lessons from world bank group responses to past financial...

Lessons from World Bank GroupResponses to Past Financial Crises

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Lessons from World Bank GroupResponses to Past Financial Crises

Evaluation Brief 6

December 2008The World BankWashington,DC

©2009 Independent Evaluation GroupKnowledge & Evaluation Capacity DevelopmentThe World Bank1818 H Street, NWWashington, DC 20433 USAE-mail: [email protected]: 202-458-4487Fax: 202-522-3125http://www.worldbank.org/ieg

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v Preface

vii Acknowledgments

ix Summary

1 Chapter 1 Context

5 Chapter 2 World Bank Responses to Crises: Findings and Lessons

13 Chapter 3 IFC Responses to Crises: Findings and Lessons

19 Chapter 4 Lessons from MIGA Activity during Crises

21 Chapter 5 Conclusion

Contents

v

Preface

The current financial crisis differs from pastcrises in many respects—its roots in the financialsystems of developed countries, its global reach,and its effects on both middle- and low-incomecountries. Despite these differences, some of thelessons from past World Bank Group (WBG)responses to crises have relevance today. Thoselessons are the subject of this paper.

A review of the experience finds that programsthat focused on areas of World Bank strength—whether public finance, social safety nets, trade,or infrastructure—were much more successfulthan those that tried to cover a broad range oftopics. Customizing policy advice to a countrywas as important as assuring technical quality. Italso finds that poverty in financial crisis did notget sufficient attention, and that it pays to factor itin from the beginning rather than later.

Collaboration across sectors and among theWBGand partners has proven crucial, not only tomaximize synergies but also to avoid unproduc-tive tensions. Preparedness, timeliness, appropri-ateness of instruments, and continuity offollow-on operations have been determinants ofeffectiveness. These aspects can be strengthenedthrough organizational arrangements.

From evaluations as well as other findings,several factors emerge as vital in today’s crisis:

• Speed and quality. Both the speed of the re-sponse and the quality of the intervention arecrucial. There are examples of quick WBG re-sponse that can be built on. Quality encom-passes a content dimension—for instance, thevalue of focusing on public expenditure issuesor integrating social safety programs from theearly stages of any effort.

• Preparedness and early warning. The valueof preparedness is likely to emerge as evenhigher during the current crisis relative to pastepisodes. A more effective mechanism thancurrently exists seems to be needed for earlywarning of crises; theWBG could workwith theInternational Monetary Fund on its design andimplementation.

• WBG resources. To achieve an adequate andhigh-quality response may well require reliev-ing constraints on budget allocations andstaffing skills, as well as broader constraints, in-cluding through a greater leveraging of WBGefforts with partners.

• Monitoring, evaluation, and reporting. Withthe premiumon speed, results frameworks thatlink objectives, program costs, and benefits take

on added, not lessened, value. The focus onresults is evenmore important when resourcesare scarce.

• Fiduciary concerns. Financial and risk man-agement as well as environmental and socialsafeguards will continue to be vital to ensurethat scarce resources reach intended benefi-ciaries and that negative consequences areavoided.

• Poverty and social safety nets. During pastfinancial crises, poverty issues did not get suf-ficient attention. It is crucial to factor in the im-plications for social safety nets from thebeginning of the crisis rather than later.

• Environment and climate change. Climatechange and environmental problems need tobe factored into any crisis responsemuchmorecentrally than before. TheWBGmust build onthe recent momentum in mobilizing funds toaddress climate change and to foster greenerdevelopment activities.

These are enormously difficult times. It is criticalthat the actions of countries and the interna-tional community match the challenges not onlyin speed and scale but also in quality and impact.

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EVALUAT ION BR IEF 6

Vinod ThomasDirector-General, Evaluation

v i i

Acknowledgments

This paper is based on a detailed backgroundpaper reviewing past World Bank responses tocrises prepared by Manuel Peñalver-Quesadaand other background work by Jim Hanson, aswell as on substantive contributions fromseveral other IEG staff and consultants. CherylGray, Jaime Jaramillo-Vallejo, Ali Khadr, andStoyan Tenev were responsible for shaping andfinalizing the draft based on the various inputs.Other contributors include (in alphabeticalorder) Sidney Edelmann, Aurora Medina Siy,Sona Panajyan, Carolina Rojas-Hayes, CherianSamuel, Marvin Taylor-Dormond, ChristineWallich, and Izlem Yenice. The work was con-

ducted under the overall supervision andguidance of Vinod Thomas.

Additional comments, inputs, and suggestionsat various junctures in the preparation of thepaper were provided by Amitava Banerjee, ArupBanerji, Shahrokh Fardoust, Monika Huppi,William Hurlbut, Anjali Kumar, James Sackey,Mark Sundberg, and Stephan Wegner, as well asby the managements of the World Bank, IFC,and MIGA. Heather Dittbrenner edited the finaldocument, and Corky de Asis and Geri Wiseprovided administrative support.

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Summary

The ongoing financial crisis in the United Statesand other developed countries is spreading tothe developing world, middle- and low-incomecountries alike, threatening years of progress inpoverty reduction. The World Bank Group isuniquely positioned to help clients confront thecrisis and mitigate its adverse effects. The institu-tion is planning a vast scale-up in support in thepresent crisis.

Experiences with past crises bring out substantialdifferences in the effectiveness and results ofBank Group crisis support. With importantmodifications to reflect contextual differencesbetween present and past events, these lessonscan inform today’s response and help improveresults. One such contextual change is theincreased urgency of simultaneous actions to dealwith the environment and climate change.

World BankPrior crises led to large temporary increases inBank lending, often underpinned by ambitiousprograms of policy reform. Experience, forexample, during the events of the 1990s, pointsto three broad areas requiring close attention:

• Quality, focus, and selectivity. The speed andquality of Bank response are both crucial forgood outcomes during and after crises. Past cri-

sis support was much more successful when itwas nested in a results framework (explicit orimplicit) that incorporated post-crisis recovery,had selective coverage, and focused on theBank’s comparative strengths, for example, fis-cal and public expenditure policies. It is vital toattend to poverty dimensions from the outsetof a crisis, and not only in later stages. Cus-tomizing policy advice to the country context isas important as assuring its technical quality.

• Financing modalities and organizationalarrangements. Programmatic DevelopmentPolicy Loans (not available in previous crises) canusefully address crisis needs. Additional instru-ments may also be needed for initial liquiditysupport as part of multipartner packages. In-ternal organizational arrangements canmake abig difference, as they affect the degree of pre-paredness, cross-sectoral coordination, timeli-ness of response, and appropriateness ofinstruments—all factors in getting results.

• Coordination with partners. Coordinationamong key partners is critical, as differences ofview surface quickly during crises and are po-tentially damaging to results. Collaborationacross the Bank Group (Bank, International Fi-nance Corporation [IFC], and the MultilateralInvestment Guarantee Agency [MIGA]) alsostrengthens program effectiveness, althoughevaluations found little evidence of joint effortsduring past crises.

IFCWhile the flow of new IFC investments tended tofall sharply in the immediate wake of past crises,these events helped transform IFC’s businessmodel toward a broader range of investment andadvisory services and increased field presence.Evaluations suggest the need for close attentionto the following areas:

• Nature and timing of IFC investments. Devel-opment success rates in projects approvedpost-crisis were on average 25–30 percent higherthan in those approved pre-crisis. IFC’s addi-tionality is stronger following a crisis and is as-sociated with better development results. KeyIFC interventions—investment in flagship com-panies, visible restructurings ofmajor industrialclients, or large syndications of commercial bankloans, for instance—that capitalize on its repu-tation as an investor and honest broker canhave a strong signaling effect that helps restoremarket confidence, particularly if announcedat thepeakofmarket uncertainty. Conversely, fail-ure to deal decisively and expeditiously with itsown problem projects can undermine IFC’s ef-fectiveness in responding to crisis.

• Opportunities and constraints for bigger im-pact.Crises can present opportunities to reachnew clients and to be rewarded for risk taking.However, opportunities are often missed be-cause staff attention was diverted and becauseof efforts to restructure existing projects, whichundermines IFC’s ability to function as a coun-tercyclical financier. Separating work-out andnew-business teams may help, in addition tofacilitating collaboration among Bank and In-ternational Monetary Fund (IMF) teams. Thequality of a country’s bankruptcy regime andits enforcement is a key driver of how effectiveIFC’s response is to restructuring needs dur-ing crises.

• IFC’s internal practices. Speed of response iscritical: IFC’s effectiveness was better when itacted quickly to adapt its strategies, programs,and exposure to deteriorating economic con-ditions. Furthermore, projects approved orrestructured in crises were more likely to besuccessful when they were conscientiouslydocumented and embodied conservative as-

sumptions (for example, on the availability ofcomplementary sources of finance).

MIGAEvaluation work suggests that transparent,competitive tendering of infrastructure, built-inflexibility for mutually agreed contract modifica-tion, and good fit with Bank country strategiesand sector policies enhanced resilience of MIGA-supported projects during crises. Twenty-fivepercent of the total volume of MIGA guaranteesissued between 1995 and 2002 was in crisis-affected countries—Argentina, Brazil, Pakistan,Indonesia, Ecuador, the Russian Federation, andTurkey—directed mostly to the financial sectorand infrastructure.

MIGA’s risk-mitigation capacity was tested bythese crises, during which two of the three claimsin MIGA’s entire history were paid. Political risk—mitigation of which is MIGA’s mandate—is oftenheightened during crises, and infrastructureprojects that are inadequately structured orawarded in a nontransparentmanner were partic-ularly vulnerable to political risk events.

*****

The present financial crisis is in many respectsunprecedented, and the global economiccontraction that it has triggered is leading to arapid rise in unemployment and swelling theranks of the poor. Bank Group provision of crisissupport to low- and middle-income countries(MICs), particularly in concert with otherdevelopment partners, can help confront theseverity of the economic slowdown and its socialimpact. At the same time, given the limitedavailability of resources and their leveragingrole—as well as the downside from theirpotential misuse—every effort must be made tomaximize the development effectiveness of theBank Group's crisis support. Every crisis isunique, and evaluative lessons from past crisisresponses cannot yield precise guidance fordelivering effective crisis support today. Theycan, however, point to crucial factors that maymake a difference to the effectiveness of today'sresponse.

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CHAPTER 1

Context

A worldwide financial crisis of enormousmagnitude continues to unfold rapidly. Unlikeother crises in recent decades, the currentepisode is rooted in industrial countries’financial systems and is affecting low-incomecountries and MICs alike. Defaults on securitizedsub-prime mortgages as a real estate marketbubble burst led to failures or near-failures ofseveral large financial institutions and a collapseof inter-bank and commercial paper markets. Atightening of credit, combined with decliningconsumer confidence, has brought onworldwide recession with growing unemploy-ment, and many fear that the downturn will besevere and protracted. At the same time, therapidly multiplying signs of contraction areprompting strong responses, including fiscalstimulus packages and reductions in benchmarklending rates, on the part of several of theaffected developed countries.

Many developing countries, both IBRD- and IDA-eligible, have already been hit, despite theirmaintenance—as a general but not universalrule—of improved macroeconomic and tradepolicy stances and healthier financial sectorscompared with previous decades. New externalfinancing flows to them, including export credits,have declined sharply, and foreign debt andequity funding is being withdrawn from many ofthem. Developing countries’ export growth isalready slowing, in turn reducing growth in theiroutput and income, and the situation promisesto worsen further.

In general, developing countries’ financialsystems do not feature substantial trading inderivative instruments of the kind that createdproblems in the industrial countries, although

some banks and governments have used futurescontracts. Initially, the hardest hit countries havebeen those that were more open to externalinflows, export-oriented, characterized by weakfinancial sectors and/or excessively dependenton external finance. But eventually the crisis willhurt all countries and challenge their macroeco-nomic policy and financial sectors.

These adverse effects on developing countries—on top of the spike in food and energy pricesearlier in the year—threaten to reverse thesubstantial gains in poverty reduction of the lastfew years. Experience suggests that whethercrises start in the real or the financial sector, theyhave negative effects as a result of the deteriora-tion in nutrition, education, health care, andsocial spending. Moreover, there is a risk that atleast some countries will react to the crises withprotectionist policies and/or with policies thatstem or even reverse recent progress on theenvironmental protection and climate changeagenda, leading to a further negative impact ongrowth over the long term.

The Independent Evaluation Group (IEG) foundthat in the decade of 1993–2003 there werecrises1 in 17 countries during which they receivedcrisis-related support from the Bank, startingwithMexico and Argentina in the early 1990s andfollowed by Jamaica and then Thailand, Indone-sia, and Korea in 1997. (Malaysia also experienceda smaller crisis but received no support from theBank.) Crises also broke out in Russia, Brazil,Bulgaria, Bolivia, and Ecuador. In 2000–02, therewere also crises in Argentina, Guatemala, Turkey(which had had prior crises in 1994 and 1999, andUruguay. Beyond this definition, other countriesalso experienced repeated episodes of sector-

specific financial crisis. For example, Mongoliahad banking crises in 1992, 1994, 1996, and 1998(IEG 2006).

Evaluation Can Help Inform theWorld Bank Group’s Response tothe Current CrisisThe Bank Group is well placed to help mitigatethe impact of the current crisis with financingand advisory services, and its clients are alreadyrequesting increased support. A rapid, high-quality response that combines financial andadvisory support can do much to ease theinevitable ramifications of the crisis. Lessonsfrom evaluations of previous Bank Groupresponses to past crises can help inform theresponse to the current crisis in order to increaseits effectiveness.

IBRD is gearing up to increase lending to $35billion in FY09 (compared with some $13.5billion in FY08), of which at least $15 billioncould be crisis related. By front-loading IDAcommitments, funding volumes for low-incomecountries could similarly increase substantially.With such large increases being contemplated,the challenge will be to ensure quality anddevelopment effectiveness of the additionalIBRD and IDA funding, as well as its complemen-tarity with the support provided by otherpartners, particularly the IMF. Speed of responseis also of the essence, of course.

IFC’s likely response to the current crisisencompasses a range of measures coveringfinancial and real sectors and including invest-ments as well as advisory services. IFC is planningto provide advisory services to financial institu-tions to strengthen their capability to withstandcrisis conditions and to strengthen their financialposition. The planned response also includesprograms to provide short-term finance (includ-ing trade finance) to the real sector. IFC willprovide capital to vulnerable banking systemsthrough a Recapitalization Fund, which wouldinclude contributions from IFC and other donorsand would recapitalize distressed banks, whichmay have a systemic impact.

Through the Bank Group’s past crisis responseexperience has considerable relevance to itsresponse to the present crisis episode and canhelp inform it, contextual differences betweenthe present and past crises must be factored in.Crucially, the environmental and climate changeagenda has much greater urgency today than adecade ago, in part reflecting heightenedconcern (and to some extent understanding) oflikely irreversibilities and catastrophic shifts inthe absence of strong, sustained action. Giventhis change in context, it would be critical thatthe Bank Group continue to build on the recentmomentum in this agenda during its response tocrisis, as it has shown recent signs of doing.

In turn, this may entail an imperative to look forways for the Bank to link its crisis fundingsupport to concrete efforts to foster greenerdevelopment activities, for example, throughrenewable energy development, with IFC andMIGA providing complementary support to theprivate sector. In a similar vein, the greater reachof disruption that characterizes the present crisiscompared with more regional or individual-country crises in the past may affect IFC’scapacity to fund its operations and to mobilizeprivate financing from developed economies,because the vulnerable positions of majorinternational financial institutions in developedand emerging markets may prevent them fromfulfilling their roles as co-financiers. IFC maytherefore need to focus on smaller projects andwork more closely with other developmentpartners.

Note1. IEG evaluations have noted that there is no agreeddefinition of what constitutes a crisis. See IEGReview of World Bank Assistance to FinancialSector Reform (henceforth IEG 2006) and Develop-ment Results in Middle-Income Countries: AnEvaluation of the World Bank’s Support (herein-after IEG 2007). IEG 2007 referred to crises as“abrupt and disruptive events—involving acuteproblems in the exchange rate, the banking system,or the external debt—[that] carried considerablecosts in terms of economic recession and a worsen-

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LESSONS FROM WORLD BANK GROUP RESPONSES TO PAST F INANC IAL CR I SES

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ing of poverty conditions.” IEG 2006 identified traitsof typical crisis situations where there was “… botha banking crisis and a macroeconomic crisis, eithersimultaneously or in quick succession. The run onbanks resulted in illiquidity and required govern-ment action, and the macroeconomic crisis led to a

large devaluation. The combination of eventscreated problems for the corporate sector, whichcould no longer service its loans, creating furtherpressure on the banks and affecting outputsand investments; growth dropped and povertyincreased.”

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CHAPTER 2

World Bank Responses to Crises:Findings and Lessons

Patterns in Past World BankCrisis ResponsesTwo major IEG evaluation reports (IEG 2006 and2007) summarized lessons from previous crises.In addition, IEG conducted evaluations fromindividual country episodes, particularly forcountries affected by the East Asia crises of1997–99 (Indonesia, Thailand) and othercountries in Eastern Europe (Russia and Turkey)and Latin America (Brazil, Mexico, Argentina, andColombia). This section distills lessons from pastcrisis-related interventions on the Bank’s part,drawing largely on already completed IEGevaluations.

Increased LendingThe Bank’s response to past crises included alarge but temporary increase in lending, much ofit fast-disbursing, supporting a broad range ofreforms. In the 1980s, lending to address theeconomic difficulties of several countries wasalready high: Turkey, for example received fiveadjustment loans during the 1980s and totallending volume exceeded a billion dollars a yearfrom 1986 to 1989, helping create a substantialincrease in economic growth (although newlyemerging internal imbalances led to a new crisisepisode in 1994).2 During the 1990s, the level ofBank assistance to crisis countries increasedsubstantially in absolute terms, but was modestas a share of the total size of the rescue packagesand fell back to its previous levels soonthereafter. During the period 1993–2003, theBank provided about $21 billion in financialassistance to crisis countries (IEG 2006, page 40).

The largest amount for a single country was forKorea, with $7 billion, and the second largest was

the 1998 Argentina package of $3 billion (a $2.5billion Special Structural Adjustment Loan plus a$500million guarantee).3 Crisis lending to Turkeywas more than $2.5 billion; Thailand and Indone-sia received more than $2 billion each. In thecase of Russia, the actual amount of Bank lendingrelated to the crisis is more difficult to calculate:the Bank pledged $6 billion as part of the interna-tional rescue package but disbursed a muchsmaller amount, and there were large restructur-ings and cancellations of existing loans; as aresult, the total amount outstanding onlyincreased by $500 million during the 1998–2000period (from $6.3 to $6.8 billion).

In aggregate terms, the extraordinary level offinancial support provided by the Bank duringthe years of the “East Asia–plus” crisis can beseen from the trends in adjustment lendingbefore, during, and after the crisis. From FY95 toFY97, total adjustment lending remained at anaverage of about $5 billion per year. Adjustmentlending more than doubled in FY98 (to $11billion) and increased by a further 50 percent inFY99 (to $15 billion).4 By FY00, adjustmentlending returned to the pre-crisis level of about$5 billion.

The large lending levels of the 1998–2000 periodled to a big spike in total Bank commitments anddisbursements (and, in turn, created short-termfinancial difficulties because of the high levels ofloan loss provisions that they required in theBank’s balance sheet) before returning to adeclining long-term trend. In relative terms,however, the Bank contribution was in somecases modest relative to the total size of therescue packages. In the case of Korea, the size ofthe total package was $58 billion. Of this, the

Bank pledged $10 billion, or about 17 percent(total disbursements were lower, for the totalpackage and the Bank’s component).5 InThailand, the August 1997 rescue packageamounted to $17 billion, with the Bank pledgingslightly over 10 percent, although it eventuallycontributed a somewhat larger share.

Policy DialogueThe increased lending to crisis countries wasaccompanied by broad-ranging policy dialogueand conditionality in the adjustment loans. Therewere multisector operations as well as loansfocusing on the financial sector, on macroeco-nomic adjustment, fiscal reform, corporatedistress and restructuring, social security, andpoverty alleviation. Many operations had a signif-icant number of conditions, especially when theywere multisector. While the policy reformssought were needed, and several countriesintroduced them successfully, evaluationsindicate that some others were not prepared totake some of the reformmeasures. In a few cases,the proposed reforms did not take countryconditions fully into account or may have beenoutright counterproductive.

Effectiveness of Crisis SupportWorld Bank loans were generally successful insupporting financial and some public sectorreforms, but the poverty focus was insufficient.There were attempts to protect pro-poorspending and reduce the poverty impact of thecrises (Brazil and Thailand), but overall attentionto this area was insufficient. There were alsodisagreements with the IMF on exchange ratepolicy (Mexico and Russia), on the scale ofmacroeconomic adjustment (Indonesia andThailand), and onwhat balance to strike betweenshort-term crisis management imperatives andmeasures to alleviate corporate distress(Thailand). Evaluations also found that the loanswere excessively ambitious in the range ofproblems they tried to tackle and in the largenumber of conditions they included. In addition,there were problems in several aspects of theBank’s institutional response to crises. These

included poor cooperation between the Bankand the IMF (and with regional banks), as well asamong several units within the Bank.

Poverty AlleviationCrises pose a major threat to themore vulnerablesegments of society, because of the recession andrising unemployment that usually accompany acrisis, as well as because of the curtailment ofgovernmental social programs as a result of thefiscal adjustment that often is required in theaftermath of a crisis. IEG 2007 (on support toMICs) noted that “deficiencies in crisis prepared-ness were particularly evident in the area ofpoverty.” One qualification, however, is that crisis-related support from the Bank in other cases thatpost-date the crisis episodes covered in thispaper—typically instances where the crisis wasconfined to the recipient country or fewcountries—has not been systematically evaluatedin terms of the effectiveness of how povertyconcerns were handled.

Evaluations of the experience in Brazil, Russia,and Thailand show that in none of the threecases did the Bank have contingency plans thatwould have allowed the rapid launching ofprograms to strengthen the social safety net. InRussia, where the impact on poverty was themost dramatic, the Bank’s previous work onsocial protection had been mainly focused onpension reform and the labor market conse-quences of the restructuring of state enterprises,but the Bank was unable to interest the govern-ment in setting up formal protection mech-anisms that could serve as a safety net. In theother two countries, the Bank’s experience wasbetter. In Thailand, albeit with a year’s delay, theBank responded to the authorities’ concerns andapproved a Social Investment Loan thateffectively supported the poverty alleviationprograms that had been set up by the govern-ment or by local private and voluntary organiza-tions. In Brazil, the Bank emphasized socialprotection andmoved rapidly in the aftermath ofthe crisis with a budget support loan that specif-ically protected 22 relevant programs from thebudget cuts that the government was making.

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Both initiatives proved fairly successful and wererated as satisfactory.

In sum, given the centrality of poverty alleviationin the Bank’s work and the adverse conse-quences that crises have in this regard, a majorpoint of focus in its crisis interventions shouldbe to facilitate the protection of vulnerablesectors and/or groups from adverse crisis-relatedimpacts. Advance work could be done incountries at risk to define and prepare contin-gent social protection measures—support forunemployed heads of households, food pro-grams, and school subsidies, for instance—to bedeployed at a time of need.

Macroeconomic Policy and StabilizationThis critical aspect of the policy response tocrises will continue to be relevant in the presentepisode. In spite of a long tradition of Banksupport for stabilization efforts under the aegisof an IMF program or with that institution’scomfort, and the frequent use of adjustmentlending for this purpose since the early 1980s,some experiences in the late 1990s show mixedresults and the need for better cooperation withthe IMF. Support for stabilization was mainly theresponsibility of the IMF, and the Bank played alimited role in this area. Nevertheless, disagree-ments emerged between the two organizations,for example, on the exchange rate policy inMexico and Russia6 and on overall macroeco-nomic adjustment in Indonesia and Thailand.7

Although many countries have improved theirmacroeconomic performance during the lastdecade, as global credit tightens and interna-tional trade slows down, support for and discus-sions about the adequacy of macroeconomicpolicies will regain importance.

Trade PolicyTrade policy reforms were an important elementin earlier crises episodes but were much lessimportant during the crises of the late 1990s, asconsiderable improvements had taken place intrade liberalization worldwide, particularly in theEast Asia countries. Previous support for trade

reform was particularly important in LatinAmerica and Africa. In the current scenario, tradepolicy is amajor source of concern in the industri-alized countries, but a slowdown in internationaltrade (and in trade financing) may generate areturn to increased protectionism and mayrequire attention by the Bank.

Fiscal and Public Sector ReformFiscal and public sector reform is one of the areaswhere the Bank has had the longest experiencein supporting countries experiencing crisissituations. This includes a long list of adjustmentoperations in all regions since the early 1980s.In Turkey, where the three crises between 1994and 2001 originated from substantial fiscal im-balances, the Bank supported fiscal reforms inthe three occasions, unsuccessfully the first timeand more successfully in the two subsequentcrises. Assistance for fiscal and public sectorreforms was an important part of Bank lendingin several crisis countries in the late 1990s. InBrazil two of the five crisis loans were focusedon fiscal reforms (the other three focused onsocial security and social protection). In Thailandone loan was a Public Sector Reform Loan,and several other operations included publicsector reform objectives. In Colombia fiscaladjustment operations followed interventions inthe financial sector.

The Bank’s experience and the willingness ofgovernments to make some unpopular decisionsduring crises have accounted for many successfulBank interventions, at least in the initial phases.Also, the reforms needed at the early stages lendthemselves easily to support through quick-disbursing operations. Later stages of the reformsrequire more complex institutional actions (forexample, civil service reforms) and thus are morechallenging. Some unsuccessful cases (such asRussia’s 1998 crisis) suggest that the need forurgent liquidity support may have led the Bank toparticipate in support packages under fiscalconditions that were unsustainable.

In sum, experience suggests that Bank supportfor fiscal and public reforms does better when


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there is a focus on structural issues related to thequality of public expenditures—including thetargeting of pro-poor spending and the efficiencyof the revenue system—and extends beyond theinitial response to the crisis; objectives in theearly stages should be modest.

Financial SectorUnderlying weaknesses in the countries’ finan-cial sectors were the initial cause of some of theearlier crises. In other cases they were a con-sequence of the crisis (because of the economicslowdown and corporate distress) and/or wereexposed after an external shock created addi-tional financial stress. Under both sets of circum-stances, financial sector stress, failures of bankand nonbank-financial institutions, and the needfor regulatory reforms and financial sectorrestructuring were features of most crises.

The major finding of the IEG evaluations of 37operations in 14 countries was that the Bank’ssupport achieved its objectives in many cases,but the success rates of the loans includingsupport for financial reforms during crises werelower than for similar financial sector reforms innoncrisis situations. The Bank paid insufficientattention to financial sector issues in severalcountries in the years prior to the crises (Mexico,Thailand, and Korea) or had underestimated thewarning signals and been excessively optimisticin others (Indonesia and Turkey).

The financial sector reforms supported undermany of the crises loans were extensive andsimilar in nature and scope to those of loanssupporting “noncrisis” reforms; yet the opera-tions were designed quickly and often based onthe promise of reforms that in some cases didnot take place (for example, Indonesia). Someof the specific reforms supported were, inretrospect, considered counterproductive (forexample, the closing of most finance companiesin Thailand). And even when satisfactoryfinancial sector reforms were implemented bythe government, the Bank’s contribution was

limited because it was delivered too late(Colombia); better preparation and more timelyinputs could have contributed to faster reformsand lower crisis costs. Overall, the broad scopeand ambitious objectives of many financialsector Bank loans and potential conflict with thespecific circumstances and needs of multidonorrescue packages also raise questions related toloan design and adequacy of instruments.

IEG also evaluated the Financial Sector Assess-ment Program (FSAP) in late 2005;8 at that timemore than 109 country assessments and 18updates had been completed or were ongoing.The FSAP consists of diagnostic studies to facili-tate early detection of financial sector vulnerabil-ities and identification of financial sectordevelopment needs. The evaluation found thatthe FSAP is a good quality diagnostic mechanismand that the overall concept for the program wassound, facilitated Bank-IMF collaboration, andallowed for an integrated approach towardfinancial sector vulnerabilities and developmentneeds while expanding the depth and quality ofanalytical expertise. IEG’s findings on FSAPswere recently confirmed through a self-assess-ment by the Financial and Private SectorDevelopment (FPD) Sector Board.

The IEG evaluation found some weaknessesand limitations in the FSAP, including countryselection (the voluntary nature of the programlimits its overall effectiveness in identifyingsystemic risks), poor prioritization of the manyrecommendations (which limited the impact ofthe overall program), and uneven coverage ofspecific sectors (better for the banking sectorthan for nonbank financial sectors). Overall,however, the experience with the FSAP shouldfacilitate the response to the financial sectoraspects of the current and future crises. In sum,the quality of assistance to financial sectorreforms would have benefited from greaterattention to country-specific issues and fromgreater realism in conditionality; increasedcoordination with the IMF (mainly through theFSAP program) since then will undoubtedly

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have helped. Financial sector reform is nowrecognized as more of a process and less of asingle cluster of reforms, and so may benefitfrom multiple follow-up loans after initialsupport with low conditionality.

Corporate Distress and Regulatory ReformSupport for regulatory and institutional reform,including enterprise restructuring, was a majorthrust of Bank assistance to the transitioneconomies (including Russia) following thecollapse of the Soviet Union in 1991 and theprotracted crises that these economies experi-enced throughout the 1990s. Results of Bankassistance in this area were mixed. During theEast Asia crisis, the issues of corporate distressand restructuring and their interaction withshort-term crisis management became mostimportant in the case of Thailand.

Arguably, some of the initial macroeconomic(and financial sector) reforms supported by theIMF and the Bank exacerbated the level ofcorporate distress (unnecessarily so in a contextwhere the fiscal situation was not a major issue).More importantly, attention to corporaterestructuring issues took too long to emerge,and the lack of adequate knowledge of thecountry’s legal framework led to inadequateadvice.9 The major lessons are the need foradequate country knowledge, for early attentionto corporate distress, and for awareness of thetensions between short-term crisis managementmeasures and medium-term regulatory andstructural reforms that can mitigate the impacton the corporate sector, and thus on output andemployment.

Areas of Attention for the Bank’sCurrent Crisis Response

Selectivity and Areas of FocusThe evaluation findings suggest that it is prefer-able for crisis support from the Bank to have aselective rather than broad focus, to be

embedded in a medium-term results frame-work, and to focus on the Bank’s comparativestrengths. Because crises touch a wide range ofareas, the instinctive reaction may be to seek toaddress a broad set of issues and reflect this inwide-ranging conditionality under crisis loans.Past crisis lending often featured a broad rangeof conditionality. But a more selective approachwas generally more successful, notably in loansdirected at the financial sector. Programs with awell-defined results framework and selectiveconditionality tended to be more successfulthan those with front-loaded conditionality.10

Crisis lending was also less successful when itinvolved areas outside of the Bank’s compara-tive strength: for example, loans emphasizingmacroeconomic conditions were less successfulthan those focused on public expenditures.

Equally, it is important for the Bank to maintainfocus on growth and poverty from the outset of acrisis. As noted earlier, previous Bank attention topoverty and social impact showed good results inBrazil and Thailand. But these central aspects ofthe Bank’s mission received insufficient attentionin other cases, where Bank support was sprinkledacross too many areas. Criticisms of the Bank’scrisis lending had already centered on its insuffi-cient emphasis on growth and poverty issues inearlier episodes (adjustment lending in the1980s). The Bank could play a stronger role thanin the past in addressing growth and povertyreduction, its areas of comparative advantage,within a multipartner crisis package.

The customization of policy advice to the specificcountry context at hand is as important as itstechnical quality. Effective policy advice requiresdepth of both country and technical knowledge,and a blend of the two. Solutions tailored tocountry circumstances were generally moresuccessful than generic advice, even where thelatter was state of the art. Some of the advice onfinancial sector and corporate restructuringissues in Thailand was ineffective (or evencounterproductive) because it was not suffi-ciently grounded in country knowledge.


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Financing Modalities and OrganizationalArrangementsNew instruments, notably programmaticdevelopment policy loans, may help addresssome crisis needs, particularly in the post-crisisrecovery. Others, such as the Deferred-Drawdown Options, could be used as precau-tionary tools, but not in crisis situations. Thus,appropriate instruments for initial liquidityassistance as part of the rescue packages, and therole of the Bank in these packages, still needattention, particularly as the financial share of theBank in the packages may be even smaller thanin previous episodes (for instance, about 5percent of the package for Hungary).

The Bank’s internal organizational arrangementsin crisis response situations need attention toensure preparedness and timeliness of response.Crises put high demands on, and require closecoordination among, many parts of the Bank.Organizational arrangements that preserve agility,draw on a broad range of resources, andmaintainclear accountability lines are essential. The Bank’sresponse to the Asian crisis during 1997–2000provides lessons: Regional management wasoverwhelmed by client country demands andcould not mobilize sufficient skilled staff. TheSpecial Financial Operations unit established atthat time provided additional expertise, but onlyon financial (and to some extent corporate)sector issues. It did not cover other areas, includ-ing those central to the Bank’s mandate (growth,poverty impact). Also, the unit had limitedcountry knowledge and was not accountable tothe regions. Bank response to the current crisiscould benefit from an arrangement whereby theregions can have easy access to the technicalexpertise in the Bank’s areas of comparativestrength, while maintaining their accountability.

Coordination among Relevant DevelopmentPartnersA coordinated approach among key partners iscrucial for effective interventions. The FSAPprogram has improved coordination with theIMF on financial sector issues. However, abroader, more intensive effort is called for in

times of crisis, when differences of opinionsurface more easily on macro issues (as they didin the late 1990s) and there are tensionsbetween those, structural reforms, and povertyalleviation efforts (as it happened in theThailand case mentioned above). Furthermore,the European Union now has a major stake insome of the countries, as shown by the recentHungary package (with the European Unionproviding more than 30 percent). This suggestsa need to cultivate incentives for the Bank tofoster cooperation and establish effective linesof communication with partners. Evaluationsalso suggest that collaboration within the BankGroup (among the Bank, IFC, and MIGA)enhances program effectiveness.

Notes2. The World Bank in Turkey, 1993–2004: An IEG

Country Assistance Evaluation, IEG 2006(Chapter 2).

3. In relative terms this was the largest Bank contribu-tion (36 percent of the total support package), asthe entire financial support package was $8.3billion. The effort failed to prevent the crisis, whichpeaked in 2001.

4. Adjustment Lending Retrospective, OPCS, 2001(page 2). The so-called adjustment “jumbos”amounted to $5.3 billion in FY98 and $6 billion inFY99.

5. The largest rescue package before the one for Koreain 1997 had been the 1995 Mexico package, whichalso exceeded $50 billion. Funding for the Mexicopackage came mainly from the U.S. Treasury andthe IMF. The Bank participated later with a $1 billionfinancial sector loan; implementation was poor.

6. The Russia Project Performance Audit Report(PPAR) (February 2003) rated the outcomes of SAL Iand SAL II unsatisfactory and noted, “The Bank’sdesire to gain a seat at the policy-making tablewould have beenmore efficiently served by helpingthe IMF review the structural components of itsEFF” (page 26).

7. Indonesia PPAR (November 2003) and ThailandPPAR (January 2006). The latter notes, “The actiontaken in Thailand indicated clearly that the IMF andBank did not agree up front on some of the mostbasic principles and advice” and “the way in whichcrises are managed can compromise essentialstructural reforms” (page 28).

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8. Financial Sector Assessment Program: IEG Reviewof the Joint World Bank and IMF Initiative, IEG2006.

9. The Thailand PPAR notes, “The failure to factor intothe design of the reforms the inadequacies of theThai legal and regulatory infrastructure led toapproaches that may have increased the cost ofcleanup.”

10.This does not, of course, imply causality runningfrom the use of well-designed results frameworks tohigher success rates for Bank support: instead, itmay simply mean that results frameworks are morelikely to be drawn up and underpin Bank support incountries that maintain stronger fiscal policystances and better governance.


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CHAPTER 3

IFC Responses to Crises:Findings and Lessons

Patterns in Past IFC Crisis ResponsesOver the past 15 years, IFC has invested nearly $5billion in 27 of the more than 30 developingcountries that experienced financial crises.These investments supported portfolio com-panies, provided liquidity and equity capital forde-leveraging, modeled corporate and financialrestructuring, helped in the resolution ofnonperforming assets, and aided the re-privati-zation of nationalized financial institutions. Onaverage, IFC’s investments in a crisis-affectedcountry declined by 40 percent in the year of thecrisis relative to the year before and returned toprecrisis levels within three years. However,there were significant deviations from theaverage: IFC investments rose sharply in Korea;stayed roughly constant in Brazil, Russia, andTurkey; and fell in Argentina, Indonesia, Pakistan,and Thailand. IFC’s crisis interventions weresmall relative to the coordinated loan packagesof the IMF, World Bank, and other donors.

Past crises helped transform IFC’s businessmodel, and IFC now has a broader range ofinvestment and advisory services and is betterequipped to respond to private sector needs intimes of crises. Only a decade ago, IFC was aproject financier working out of Washington andproviding mostly nonrecourse dollar financingfor real-sector projects. Services demanded bythe private sector were different in a crisis:balance sheet restructuring instead of financingnew productive assets, corporate instead ofproject financing, short-term liquidity and tradefinance instead of medium- and long-term financ-ing, local currency instead of dollar financing.

Given IFC’s focus on project financing, itsresponse to these needs was often slow and

inadequate. The case of trade finance illustratesthe point. From fiscal 1998 to 2003, IFC commit-ted 21 trade finance facilities for a total of $542million. Of the 21 facilities, 11 were never used,and of the 10 that were used, the average utiliza-tion rate was just 27 percent. Motivated initiallyby the need to respond to crises, over time IFCbuilt up the capacity to provide these servicesand can no longer be viewed as a traditionalproject financier. Corporate finance now domi-nates IFC’s business. Within a short period oftime, the Global Trade Finance Program hasbecome a significant part of IFC’s business.Concerning local currency financing, somecapabilities have been developed, but IFC’scapacity in this area is still inadequate relative toprivate sector demand. IFC has also significantlyincreased its field presence.

Crises also expanded demand for IFC’s advisoryservices—for instance, to improve corporatetransparency by enhancing reporting accordingto international accounting standards, promotebetter corporate governance practices, enhancerisk management practices in financial institu-tions, help build financial infrastructure includ-ing credit rating agencies and credit bureaus, andenhance regulatory capacity relating to newfinancial instruments and institutions. Theseactivities expanded initially in response to struc-tural weaknesses made apparent by crises (par-ticularly during the Asian crisis) and havebecome an important part of IFC’s advisoryservices operations.

Some of IFC’s post-crisis interventions com-bined investment and advisory services. IFC’sbanking investments, for example, were oftenaccompanied by extensive advisory services

programs. Their goal was to help the banksimplement a reengineering and corrective actionprogram; upgrade their practices, systems, andtechnologies to international standards; andimprove their internal audit function andmanagement information systems utilization.11

Areas of Attention for IFC’s CurrentCrisis ResponseAcross the various crisis episodes, the nature ofcrises and the scale and efficacy of IFC’s crisisresponses have varied significantly. When takingon board the lessons of the past, one needs toaccount for the differences in the nature of thepresent crisis relative to past episodes, as well asfor the vast changes that can take place as scenar-ios unfold. The crucial questions would be howthe response can have a strong market effect anddevelopment impact while making soundbusiness sense. With this in mind, the review ofIFC’s past responses to crisis suggests that closeattention to three general areas may helpimprove the results of IFC interventions in theproximity of the present crisis: the nature andtiming of IFC crisis investments; opportunitiesand constraints for bigger impact; and IFC’s owninternal practices, notably arrangements fororganizing and conducting its work. As indicatedearlier with regard to the Bank, IFC-Bank collab-oration can also help results.

Nature and Timing of IFC Investments inthe Proximity of CrisisDevelopment results were better for projectsapproved post-crisis than precrisis. According toevaluations, IFC achieved higher developmentsuccess rates in projects approved post-crisisthan those approved pre-crisis—on average a25–30 percent difference. This finding reflectsseveral factors at work: (i) IFC operationsapproved before the crisis were not immune tothe sharp deterioration in the investment climateas a result of the crisis;12 (ii) the better results ofpost-crisis projects are consistent with thefinding that improvement in the businessenvironment (represented by beneficial changesin country credit ratings between approval and

evaluation) was a significant determinant ofbetter development outcomes;13 and (iii) giventhat IFC’s additionality, particularly financialadditionality, is stronger following a crisis, thefinding supports the thesis that higher IFCadditionality is associated with better develop-ment results.

Evaluations also indicate that visible, timelyinterventions can have a strong signaling effect.Key interventions, such as visible restructuringsof major industrial clients, first recapitalizationsof major banks, and large loan syndications havehad strong demonstration effects and positiveimpacts on market confidence (Korea, 1997;Russia, 1998; Turkey, 2001). This effect is basedprimarily on IFC’s long-term orientation, trackrecord as a reputable and successful investor inemerging markets, and ability to support keyrestructurings through honest broker leadershipin steering committees of creditors andbondholders that can signal turnaround for theentire sector and economy (as in the case of amajor bank in Argentina).

The size of the effect depends on the visibility—investments in large key flagship companies ofsystemic importance for the country such asbanks, industrials, or infrastructure companiesare likely to send a strong signal. The timing ofthe intervention is also important—announce-ment at the peak of market uncertainty can havepowerful effects, as in Korea during the Asia crisis,where IFC investment increased dramaticallyafter a period of low involvement. Anotherexample of IFC’s catalytic role can be found withrespect to Turkey. In addition to restructuringmajor companies, IFC mobilized $100 million ofits own and commercial banks’ funds in the wakeof a major financial crisis, which was an importantsignal to the markets during the recovery of thefinancial crisis. However, difficult or badlyimplemented restructuring of IFC’s own problemprojects has negatively affected its ability to playa signaling role. Some of the difficult restructur-ing cases absorbed significant IFC resources,attracted negative publicity, and inhibited IFC’sability to be more effective during the crisis(Thailand, 1997).

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Although crises may distract attention fromlonger-term objectives, they can also give rise toopportunities for expansion in strategic priorityareas. IFC’s priorities include clients in IDAcountries, micro, small and medium-size enter-prises (SMEs), and environmental and socialsustainability. In several respects, crises havelargely been MIC phenomena and affectedlarge, first-tier companies to a greater extentthan others. As a result, crises have tended toincrease IFC’s focus on MICs and large, first-tier companies in the crisis-affected countries.Compliance with environmental and socialstandards suffers when companies are infinancial distress.

On the other hand, IFC typically has greaterleverage during crisis episodes as compared withnormal times to ensure adoption of goodenvironmental and social standards whenengaging with new companies. Financial inter-mediaries that focus on lending to micro-enterprises or to SMEs generally are only mildlyimpacted by a financial crisis. This is mainlybecause their clientele is less affected by crisiscompared to large corporations. Microenter-prises and SMEs generally borrow only smallamounts in local currency, do not normally havelong-term and foreign debts, are more focusedon selling products and services with relativelyhigh demand in the local market, and can adaptmore easily to changing market conditions.

In contrast, many large financial intermediariesthat lent mainly to large corporations and/or thecrisis-afflicted country government experiencedfinancial distress because their large borrowersbecame illiquid and/or insolvent as a result of thecountry being in crisis. Small borrowers are,however, disproportionately affected by tighten-ing of liquidity during crises. Thus business anddevelopmental opportunities exist to expandsupport to micro and SMEs during crises.

Opportunities and Constraints forBigger ImpactCrises can create opportunities to reach newclients and to be rewarded for risk taking. In

Indonesia, IFC anticipated banking consolida-tion and made an early equity investment in asecond-tier bank. Five years later, a majorforeign bank acquired majority control, result-ing in a good financial return for IFC. Thedecrease in IFC’s investments immediately aftercrises reflects—in addition to factors related tothe drying up of new investment opportuni-ties—the dedication of staff time to restructur-ing existing operations. For, example, inArgentina, Indonesia, and Thailand, IFC restruc-tured investments and injected liquidity.However, difficulties in restructuring absorbedsignificant resources and negatively affectedIFC’s ability to play a contracyclical role.Establishing separate work-out and new-business teams could facilitate both restructur-ing of portfolio companies and response to newbusiness opportunities. Separate teams mayalso help avoid perceived conflicts of interestand facilitate IFC cooperation with World Bank-IMF teams. In addition, the quality of thebankruptcy regime and its legal enforcementcan have a major impact on operations after thecrisis. A working bankruptcy regime, by encour-aging cooperative out-of-court restructuringefforts among investors, has helped speedrecovery. Conversely, weak bankruptcy regimeshave been used by unscrupulous shareholdersto frustrate recovery efforts and maximizeprivate gains. In restructuring portfoliocompanies, IFC has on occasion tested thebankruptcy regimes of some crises-affectedcountries (Thailand and Indonesia). In doingso, IFC has raised awareness of structural issuesaffecting corporate restructuring and hashelped strengthen investors’ rights.

An important element of IFC’s restructuringstrategy was cooperation with the World Bank tofocus the government’s attention on suchsystemic restructuring issues faced by the privatesector (Indonesia and Thailand, 1997). Unfortu-nately, in the end bankruptcy regimes did notimprove much, which limited general investors’interest and limited the effectiveness of IFC’sinterventions predicated on the existence ofrestructuring opportunities (for example, anequity fund was much smaller than originally


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expected and ended up invested mainly ingrowth opportunities, not restructurings).

IFC’s Internal Business PracticesIn many cases, the effectiveness of responsedepends on its being preceded by a progressivesequence of steps to adapt to the outbreak andspread of crisis. Timeliness, size, and relevance tocountry and business needs were distinctly betterwhen IFC had (i) recognized signs of deteriora-tion in economic conditions, (ii) adapted countrystrategies to changing circumstances, (iii)adjusted investment approaches by becomingmore selective and worked—including throughadvisory services—with companies less vulnera-ble to currency fluctuations or with familiarsponsors, and (iv) taken measures to alleviateexposure constraints (Brazil, 2002; Turkey, 2001).Conversely, IFC’s effectiveness during a crisis wasimpaired when it had not adjusted the projectmix to economic deterioration (Argentina, 2001).

Protracted periods of economic uncertainty, as inBrazil in the late 1990s and early 2000, gave IFCmore time to adjust its approach. In Brazil, whereIFC was facing exposure constraints at the time,four equity investments were poorly timed justbefore the real devaluation in January 1999.Brazil continued to have debt issues for sometime after the devaluation and its growth washurt by the slowdown in neighboring Argentina.The Bank Group’s Country Assistance Strategiesfor 2001 and 2002 reflected Brazil’s uncertainprospects.

An exception to the exposure guideline in FY02allowed IFC to play a larger contracyclical rolewith 15 new approvals involving $1.5 billiongross ($630 million on a net basis). In addition tothe change in the exposure limit, the rise inlending reflected the Country AssistanceStrategy’s shift to a renewed focus to less risky,first-tier companies because of their liquidity,term financing, and export credit needs. Hence,although the exposure guidelines slowedresponse to the 1997 real devaluation, they in

fact kept IFC from making large investmentswhile the crisis was still going on and direction ofmacroeconomic policy was uncertain. In effect,the guidelines limited IFC from taking high risksin Brazil in an uncertain environment.

The speed of response is also crucial. IFC madesignificant efforts to mobilize large amounts ofcapital through trade facilities, liquidity facilities,and equity funds, but slow decision makingprevented timely response to opportunities(Thailand and Indonesia). For instance, IFC wasslow to respond to the opportunities in theearlier crisis in Russia. It had fewer staff workingon Russia following the 1998 crisis than beforeand did not have the resources to work withpotential Russian sponsors. On the other hand,in Korea, where IFC had little activity prior to thecrisis, quick mobilization of resources led to aneffective IFC response to the 1997 crisis. IFC hasexperienced strong demand for local currencyfinancing during crises (East Asia and Pakistan),but its capacity to respond quickly, including byborrowing locally and using the proceeds for on-lending to clients, has been limited.

Forecasting crises is inherently difficult, but goodquality of work helps project outcomes. Predic-tion of the size and timing of a crisis is by naturea very imprecise activity and IFC is subject tomany of the same difficulties in forecasting crisesas other investors. IFC teams often discussed thepossibility of crises (in Turkey, for example,where the economic environment was consid-ered a key risk in IFC projects), but full-fledgedscenarios were not typically developed.

Given the inherent difficulties in forecastingcrises, good quality of work contributes to theresilience of projects. For instance, there weresignificant differences in quality among projectsin Argentina that broadly mirrored differences inratings of IFC’s upstream preparation activityamong these projects. In a similar vein, conser-vative assessment of the availability of comple-mentary sources of finance, which often dried upin crises, was also important. Projects that were

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clearly and adequately documented—a sign ofgood supervision—were more likely to besuccessfully restructured (Argentina, 2001).Aggressive and timely loan and equity lossprovisions that more accurately reflected thelarger risks to IFC’s investment portfolio in crisiscountries also helped restructuring by (i)focusing staff attention on improving the portfo-lio quality and (ii) creating more room andflexibility for negotiations with clients.

Finally, when managed well, IFC collaborationwith the Bank helps improve results. Collabora-tion with the Bank has enhanced the effective-ness of IFC’s intervention by supporting privatesector responses to policy measures (Korea).World Bank advice and other interventions haveon occasions been informed by IFC’s knowledgeof the corporate and financial sectors in a crisis-affected country. IFC’s signaling role can be animportant complement to public sector inter-ventions, and its role as creditor and shareholderin key financial institutions or corporations canbe a powerful tool in corporate and industryrestructuring.

IFC crisis interventions could have contributedto preservation of jobs, but IEG could not findevidence of joint efforts by the Bank and IFC onemployment and poverty during crises. Bank-IFCcollaboration has been modest in general andnot any better—and sometimes worse—duringpast crises. On occasion, IFC cooperation withthe Bank and the IMF was impaired by perceivedconflicts of interest on the part of IFC, especiallyin highly publicized commercial disputes involv-ing IFC’s clients. Large-scale, wholesale interven-tions through funds or facilities gave IFC a seat at

the table and facilitated IFC-Bank dialogue (tradefinance facilities in Korea and Argentina).

Notes

11. A lesson learned in this experience was theimportance of determining the true level of clientcommitment to improving corporate practices, andthis may be difficult to assess in a crisis situation. InRussia, for example, an IFC advisory servicesprogram was implemented under the auspices ofthe World Bank’s Financial Sector DevelopmentProject. The program was expected to result inconsiderable transfer of technology and interna-tional best practices to a Russian-owned operation,increasing its efficiency, improving service toclients, and helping develop local managers andstaff. In the event, the advisory services programwas not successful, as the Russian bank lacked truecommitment, undertaking it more to give IFC theassurances required to obtain the much-neededloan financing.

12.The Asian crisis, for example, can be isolated as aprimary reason for the significant deterioration ofdevelopment, business, and investment outcomes.

13.Of 37 projects approved in the three years followinga crisis in major MICs (Brazil, Indonesia, Korea,Mexico, the Philippines, Russia, and Turkey), 67percent achieved high development results(compared to 61 percent otherwise). Projects inBrazil, Korea, and Russia were particularly success-ful. In contrast, the performance of the 96 evaluatedprojects that were already under way when a crisishit (in Argentina, Brazil, Indonesia, Mexico, thePhilippines, Russia, Thailand, Turkey, and Uruguay)were much weaker. Of these projects, 54 percentachieved high development outcome ratings,compared to 64 percent for non-crisis-exposedprojects.


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CHAPTER 4

Lessons from MIGA Activityduring Crises

Twenty-five percent of the total volume of MIGAguarantees issued between 1995 and 2002 werein crisis-affected countries, including guaranteesissued during crisis episodes in Argentina, Brazil,Pakistan, Indonesia, Ecuador, Russia, and Turkey.Most of MIGA’s guarantees in crisis-affectedcountries were for financial sector and infrastruc-ture projects.

Political risk is typically heightened during crises,over concerns that host governments mayrespond to stress in public finances by revisitingtheir contractual commitments or by imposingtransfer and convertibility restrictions to stem anoutflow of reserves. Similarly, there are concernsthat unpopular economic measures will increasethe likelihood of civil disturbance.

The overall volume of MIGA guarantees grewduring crisis episodes in Russia, Turkey, andBrazil, and there is some evidence that cancella-tions of active contracts tended to diminish indifficult economic times. This may suggest thatthe demand for political risk cover for existinginvestments is particularly strong duringeconomic crises. MIGA’s Convention however,does not allow it to cover existing investments,despite the positive impact of such cover on jobpreservation. However, if risk perceptions leadinvestors to pull back, political risk insurancedemand may decline, as happened with thevolume of MIGA guarantees in the Asian crisisyears and in Argentina, where investors withdrewfollowing government measures perceived asexpropriatory.

Crises have testedMIGA’s riskmitigation capacityin several ways. Two of the three claims in MIGA’sentire history were paid during crisis episodes:

MIGA paid a claim for East Java Power Corp.(Indonesia), one of several power projectscancelled by a presidential decree in the late1990s. The second claim was for a logisticsservices project in Argentina in the aftermath ofthat country’s financial crisis. However, criseshave also provoked several preclaim situations,which MIGA successfully mediated.

The former case suggests that infrastructureprojects, when inadequately structured orawarded in a nontransparent manner, may beparticularly vulnerable to political risk eventsduring crises, as their legitimacy is questioned,guaranteed revenue/off-take contracts causefiscal distress for the government, or politicallyuntenable tariff increases are introduced. It alsohighlights the importance for large public-privateinfrastructure projects to be transparently andcompetitively bid and to allow for renegotiationon mutually acceptable terms, to insure long-term political sustainability in the face of a crisis.Evaluative findings also emphasize that theconsistency of guaranteed investments withWorld Bank country strategies and sector policieshelps to mitigate risk and is key to Bank supportin the case of claim situations.

In the financial sector, an evaluation found thatMIGA’s intervention supported crisis recovery byunderwriting credit when market conditionswere adverse and by providing positive signal-ing effects in the aftermath of crises. MIGA-supported foreign banks also introduced special-ized products, good-practice risk managementpolicies and innovation to local banking systems,increasing their resilience to future crises. Evalua-tion findings rated their development impacts assatisfactory.

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CHAPTER 5

Conclusion

As the most serious crisis since the Great Depres-sion of the 1930s, the current financial crisis is inmany respects unprecedented. The economiccontraction that it has fueled is also rapidlyincreasing unemployment worldwide, castingmillions of households into absolute poverty.Provision of crisis support to low-incomecountries and MICs by the World Bank Group,particularly in concert with other developmentpartners, can help mitigate the severity of theadverse social impact of the economic slowdown.At the same time, resources mobilized by theWorld Bank Group, always limited in the past, areevenmore constrained today. Furthermore, BankGroup resources have traditionally leveragedlarge volumes of complementary resources fromprivate and voluntary sector partners as well as

official development partners; under the fullimpact of the crisis, there is a major risk that suchsources will curb new flows, in some casesseverely. Owing to the possible reduction inleveraging power that international financialinstitutions may experience, as well as to theincreased opportunity cost of its resources incrisis times, there is a special premium on gettingthe most from Bank Group crisis support interms of development effectiveness. Becauseevery crisis has its unique features, the lessons ofevaluation from past experience cannot amountto very precise guidance for delivering effectivecrisis support. However, they can and do point tocrucial factors that may make a difference in howeffective today's crisis response can be.

lessons from world bank group responses to past financial...

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