A deeper look at DFC's development strategy

WASHINGTON — The U.S. International Development Finance Corporation’s first development strategy, released last week, was developed using historical data and while an important first step, it raises a number of challenges when it comes to implementation, experts said. The Roadmap for Impact outlines how the DFC will invest $25 billion in the next 5 years, including that 60% of its deals will be in low-income countries, lower-middle-income countries, and fragile states. DFC will prioritize funding for technology and infrastructure, energy, financial inclusion, food security and agriculture, health, and water, sanitation, and hygiene, according to the strategy. The strategy also identifies a number of cross-cutting themes including financial systems strengthening, women’s economic empowerment, and manufacturing. The strategy was developed based on an analysis of historical deal flow, the current portfolio, and the existing pipeline, in consultation with outside experts. “We want to try to have a more balanced portfolio and take on some of the greater development challenges,” particularly in areas such as health care, water, and sanitation that have traditionally been financed by the public sector, DFC’s Chief Development Officer Andy Herscowitz told Devex. While there seems to be consensus that the document offers a positive first step, one development expert, who asked to remain anonymous in order to speak freely, questioned whether DFC should need a separate development strategy rather than a single corporate strategy that embeds these development objectives at its core. “It’s a step in the right direction but I worry a bit that it's still a tactical response .. there are bigger strategic directional issues that remain unsettled,” the development expert said. Among the remaining challenges are how the strategy will be implemented and how it will be funded, experts told Devex. “We don't ever want resources to be the constraint to us doing deals in the low-income or lower-middle-income countries.” --— Andy Herscowitz, chief development officer, U.S. International Development Finance Corporation Operationalizing the strategy While the strategy highlights many sectors and sets some specific targets, there is still some detail missing on how it will be operationalized, said Robert Mosbacher, chairman of the DFC Development Advisory Council, and former CEO of DFC’s predecessor — the Overseas Private Investment Corporation. “How it will actually influence the ultimate direction and allocation of resources will be partly a function of how much it is relied upon and partly a function of external circumstances and frankly administration priorities,” Mosbacher said. A key question is how the deal teams will adjust and prioritize the new objectives, especially if current incentive structures remain the same. DFC is considering how it might create internal incentives for meeting some of the development targets, though thus far job descriptions or compensation haven’t been changed for DFC employees, Herscowitz said. Having a constantly moving target of how people are judged is difficult and government employee salaries are fixed, he said. DFC is discussing internally how it might address the issue, but Herscowitz said that he believes DFC staff will look to meet these targets even without financial or other incentives. Reorienting around outputs and impact Herscowitz, who used to lead the USAID’s Power Africa initiative, said he learned from that experience that targets need to include not just large scale projects, but also track the community and individual impact of energy or telecommunications investments. ”My hope is that by making that a specific metric we’ll be able to work with our clients and figure out ways to track that direct line from the cable to the person’s household,” he said. That focus on outputs and outcomes and not just inputs or deal size is moving in the right direction, Jonathan Said, the head of inclusive economic growth in Africa at the Tony Blair Institute for Global Change, told Devex. Other development finance institutions are also working to try to capture that data, which is “crucial,” in order to make sure the “development part of the equation is not lost,” he said. There is a question however of how the DFC will build relationships at the country level and how it will work to increase its footprint in these countries, Said said. As it looks to increase investment in low-income and fragile countries, DFC should also consider how it engages with governments, how it can identify market failures and barriers to investment, and help create more investable projects and work across value chains, he said. While historically USAID has done the work on government reforms and enabling environments, DFC has a role to play as well, Said said. Expanding engagement and risk DFC is looking to expand the companies it works with, including working with local and regional countries for the first time, and will have to adjust its risk tolerance, according to the strategy. DFC plans to host a series of virtual town halls with companies on a regional or country level. The first will be with Kenyans in a few weeks, in order to identify potential new local partners and transactions, Herscowitz said. Often local banks and businesses that have been working in the lowest-income or the most fragile countries best understand the actual risks and know how to mitigate them, he said. DFC needs to take on additional risk and adjust its return expectations accordingly, the development expert said. The agency should, at a portfolio level, essentially just look to preserve its capital or earn 1%-2% returns, rather than trying to match current levels of return. Still, the language about taking on more risk in the strategy should help give deal teams the permission to do more of those deals and take more risk without fear of being criticized, Mosbacher said. Adjusting those risk expectations won’t necessarily be easy though and will require a cultural change, Herscowitz said. Not enough funding If DFC is truly going to take on more risk and achieve its goals in low-income and fragile countries, it will likely need more funding, several people told Devex. The cost of providing a loan to a low-income country or fragile state is “astronomically higher” than the cost of a similar loan in a wealthier country, and DFC has finite resources, Herscowitz said. If DFC doesn’t have the necessary resources then it is more likely to pursue investments that are less risky. “We don't ever want resources to be the constraint to us doing deals in the low-income or lower-middle-income countries, because ultimately, when the deals succeed, the money gets paid back to the U.S. Treasury and actually earns a return for the U.S. taxpayer,” he said. Fixing the resource issue will rely on Congress appropriating more funding or changing some of the ways that DFC is funded, and the agency is discussing news with lawmakers, he said. One way to provide additional funding to the DFC is to change its current funding model, including by allowing it to retain fees and use them to offset operational costs, much as its predecessor OPIC did, the expert said. The agency likely also needs more funding through its base appropriations every year to meet its new mandate and avoid using its funding too quickly and thus avoiding the types of deals it is mandated to do, the expert said.