Local Financing Mechanisms

for WASH Services

Chapter 9

Economic and Financial Instruments for IWRM

Training Manual

Prepared by: C. Fonseca, R. Cardone & D. Casella

IRC International Water and Sanitation Centre, Delft

Slides edited by Meine Pieter van Dijk UNESCO-IHE

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Learning Objectives

At the end of this session, the participant will be:

• Aware of the importance of, and constraints to, the development of local financing mechanisms for sustainable, pro-poor WASH services

• Conversant with role of different actors to access local financing mechanisms

• Able to identify the elements of an enabling environment required for effective financing mechanisms

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Part I: Introduction

Why do financing mechanisms

and cost recovery matter for local

WASH services?

The big picture

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Need to increase water coverage (i)

Source: UNICEF 2002

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Need to increase water coverage (ii)

Source: UNICEF 2002

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Need to increase sanitation coverage (i)

Source: UNICEF 2002

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Need to increase sanitation coverage (ii)

Source: UNICEF 2002

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Local Finance Mechanisms for WASH

Services

The goals of local finance mechanisms in the

WASH services sector are to ensure:

– Sufficient revenue to deliver services in long-term

– Sufficient revenue to support improved quality of

services

– Sufficient revenue to extend service coverage,

particularly to low-income consumers

– Better use of scarce water resources and

management of waste water disposal to conserve

the natural environment

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Elements of Local Finance Mechanisms

Financial and administrative steps required for establishment of equitable, financially viable and sustainable WASH services as part of the process of assessing, planning, implementing, monitoring and adjusting services delivery means:

• Setting cost recovery targets

• Analysing ability and willingness to pay

• Calculating affordability

• Setting service objectives

• Calculating the basis for charging

• Tariff setting

• Billing and collection

• Book keeping

• Financial control and monitoring

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What is meant by “cost recovery” ?

A simple definition: recovery of all costs associated

with a water system, programme or service to

ensure long-term sustainability

BUT, cost recovery is more than money for capital costs and

O&M. It is also about institutions and processes:

• Considering the costs to maintain the institutions and support

services for service sustainability and increased coverage

over time and space (scaling up)

• Institutional arrangements and development of capacities to

put into practice strategy adapted to the needs of the poorest

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II – Some actors for Financing

of Local WASH Services

• Funds: Pooled resources and revolving funds slide 12

• Microfinance institutions for water and sanitation slides 13 + 14

• Small towns and innovative finance slides 15 -16

• Domestic private sector slide 17

• Utilities slide 18

• and a summary slide 19

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Financing options for Local WASH Services

• a revolving fund is a pool of capital created and reserved for specific activities, e.g. latrine construction, water system rehabilitation

• money borrowed is returned to the fund for reuse in similar activities by other fund contributors.

Pooled resources and revolving funds

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Financing options for Local WASH Services

• Mainly for financing small individual activities, such as rainwater harvesting, maintenance materials, and help the poor to afford a connection.

• Financing important capital investments through micro credit is difficult due to the small amount of money and the short term nature of the credit provided.

Micro-credit is the principle of giving small loans to the very

poor to help them generate an income of their own

(Wheat, 1997).

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• microfinance for household connections

• micro-project finance for community-led or larger investments

Options for local WASH services: micro finance

Microfinance means literally that the amount of finance

provided is small, and it has been defined as the provision of

diverse financial services, including savings and insurances as

well as credit, to low-income people

“building inclusive financial systems for the poor” is

increasingly used as financial institutions providing financial

services to the poor become more diversified and cannot be

described solely as Microfinance institutions (MFIs).

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Small Towns and innovative WASH finance

Mechanisms at the Municipal & Utility Level

Utility a dept of municipality,

with low expectations

for cost recovery

How can utilities become

commercially viable ?

Municipality

relations with utility

Partial credit guarantee

Debt/equity swap

Municipal bond

Mu

nic

ipa

lity Credit enhancement

Tariffs

Public-private partnership

Municipal credit pool

Focus on consumers/citizens,

not the needs or interests of

customers

How to address coverage for

the poorest in slum areas

and small towns?

Utility relations with

customers

Non-existentHow to leverage

local liquidity?

Utility relations with

local cap markets

Fiscal intercept

Partial risk guaranteeConnection subsidy

Technical assistanceMicrofinanceSinking fund

Revolving fund

LeaseWorking capital loan

Traditional approachInnovations in the

Urban Setting

Finance

Mechanisms

Utility a dept of municipality,

with low expectations

for cost recovery

How can utilities become

commercially viable ?

Municipality

relations with utility

Partial credit guarantee

Debt/equity swap

Municipal bond

Mu

nic

ipa

lity Credit enhancement

Tariffs

Public-private partnership

Municipal credit pool

Focus on consumers/citizens,

not the needs or interests of

customers

How to address coverage for

the poorest in slum areas

and small towns?

Utility relations with

customers

Non-existentHow to leverage

local liquidity?

Utility relations with

local cap markets

Fiscal intercept

Partial risk guaranteeConnection subsidy

Technical assistanceMicrofinanceSinking fund

Revolving fund

LeaseWorking capital loan

Traditional approachInnovations in the

Urban Setting

Finance

Mechanisms

Features of innovation in financing mechanisms at the municipal level

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Innovative WASH Finance in Small Towns

Internal and external factors to support utility transformation

How can utilities become commercially viable?

External factors Internal factors

Government support Financial and credit management

Autonomy Management quality/capacity

Understanding of external risks Operational performance

Understanding of economic base Strategic planning and internal

transformation

Human resources and utilisation of private

sector

Customer relations

Source: WSP-Af, forthcoming report on market based mechanisms for urban utilities.

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Innovative WASH Finance in Small Towns

Mechanisms used by the domestic private sector

Features of innovation in financing mechanisms by the domestic private sector

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Utilities and innovative finance in small towns

How to extend coverage in slum areas and small towns?

Features of innovation in financing mechanisms by (poor) users

Also, municipalities and utilities can leverage local liquidity through:

• municipal & utility bonds

• household & community savings pools and self-investment

• utility bill surcharges and cross subsidies for pro-poor services

funds

See: Orangi Case Study, page 11, Chapter 10

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Innovative WASH Finance in Small Towns

Service Level availability at an affordable cost:

Service Levels provided by user fees (tariffs), community-led schemes, connection subsidies, output based aid & microfinance depends on a range of factors:

• initial water quality

• location of sanitation relative to water supply points

• type of technology adopted by the community

Demand-led approaches can reduce the unit cost of providing a services and unit costs charged to consumers.

Ways to support this:

• Develop effective supply chains for sanitation products and promote demand (more effective than household subsidies)

• Microfinance to start up activities required to provide sanitation services, such as providing construction materials, emptying pits and treating sludge

• Small scale private sector has ability to tap markets for sanitation or hygiene-related products such as soap, toilet construction, toilet parts, toilet cleaning and faecal sludge management

• Start-up activities require credit – but service providers can make a decent profit so there is incentive to create demand and ensure supply

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Guiding Questions for Finance Mechanisms for

Community Managed Systems

Key issues to discuss

Which costs must be covered?

Which funds should be used?

Which tariffs should be used?

How to collect contributions?

When is appropriate to collect contributions?

What to do with ‘bad’ payers?

Where should money be deposited?

What should be taken into consideration to administer the funds?

Who should administer the funds?

How to pay staff responsible for O&M?

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III Key elements for an enabling environment

for increased flows of local finance Level Element

Policy level •Political support

•Institutional & Legal frameworks

•Regulation

•Transparent processes and practices

Intermediate level •Decentralisation of fiscal revenues

•Support for local priority identification through transparent, pro-poor

participatory processes

•Capacity building for good local governance

•Support for local supply chains & market development

•Flexibility in technology options and management & financing

arrangements

Community level •User awareness raising on savings, funds management

•Systems based on social capital, mutual trust & social pressure

•Collaboration with and support for (I)NGOs, local champions to

reach the poorest clients

•Transparent fund management processes and practices

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Main constraints to innovative local financing

Micro level • Additional finance is not always

the solution

• Limited outreach

• Limited product diversification

• Financial sustainability of MFIs

• Role & capacity of intermediate

level in scaling up community

innovations

Macro aspects • Longer timeframes, combination of supply-side & demand-side

approaches required

• New risks require holistic interventions

• Innovative financing mechanisms still anecdotal, context specific

• Innovation is not the same as pro-poor

Meso level • Long route from approval

to disbursement, to impact

• Integrate facilitation skills &

support throughout pilot

programmes to avoid creating

islands of success

• Making finance more

accessible

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Opportunities

• Opportunities for leveraging resources

• Strategic partnerships to develop scalable solutions

• From charity to business

• Increased competition

• Attracting private finance

• Diversification

• Better urban operating environment for service

provision via SSIPs

• The development of sanitation supply chains

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Lessons Learnt

• Promote flexible arrangement & structures (management,

service delivery, payment, etc) and service levels for

consumers - calculate an appropriate and equitable tariff

and billing structure.

• As part of the design and implementation process, establish

& promote sources of local finance to help users pay for

improved levels of service.

• Willingness and ability to pay for water services should be

assessed, not assumed.

• Subsidies can be more effective if used to increase access

to water supply and sanitation - for example subsidising

connection fees.