market to mobilise equity capital by
underwriting equity issues. If the issue is not fully
subscribed the shares would devolve on the
underwriter, increasing the equity exposure of the
bank.
Monitor corporate governance and performance on
behalf of all stakeholders.
How common are they
According to an OECD estimate there were about 340
development banks in some 80 developing countries in the mid1960s. Over half of these were state-owned and funded by the
exchequer; the remainder had mixed ownership or were private.
According to Nicholas Bruck (1998), there were over 550
development banks worldwide, of which 32 were in the nature of
international, regional and sub-regional development banks,
leaving around 520 national development banks (NDBs) in 185
countries, or an average of about 2.8 per country.
Latin America and the Caribbean had the largest number of
NDBs (152), followed by Africa (147), Asia and the Pacific (121),
Europe (49) and West Asia (47).
Characteristics 1
Survey conducted by the World Bank in 2009 (LunaMartinez and Vicente 2012) defined NDBs as “financial
institutions with at least 30 per cent state-owned equity”,
with “an explicit legal mandate to reach socioeconomic goals
in a region, sector or particular market segment”.
Covered 90 DFIs and found that 12 per cent of them had
been established before 1946, 49 per cent between 1946
(after the end of World War II) and 1989, and 39 per
between 1990 and 2011.
Despite the change in policy orientation after 1990 in most
developing countries, governments continued to rely on
DFIs.
Characteristics 2
74 per cent of these institutions were entirely government
owned and controlled and a further 21 per cent had less
than 50 per cent of private equity ownership.
Though 41 per cent of the institutions surveyed reported
taking deposits, 89 per cent were borrowing from other
financial institutions or issuing debt in local markets, 40 per
cent had obtained budgetary transfers from the government,
and 64 per cent had benefited from government guarantees
of the debt they issued. 18 per cent of the institutions that
received transfers declared that if transfers were withdrawn,
they would not be able to operate.
Importance of state support
Access to government support allowed development banks
to offer credit at subsidised interest rates.
Half of those surveyed reported that practice, two-thirds of
which claimed to finance those subsidies with transfers from
government. Some reported cross-subsidisation.
53 per cent of the institutions surveyed had specific policy
mandates, having been “established to support the
agriculture sector (13% of all DBs), SMEs through their
lending, guarantee or advisory services (12%), export and
import activities (9%), housing (6%), infrastructure projects
(4%), local governments (3%), and other sectors (6%).”
Divergent trajectories
Despite the widespread presence of NDBs, their recent
evolution has been very different.
In Brazil, the BNDES has emerged a giant, financing huge
projects, serving as a countercyclical instrument during the
recession, bankrolling Brazil’s going-out strategy, and
spreading its tentacles across Latin America and beyond.
China, which did not have a development bank, established
on in 1994 as part of reform.
India, on the other hand, has dismantled its development
banking infrastructure.
Historical precedent
In early, late industrialising nations (Germany and
Japan, for example) there were components of the
financial sector that helped overcome the handicaps
that such a nation suffers from.
But here it was the mainstream banking system that
was called upon to play the role, especially in the form
of the Kreditbanken or universal banks in Germany
and the more recent main bank system in Japan.
Original example was of course the Credit Mobilier in
France, which however failed.
Gerschenkron’s interpretation
Gerschenkron believed they served as institutional
substitutes for crucial “prerequisites” such as prior
accumulation of capital or the availability of adequate
entrepreneurial skills or technological expertise.
Basing his arguments on the roles played by Crédit
Mobilier of the brothers Pereire in France and the
‘universal banks’ in Germany, Gerschenkron argued
that the creation of “financial organisations designed
to build thousands of miles of railroads, drill mines,
erect factories, pierce canals, construct ports and
modernise cities” was hugely transformative.
Gerschenkron 2
In his view, financial firms based on the old wealth were typically
in the nature of rentier capitalists and limited themselves to
floatations of government loans and foreign exchange
transactions. The new firms, were “devoted to railroadisation and
industrialisation of the country” and in the process influenced the
behaviour of old wealth as well.
“The difference between banks of the credit-mobilier type and
commercial banks of the time (England) was absolute. Between
the English bank essentially designed to serve as a source of shortterm capital and a bank designed to finance the long-run
investment needs of the economy there was a complete gulf. The
German banks, which may be taken as a paragon of the type of the
universal bank, successfully combined the basic idea of the credit
mobilier with the short-term activities of commercial banks.”
Credit Mobilier
Influence by the early-socialist views of Saint Simon,
the Pereire brothers established Credit Mobilier in
1852. Besides investments from large promoters, the
bank accepted deposits from the public as well.
It funded governments, shipping line, transportation
companies and the like. But in 1856 the French
government under the influence of the Banque de
France refused permission to the CM to issue its own
paper.
The failure
In his discussion of the Credit Mobilier, Sraffa
reportedly argues that while it began with a wise policy
of matching maturities of assets and liabilities, it made
a mistake in turning towards financing long-term
investment with short-term deposits, which ultimately
led to its failure.
This he argued was because CM did not receive
adequate state support. He refers to the jealousy it
aroused in the Banque of France, which turned hostile,
and jettisoned the CM’s requests for government
permission to issue long term bonds.
The issue of liquidity
The issue is not really that banks would not be able to
call in their long term credits, but that the assets they
hold in the form of the securities associated with those
credits may not be easily sold and converted to cash to
meet demands to pay back deposits.
So lending is possible if an agency exists to provide
lines of credit to banks engaged in long term lending to
industry when the former are unable to obtain
liquidity from elsewhere.
The German example
The German universal banks Sraffa argued built on the
experience of the Credit Mobilier to serve as banks that
(backed by the Reichsbank) financed German
industrialisation.
De Cecco summarises Sraffa’s perception of the system as
follows: “German Grossbanken, which were heavily involved
in maturity transformation, were likely to find themselves
periodically stuck in illiquidity situations, and required
reliable access to last-resort lending by the Reichsbank. In
fact, the whole concept of last-resort lending, which had
been developed in the English context, had to be adapted,
indeed drastically transformed, to be used in the German
one.”
German specificity
The central bank gives security to banks engaged in
extending industrial credit by being prepared to help
them when they are in temporary difficulty and are
unable to sell their securities in the open market.
In all countries on the Continent, Sraffa notes, joint
stock banks have recourse to the central bank, directly,
whenever they need it. ‘In this respect,’ he writes, ‘the
relations of joint stock banks to the bank of issue are
very different from those in England.
Social banking
According to Sraffa, what was recommended and
experimented with on the Continent by Saint Simon, the
Pereire brothers and the German universal banks was a form
of “active banking” involving close interaction of banks and
industry with an element of domination of the latter by the
former because of “the superior information banks could
gather on industry, being at the crucial node of the
economic system.”
Being heavily involved in maturity transformation, they were
likely to find themselves periodically stuck in illiquidity
situations, and required reliable access to last-resort lending
by the Reichsbank.
Role of the Reichsbank
The whole concept of last-resort lending, developed in
England, was adapted, or drastically transformed, to be used
in Germany.
The German Reichsbank, according to Sraffa, was best
thought of as the apex institution of an organically
conceived centrally planned economy in which the banking
system, headed by the central bank, performed the role of
planning office.
This was possible due to the elasticity of its note issue, while
the Bank of England is tied to the Bank Act’s rigid note
issue.
How was the moral hazard
problem addressed?
Long-term relationship and presence of nominated
directors on the board gives the banks the ability to
better monitor managers on behalf of itself and other
stakeholders.
Since the German universal bank closes the gap for
finance AND the gap in entrepreneurship and
technical capability it was often a part of the decisionmaking process.
Information asymmetry problem adequately dealt with
Developing country specificity
No guarantee that institutional substitutes or mechanisms
such as these that can support late industrialisation will
evolve automatically. In any case, the wait may be far too
long.
Modern commercial banks were either recent or a colonial
implant and were both prone to failure and unlikely to to
have the wherewithal to take and manage risk associated
with capital intensive investments.
This might require DFIs to be established by the
government, even owned by it and supported with
significant resources from the budget or the central bank.
Motivation
Make up for the failure of private financial agents to
provide certain kinds of credit to certain kinds of
clients.
Left to themselves, private financial markets in
developing countries usually fail to provide enough
long-term finance to undertake the investments
necessary for economic and social development.
Alternative institutions needed with objectives other
than profitability.
Some implications
NDBs are instruments of state-led or state-supported
capitalist development.
There is a priori no reason to believe that this is a
requirement only in dirigiste regimes and that
liberalisation will imply the end of development
banking.
There would be differences in what NDBs do under
different regimes.
The Brazilian case
Banco Nacional de Desenvolvimento Econômico e
Social (BNDES) in Brazil, established in 1952.
The importance of BNDES support for private
investment in Brazil was large and has increased
significantly, with a transition in 1965 when BNDES
support rose from below 3 per cent of capital
formation to 6.6 per cent.
At its peak in 2010 annual BNDES lending amounted
to around 70 per cent of long term credit in the
country.
Sectoral focus
Initially sectors like transport and power overwhelmingly
dominated its lending.
Subsequently there was considerable diversification in
support, to sectors such as nonferrous metals, chemicals,
petrochemicals, paper, machinery, and other industries.
While in its early years BNDES investments were focused on
the public sector, there was a significant shift in favour of
the private sector in later years. Financing for the public
sector fell from 80-90 per cent in the period 1952-66, to 44
per cent during 1967-71, and then to 20-30 per cent.
Sources of funding
Funding for BNDES activities has come from a range
of sources, such as bond issues, resources from
multilateral organisations, transfers from the treasury,
and deposits from the government of funds from
privatisation, for example.
The government has also used various measures such as
special taxes and cesses, levies on insurance and
investment companies and direction of pension fund
capital to mobilise resources for the industrial
financing activities of the BNDES
A major change
Under President Ernesto Geisel (1974-1979), the administration of
funds collected through payroll taxes imposed on company profits
under the Social Integration Programme (PIS) and the Public
Employment Savings Programme (PASEP) that were started in early
1970s was transferred to BNDES.
Changes in the management of PIS-PASEP in the 1988 Constitution
led to the creation of the Workers Assistance Fund, 40 per cent of
accruals to which had to be mandatorily routed to BNDES for
investments in employment generating projects.
In 2007, 10 per cent of BNDES’ funds came from the government’s
investment in its equity, and 75 per cent from the government
through obligatory investments of FAT (Workers’ Support Fund)
resources and special programmes such as the Accelerated Growth
Programme (PAG) and the Sustainable Investment Programme (PSA).
Subsidy
SELIC (Sistema Especial de Liquidação e Custódia or Special System
for Settlement and Custody) rate set by the central bank, which
serves as the benchmark for the credit system, rules higher than
the TJLP (Taxa de Juros de Longo Prazo or Long Term Interest Rate)
that governs BNDES’ operations.
Since the government borrows at the SELIC rate and lends to the
BNDES at the TJLP, there is an implicit subsidy being paid out to
BNDES from the budget and being borne by the tax payer.
To the extent that BNDES offers credit to its borrowers at a rate
lower than the SELIC, there is a transfer to the latter as well. The
BNDES does indeed lend at rates close to the TJLP.
Implications
As Brazil’s capitalism has changed so has the role
played by the BNDES.
It is true that the use of FAT funds for subsidised
lending to big corporations cannot be justified on
distributional grounds.
But that is not the objective. It is to strengthen
Brazilian capital, particularly when it is attempting to
spread its wings abroad.
Three phases of development
finance in India
The first began with Independence and extends to 1964 when the
Industrial Development Bank of India was established, which was
the phase of creation and consolidation of a large development
financing infrastructure.
The second period stretched from 1964 to the middle of the 1990s
when the role of the DFIs gained in importance, with the
assistance disbursed by them amounting to 10.3 per cent of Gross
Capital Formation in 1990-91 and 15.2 per cent in 1993-94.
Thirdly, after 1993-94, the importance of development banking
declined with the decline being particularly sharp after 2000-01, as
liberalisation resulted in the conversion of some development
banking institutions into commercial banks and in a decline in
the resources mobilised by other firms.
Role of the central bank
An Industrial Finance Department (IFD) was
established in 1957 within the Reserve Bank of India
(RBI) and the central bank began administering a
credit guarantee scheme for small-scale industries from
July 1960.
With a view to supporting various term-financing
institutions, the RBI set up the National Industrial
Credit (Long-Term Operations) Fund from the year
1964-65.
The infrastructure
The industrial finance infrastructure consisted of the Industrial Finance
Corporation of India (established in 1948), the State Financial Institutions set
up under an Act that came into effect in August 1952, the Industrial Credit
and Investment Corporation of India (ICICI), the first development finance
institution in the private sector, established in January 1955 with a long-term
foreign exchange loan from the World Bank, the Refinance Corporation for
Industry (1958) established to channel PL 480 counterpart funds earmarked
for lending to the private sector, and the Industrial Development Bank of
India (IDBI) established in 1964 as an apex development bank.
Thus, by the end of the 1980s, the industrial development banking
infrastructure in India consisted of three all-India development banks (IFCI,
ICICI and IDBI), and 18 State Financial Corporations. In 1990, the
government established the Small Industries Development Bank of India
(SIDBI) as an all-India financial institution for the financing of micro, small
and medium enterprises.
Outcome
The post-1972 period witnessed a phenomenal rise in financial
assistance provided by these institutions (including investment
institutions).
Given the nature of and the role envisaged for the development
finance institutions, the government and the RBI had an
important role in providing them resources. In addition, public
banks and the LIC and GIC also played a role
Howeever, India turned its back on this legacy in the mid-1990s.
By 2011-12, assistance disbursed by the DFIs amounted to just 3.2
per cent of Gross Capital Formation. By 2012 there were only two
all-India development banking institutions: the National Bank for
Agricultural and Rural Development (established in 1982) and the
SIDBI.
The Brazil-India contrast
In Brazil, reform notwithstanding, the BNDES has grown in
strength as noted above. This has served Brazil well. The
bank’s role increased significantly when private activity
slackened in the aftermath of the financial crisis. This
countercyclical role helped Brazil face the crisis much better
than many other developing countries.
On the other hand liberalisation led to a decline in
development banking and the demise of the major
development finance institutions in India. The absence of
these specialized institutions is bound to limit access to long
term capital for the manufacturing sector.
Outcome two
One result has been that the government has had to use the
publicly-owned commercial banks as a means of financing capital
intensive investment.
The share of infrastructure in lending to industry by commercial
banks in India has risen from less than 5 per cent in 1998 to 32
per cent in 2012, when aggregate credit provided by scheduled
commercial banks rose from 21 per cent of GDP to 56 per cent of
GDP, with the share of advances to industry falling from around
50 to 40 per cent.
Given the reliance of banks on shorter maturity deposits that are
extremely liquid, this exposure to infrastructure implied large
maturity and liquidity mismatches. Not surprisingly, defaults have
been on the rise and non-performing assets have shot up, leading
to balance sheet fragility.
The South Korean case
Among the factors responsible for Korea’s success with its
outward-oriented industrialisation and mercantilist strategy
of growth based on rapid acquisition of larger shares in
segments of the world market for manufactures, was the role
of the state in guiding industry to the segments of the global
market that were targeted.
For this to work, the State must through its financial
policies ensure an adequate flow of credit at favourable
interest rates to firms investing in these sectors, so that they
can not only make investments in frontline technologies and
internationally competitive scales of production, but also
have the means to sustain themselves during the long period
when they acquire and expand market share.
The situation after World War II
Korea had a shell of a modern financial system.
Almost all the existing banking institutions were
engaged predominantly in a regular commercial
banking business consisting essentially of accepting
demand deposits and of making short-term loans and
advances to primary producers, to businessmen and to
Government Agencies.
Korean Development Bank
Established in 1954 with the primary objective of
granting medium and long-term loans to industry
Wholly owned by the government and built on the
assets and facilities of the Industrial Bank, the KDB
came to account by the end of 1955 for over 40 per
cent of total bank lending.
At one point, it accounted for 70 per cent of the
equipment loans and 10 per cent of working capital
loans made by all financial institutions.
Sources of funds
Loans were not based on deposits.
About a third of the loans were supported by aid
counterpart funds and two thirds with financing from
the Bank of Korea and the government.
In the 1950s, 50 per cent of the funds came from the
government fiscal loans programme and another 30
per cent raised by issuing bonds.
Foreign borrowing
The KDB’s charter was revised to allow it to borrow funds from
abroad and guarantee foreign borrowing by Korean enterprises.
An interesting feature of industrial finance in Korea was the
guarantee system, created largely to privilege borrowing abroad
over attracting foreign investment, to keep Japanese capital at bay.
Firms wishing to borrow from abroad obtained approval from the
Economic Planning Board. Once that was done the Bank of Korea
(BOK) issued a guarantee to the foreign lender and the KDB
issued one to the Bank of Korea.
So, while the borrower was committed to repay the loan and carry
the exchange risk, that commitment was underwritten by the KDB
and BOK, which by guaranteeing against default were ensuring
access to foreign borrowing.
Other initiatives
The Korea Development Finance Corporation, established
in 1967 with support from the World Bank, was mandated
to assist in the development and creation of private
enterprises by providing medium and long-term financing
and equity participation, as well as technical and managerial
consulting services.
With the launch of the Heavy and Chemical Industries
(HCI) strategy the National Investment Fund (NIF) was set
up in 1974, to direct savings to these industries. The NIF
mobilised its resources through the sale of bonds, obtaining
loans from the deposit money banks (DMBs) and other
savings and investment institutions, and transfers from the
government budget.
China Development Bank
Established as part of the reform process in 1994. Three factors
that gave CDB a privileged position.
It was established at a time when banks were being restrained from
lending to projects that were either capital intensive in nature,
with long gestation lags, or were in the infrastructural area.
This was the phase of rapid urbanisation in China, resulting in
huge demands for infrastructure.
Much of the investment in infrastructure was being undertaken by
provincial governments that did not have the tax revenues needed
to finance those expenditures and could not borrow to finance the
same because of the 1994 ban. To circumvent the ban they
established special local government financing vehicles that
became important clients of CDB.
Sources of funds
Not a deposit taking institution, which was limited by
liquidity mismatches from investing in capital intensive
projects that would yield returns only in the long run,
if at all.
Mobilised resources by issuing bonds that were
subscribed to by banks that saw these instruments as
being safe despite yielding higher returns. In fact, the
presumption was that these bonds carried a sovereign
guarantee, even though there was no formal
commitment.
Financing
By 2011, the assets of CDB were estimated at $991 billion,
as compared with $545 billion for the World Bank group
(consisting of IBRD, IDA and IFC), $306 for BNDES (2010)
and $132 billion for the Korea Development Bank .
It replaced the government and the commercial banks as
lender to the state-owned enterprises.
It lent to the LGFVs to finance the huge infrastructural
investments being undertaken by the provincial
governments. According to one estimate, as much as onehalf of CDB’s loan book could consist of lending to local
governments, and the bank may account for as much as onethird of all LGFV loans
New areas
Financing China’s “going out” policy or spread abroad,
partly as manufacturing investor in low cost locations
in Africa and Latin America but more importantly as
acquirer of mineral and oil resources across the globe.
Major investor in China’s wind, solar and
telecommunications companies, with Huawei
Technologies being the largest beneficiary.
Conclusion
Over a significantly long period of time, countries
embarking on a process of development within the
framework of mixed, capitalist economies have sought to use
the developing banking function, embedded in available or
specially created institutions, to further their development
goals.
With financial liberalisation of the neoliberal variety
transforming financial structures, some countries are doing
away with specialised development banking institutions on
the grounds that equity and bond markets would do the job.
This is bound to lead to a shortfall in finance for long-term
investments, especially for medium and small enterprises.
The New Development Bank
New Development Bank different because most existing
development banks are in terms of shareholding, voting rights and
management dominated by one or the other developed country.
Since the NDB is owned and backed by governments in a set of
“emerging economies”, it is likely to be able to mobilise
substantial resources at reasonable cost from private market.
As the allocation of these resources would be determined by the
representatives of the five BRICS countries, it could direct
resources to projects that are more in keeping with the
requirements of the South.
The terms on which the institution lends could in time reflect
“Southern” requirements and sensitivities.
Case for caution
In the final analysis development banks are instruments of
state capitalist development.
Whether even this difference would be material depends on
three factors. The first is the degree to which the emergence
of the NDB alters the global financial architecture. The
second is the degree to which the BRICS bank can differ in
its lending practices from the institutions that currently
dominate the global development-banking infrastructure.
And, the third is the degree to which a development bank
set up as a tool of state-guided development by governments
can indeed contribute to furthering goals of more equitable
and sustainable development.
Constraint
Being a bank, even if a specialised one, it must ensure its
own commercial viability. And it must do so when a large
part of the resources it lends would be mobilised from the
market.
While guarantees from the governments of its shareholding
countries would improve the institution’s rating and reduce
its borrowing costs, those costs will have to be borne.
Any form of socially concerned lending that does not yield a
return adequate to cover costs and deliver at least a nominal
profit likely to be ruled out.