Dilip Ratha(and Suhas Ketkar)

Financing for Development, DohaDecember 1, 2008

Main messages Developing countries, especially private entities, need access

to international capital markets. There is need for both tax-based and market-based innovative financing instruments.

Shadow ratings will encourage countries to seek sovereign ratings and improve access to international capital.

Securitization of future exports and remittances can be a friend in foul weather.

GDP-indexed bonds can reduce the pro-cyclicality of debt burden.

Diaspora bonds can be a useful tool for tapping the wealth of the diaspora.

Early Innovations

Syndicated loans

Brady bonds

Petro-dollar recycling & resolution of debt crisis

Recent Innovations

Future-flow securitizationFuture-flow securitization

Diaspora bondsDiaspora bonds

GDP-indexed bonds

GDP-indexed bonds

Shadow sovereign

ratings

Shadow sovereign

ratings

Financing Developmen

t

Financing Developmen

t

1

3

5

7

9

11

13

15 Percent

US Treasury 10-year

Israel DCI bond

Discount on Israel diaspora bonds

Israel and India have raised nearly $40 billion via diaspora bonds

Diaspora bonds: Top Candidates

10,476

3,725

2,705

2,475

2,380

2,228

1,839

1,815

1,702

1,082

Mexico

Turkey

China

Philippines

India

Morocco

Vietnam

Serbia & Montenegro

Poland

Colombia

By emigrant stock (thousands)

Diaspora bonds: Top Candidates

35

22.6

14.7

10.2

9.7

7.4

5.2

4.5

4.3

2.9

Jamaica

Serbia & Montenegro

El Salvador

Mexico

Dominican Republic

Morocco

Turkey

Poland

Romania

Philippines

By emigrants as % of population

Potential for Diaspora Bonds

Country Diaspora stocks($ thousands)

Potential savings($ billions)

South Africa 713 2.9

Nigeria 837 2.8

Ghana 907 1.7

Kenya 427 1.7

Ethiopia 446 1.6

Somalia 441 1.6

Senegal 463 1.3

Zimbabwe 761 1.0

Sudan 587 1.0

Angola 523 1.0

Sub-Saharan Africa

GDP-indexed bonds (GIBs)

0

2

4

6

8

10

12

14

16

18

0 1 2 3 4 5 6 7 8 9 10

GDP-Indexed

Indexed

Fixed vs. GDP-indexed coupons

Cou

pon

(%)

Growth rate (%)

GDP-indexed bonds (GIBs)

Debt service on indexed bonds varies with ability to pay

It also allows countries to pursue counter-cyclical economic policies

Concerns about GDP-indexed bonds

Accuracy of GDP data – under-reporting, data revision

moral hazard/adverse selection?

How to price GIBs

Low liquidity

GIBs: Role of public policy

• Ensure reliability of GDP data.

• Reduce product uncertainty and the resultant low liquidity associated with introduction of new products.

• Investors would require that a large number of countries issue GIBs so as to diversify risk. IFIs can provide help.

• Provide seed money to financial institutions.

Importance of sovereign credit ratings

0

100

200

300

400

500

600

700

AA

AA

-

A+ A A-

BB

B+

BB

B

BB

B-

BB

+

BB

BB

-

B+ B B-

CC

C+

Investment grade

Below inv. grade

Interest spread, basis points

2007

2003

Borrowing cost rises exponentially as credit rating deteriorates

Importance of sovereign credit ratings

Sovereign ratings impacts private flows

They affect: Debt FDI Performance-based aid

They act as rating ceilings for sub-sovereign entities

Importance of sovereign credit ratings

70+ developing countries are not rated

15+ are rated, but not recently

Several factors affect a country’s decision to get rated: – Information requirement– Need for debt– Cost of rating– Fear of low rating

Hence the need for SHADOW RATINGS

Predicting shadow ratings

Fit a regression model of Sovereign rating as a function of– macro variables– rule of law– debt and international reserves– volatility

R2 is high

Shadow ratings results

Predicted Actual

Albania BB to BB+ Ba1 [BB+]

Cambodia B+ B+ and B1

Brazil BBB to A- BBB-

Peru BBB- to BBB BBB-

Gabon BBB- to BBB BB-

Ghana BB- to BB B+

Africa premium?

Predicted shadow ratings

Shadow ratings for the 55 unrated countries reveal:– 8 investment grade– 18 B to BB– 15 CCC– Only 14 CC or lower

Predicted shadow ratings

Shadow ratings for the 55 unrated countries reveal:– 8 investment grade!!!– 18 B to BB!!!– 15 CCC– Only 14 CC or lower

Improving ratings

1.Counting all relevant flows

2.Partial guarantees from donor agencies

3.Securitization of future flows of remittances and other receivables

Improving ratingsRemittances (% of GDP,

2004)

Rating excluding

remittances

Rating including

remittances

Spread reduction

(basis pts)

Lebanon 14 B+ BB- 150

Haiti* 28 CCC B- 334

Nicaragua* 11 CCC+ B- 209

Uganda* 5 B- B 161

* Calculated using the benchmark model of Ratha, De and Mohapatra (2007)

Improving ratings: FF Securitization

Year Issuer Amount(US$ mn)

Flow type Transa-ction rating

Sover-eign

rating

1998 Banco Cuscatlan

50 Remit. BBB BB

2004 Banco Salvadoreño

25 DPRs BBB BB+

2002 Banco do Brasil

250 Remit. BBB+ BB-

Future flow securitizationRisks involved in exposure overseas include:

Sovereign risk

Performance risk

Product risk

Diversion risk

FF securitization structure mitigates sovereign risk. Choice of collateral, excess coverage and reputation of issuer mitigate other risks

Future export securitization structure

Foreign buyer Local exporter

LocalForeign

Future export securitization structure

Foreign buyer Local exporter

LocalForeign

SPV/ Trustee

Customers

Future flow securitization

Special Purpose Vehicle (SPV)

Trust

Investors

On-shore

Off-shore

Issuer

Structure of FF Securitization

Proceeds

Notes

Excess Collection

Future Product

Future Product P & I

Product Payment

Heavy crude oil receivables

Diversified payment rights (DPRs), airline ticket receivables, telephone receivables, credit card receivables, and electronic remittances

Oil and gas royalties and export receivables

Paper remittances

Tax revenue receivables

Hierarchy in Future-Flow-Backed Transactions

Securitization Potential in Sub-Saharan Africa(US$ billions)

Source: Authors’ calculations Note: Based on average for 2003–06.

Receivable Potential

Fuel exports 51 10

Agrl. raw materials exports 6 1

Ores and metals exports 16 3

Travel services 13 1

Remittances 8 1

Total 95 17

Summary

Developing countries need access to international capital markets

Shadow ratings could encourage several countries to seek sovereign ratings removing a constraint on their access to int’l capital markets

Securitization of future exports and remittances can improve ratings on external financing transactions

Diaspora bonds and GDP-indexed bonds also offer additional innovative financing mechanisms