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IEG finds World Bank not well adapted to crisis lending

5 April 2012

The final report of the World Bank’s Independent Evaluation Group’s (IEG, the Bank’s arms-length evaluation unit) assessment of the Bank’s response to the 2008/09 global economic crisis confirms that Bank measures followed pre-crisis patterns and often failed to reach those most affected, leaving the Bank vulnerable to future crises.

In January the Bank’s Global Economic Prospects report warned developing countries that they should “prepare for the worst” since “the world economy has entered a very difficult phase” that could throw the world “into a recession as large or even larger than that of 2008/09”. In the meantime, the February IEG report (see Update 69) concludes that the Bank’s own measures were lacking during the crisis and that it is now left “with limited headroom to accommodate further crisis response.” According to the lead author of the IEG report, “anything that approaches the previous global crisis could not be handled.”

The IEG report argues that the Bank’s lending during the crisis, “rather than being targeted toward most-affected countries”, followed “pre-crisis lending patterns and had a low correlation with the severity of the crisis impact”, with “negligible difference in thematic content between ‘crisis’ and ‘non-crisis’ financial sector crisis lending.” This resulted in lending going to countries “suffering only a moderate degree of economic and financial stress”, which were mainly middle-income countries. Poor countries only saw a modest increase in funding and while the International Development Association’s (IDA, the Bank’s low-income country arm) Crisis Response Window increased the capacity for poor countries to access finance, it was not established until December 2009 (see Update 69). This finding comes as little surprise after earlier assessments of the Bank’s handling of the crisis criticised it for neglecting the poorest countries (see Update 68). Although the Bank stepped up funding for social protection, the IEG points out that this was primarily directed “toward the chronically poor families, whereas many of those affected by the crisis were households falling into temporary poverty.”

IEG notes that “substantial crisis assistance”, accounting for almost a third of the crisis financial sector lending, was funnelled through financial intermediaries aimed at reaching vulnerable markets, however, few were able to disperse funding quickly, possibly due to issues with the private banking system or “risk aversion”. The International Finance Corporation (IFC, the Bank’s private sector arm), “did not achieve an increased volume of investments” since it made “a strategic choice to protect its portfolio”, but IEG finds that the risk was overestimated. Among its new crisis initiatives, IEG finds that the IFC played a part in establishing global mechanisms, such as the Global Trade Liquidity Program, that were “broadly successful”. However, other initiatives had “implementation shortcomings” and often “took time”. The importance of this initiative can also be questioned after a 2011 IEG report highlighted that the development impacts of trade finance projects are yet to be assessed (see Update 76).

The report concludes that “the Bank’s present instruments may not be well adapted to the nature of crisis lending” and calls for a “road map for crisis engagement”, including a review of the Bank’s lending instruments and overall financial position. In addition, it argues that the Bank could benefit from a “systemwide approach to social protection and risk management” that goes beyond social safety nets, “to ensure that data and programmes are available to cope with crises.”

In response, the Bank is engaging on how “to respond in the most effective manner in the event of another economic crisis” including “options for extending lending capacity”. This includes the December approval of the IDA Immediate Response Mechanism, allowing poor countries to expedite access to funding during a crisis, and a March approval of further flexibility for the International Bank for Reconstruction and Development’s (IBRD, the Bank’s middle-income country arm) borrowers through increased access to risk management tools in order to provide “additional alternatives for reducing exposure to financial shocks due to interest rate and foreign exchange volatility and allow for greater predictability of debt service payments.” The Bank’s board has also held informal discussions on options for a facility that would help IBRD countries in the case of a crisis, to be further discussed during and after its spring meetings in April.

Also in March, the IFC launched the Critical Commodities Finance Program with a $1 billion investment “to support critical trade flows” in commodities and energy-related goods in developing countries “to reduce the risk of food and energy shortages”. It also prolonged the life span of the Global Trade Liquidity Program with an additional injection of $1 billion.