Latin America Has Taken Steps to Curb Corruption and Boost Sustainability. Will Investors Bite?Director of Marsh & McLennan Insights Climate Change Economist at Inter-American Development Bank
The chronic gap in infrastructure quality and quantity in Latin America requires a regime shift — and one that prioritizes the mobilization of private investors.
Data shows that over the last decade, the private sector has largely been more active in Latin America — especially in Brazil, Mexico, Colombia and Peru — than in other countries with comparable basic economic conditions. Unfortunately, private investment in the region’s infrastructure has slowed in recent years: After 2014, investment levels in infrastructure from both private and public sources in Latin America declined compared to the preceding years.
In a new report, Bankability Through the Lens of Transparency, Marsh & McLennan Insights and the Inter-American Development Bank Group argue that enhancing transparency of infrastructure delivery and financing can not only increase sustainability, but also infrastructure bankability.
Dogged by Corruption
Governance issues in Latin America have received global attention in recent years. In Transparency International’s 2017 Global Corruption Barometer, more than half of the respondents from Latin America lamented that their governments were failing to address corruption — and almost two thirds of respondents felt corruption had risen.
After a series of political shakeups, the region’s governments are taking increasingly active steps to address corruption issues, win back confidence and restore promising pipelines of infrastructure projects for investors.
Between 2016 and 2018, each of the six largest infrastructure investment markets in the region, the “LAC6” (Brazil, Mexico, Colombia, Argentina, Peru and Chile), passed either a whistle-blower law or a significant anti-corruption law at the federal level to combat graft. Over and above these, measures have been taken across the region to strengthen the transparency and independence of both political and financial institutions. Brazil and Peru have passed laws mandating anti-corruption training or compliance programs for corporates, while Mexico and Colombia have entered into international agreements that include provisions for anti-corruption.
Some Countries Are Stepping Up
To ensure their anti-corruption measures translate into investment, the region’s leaders are working to establish a robust pipeline of projects and an attractive investment environment with active capital markets. Brazil, for example, has taken the impressive step of mandating that its national development bank, BNDES, reduces its prominence in the country’s loan markets, opening up opportunities for more private sector participation via domestic capital markets. Colombia and Argentina have also passed significant reforms to unlock access to certain kinds of capital previously barred from the infrastructure space by regulation.
Despite this promising progress, governance issues remain a serious concern for investors looking at the LAC (Latin America and Caribbean) region’s infrastructure: In a recent Mercer-IDB Group survey of institutional investors regarding investing in LAC infrastructure, the two most prominent “deal-breaker risks” identified by respondents were governance risks and political/regulatory risks.
A successful engagement of investors in the region’s infrastructure will require paradigm shifts in three key areas: in the approach they use to identify and analyze infrastructure investments; in the institutional landscape they invest in; and in the instruments they deploy to mitigate or transfer unwanted risks.
Project pipeline transparency and financial instruments are allowing institutional investors greater access to local projects at acceptable levels of risks.
Sustainability Can Reduce Risk
It is possible for investors to reduce the risk level of an individual investment or portfolio by pursuing an investment approach that can truly be classified as sustainable.
The IDB has defined sustainability as those sustainable infrastructure projects that are planned, designed, constructed, operated and decommissioned in a way to ensure economic and financial, social, environmental and institutional sustainability over the entire life cycle of the project.
Private investors, sponsors and developers that plan and deliver truly sustainable infrastructure will experience reductions in governance risk, environmental risk, social risk, demand/operating risk and construction/completion risk for their projects. In return, this will provide an element of mitigation against political and regulatory risk, as projects highly aligned with countries’ policies and priorities as well as supporting sustainable development and local communities would be perceived as less vulnerable to political volatility.
Evaluate the Institutional Landscape
Private investors could improve management of governance and political risks by focusing on the institutional capacity of the countries they invest in. One tool to this aim is Infrascope, a benchmarking index commissioned by the IDB that evaluates the capacity of countries to implement sustainable and efficient public-private partnerships. Indeed, LAC countries’ average score (58) is slightly higher than the global average (56); however, their scores lag in the “institutional framework” and “investment climate” categories.
Furthermore, investors could award countries that are transparent and publicly share repositories of information about current projects and the longer-term pipeline: Proyectos Mexico and Projeto Crescer in Brazil aim to increase access to information for domestic and international investors by channeling documents and project information in a single repository and by tracking projects’ development.
Make Sure You Have the Right Instrument
When it comes to making projects as bankable as possible, selecting the right financial and risk transfer instruments for projects in the region is as important a decision for investors as choosing the right approach or identifying enabling investment.
There are a range of instruments that can transfer or share investment risks and increase investor confidence — including co-investment financial instruments, risk mitigation schemes (such as guarantees) and insurance products (such as political risk insurance). Among the instruments with the highest potential for private capital mobilization, B-bonds are co-investment financial instruments issued by infrastructure project companies (special purpose vehicles) and structured by IDB Invest.
Hopeful Signs Ahead
Despite a challenging landscape, the foundations laid by various LAC6 governments have created a renewed interest from investors in the region and globally: Increased transparency and visibility of project pipelines together with more financial instruments are allowing institutional investors greater access to local projects at acceptable levels of risks.
There is no room for complacency, however — a period of political, legal and regulatory stability still needs to follow the recent changes to ensure that the corner has truly been turned.