Why the World Bank is safe from global banking jitters

The World Bank is hardly your typical bank. And amid all the market mayhem, the Washington-based anti-poverty lender is fairly isolated from the chaos in the financial sector thanks to everything that makes it different. First off, the multilateral lender does not take in deposits from consumers and companies — a critical distinction from your local bank, which aims to make a profit off your savings. Rather, its job is to take money given to it by member states, and using the magic of markets, turn that into far greater sums to spur lending for global development. Currently, it has about $230 billion in loans to countries. However, what really makes it stand out is its top-notch risk management, validated by its sustained AAA credit rating. And it comes into the spotlight now, in a moment of turmoil. Let’s take a step back: Before we get into why the World Bank is different, it’s key to understand what’s happened over the past week. It all started at the California-based Silicon Valley Bank, the go-to bank for startups that was shut down by United States regulators on Friday. The bank invested a tsunami of incoming deposits in long-dated instruments, like bonds and mortgage-backed securities that mature in a decade or longer. Remember, banks keep a fraction of your money on hand and seek to earn a return on the rest of the deposits. Then, the Federal Reserve raised interest rates a lot in a short time to fight high inflation. This once-in-a-generation move by the Fed caused the market value of the securities to quickly decline. As the extent of the problems became clear, it triggered a run on the bank, a liquidity crisis, and insolvency — setting off worries that other banks have similar issues and that repercussions would spread far beyond California. Swiss misses: But an even bigger case of the jitters has emerged in the Alps. Credit Suisse is in serious trouble, sparking a global market rout. The 166-year-old pillar of global finance (designated in the industry as a globally systemically important bank, or G-SIB) has been plagued by scandals and bad decisions in recent years. A crisis in the normally sound Swiss banking center would have a far greater domino effect on the wider financial system than anything Silicon Valley could create. The Swiss National Bank has stepped in, promising to provide a backstop if needed. A world (bank) apart: The World Bank works overtime to secure its AAA credit rating and is at the front lines of risk aversion. It is so cautious that it sometimes earns criticism from those who want it to lend more aggressively. The push to reform the bank, led by U.S. Treasury Secretary Janet Yellen, aims to make this happen, though without hurting the AAA. The safeguards it has in place dictate the types of loans it makes, so it is likely to get paid back. The bank also has preferred creditor status, which obligates borrowers to pay it back first during turmoil, such as when they default and cannot repay their debts. Critically, its loan book is made up of deals with governments, which borrow for the likes of infrastructure projects. Therefore, provided that most of the governments can continue to repay their loans to the multilateral, there is no cause for concern for its stability. And of course, there can’t be a run on the World Bank’s deposits as that’s not how the lender works. Of note, any global economic woes that may emerge from this fiasco would likely hurt low- and middle-income nations particularly hard, as they tend to be seen as risky, and in crises, investors like safe havens. Economists at the World Bank and elsewhere tell Devex they are probing the matter, while the International Monetary Fund has its eyes on financial system stability. Stay tuned. The in-the-weeds finance bit: Finally, and this is the most technical part of it all, is the risk management of assets the bank holds. At the end of the last fiscal year, the World Bank held 138% of its target for liquid assets — or far more than it needed to be safe, even in moments of turbulence. Due to the bank’s “financial risk management strategies, the sensitivity of IBRD’s loan and borrowing portfolios to changes in interest rates is relatively small,” according to a financial statement from last year, which uses the acronym for the formal name of the bank’s main lending wing, the International Bank for Reconstruction and Development. The bank has, for years, taken proactive steps to significantly limit any serious upside or downside movements in markets. Its portfolio is invested in extremely short-dated instruments, so it wouldn’t have significant losses if it liquidated its holdings, even if interest rates have gone up. The flip side is it also limits any gains. Contrast that with Silicon Valley Bank, which got hit when it suffered large “marked-to-market” losses — when securities are repriced downward due to market changes, in this case because of the rates environment. And it had to sell and take huge real losses. Boring is best: In short, the World Bank’s conservative approach ensures it has an ample supply of cash or access to cash at a relatively predictable cost. It needs the money for a host of reasons, including emergencies; to pay coupons to bond holders; and because there is a gap between when it raises money on markets and when it lends to countries. Its interest rate risk is largely hedged using derivatives, such as swaps. The math is all a little heady, but the point is: This is extremely unlike holding long-dated instruments with no protection, which is the issue that sparked all the trouble last week in California. Other multilateral development banks that operate with AAA ratings would likely also have conservative approaches to risk. The bottom line: In all, it’s a prudent system. Knock on wood. Update, March 16, 2023: This piece has been updated with additional information on bank runs.