Following complaints from affected communities, a review of International Finance Corporation (IFC) lending practices reveals gaps in the mechanisms to oversee third-party lending institutions. IFC is the lending arm of the World Bank that currently channels approximately 40% of its lending portfolio for development projects through other banks or microfinance institutions. Although financial intermediaries are expected to comply with IFC’s standards, there is no due diligence for ensuring environmental and social “do no harm” practices are met, turning the process into a mere “box ticking exercise.” The IFC expects their sub-clients to keep records of their operations but feel that greater oversight at that level is unnecessary. IFCs impact on development is potentially extended through financial intermediaries; however success is hampered since 60% of IMF funded sub-clients fail to meet these safeguards.
By Carey L. Biron
Campaigners are seizing on a new internal audit of financial-market lending by the International Finance Corporation (IFC), the World Bank arm that engages in private sector investment, pointing to unusually stark criticism of the institution’s commitment to due diligence.
The report warns that the institution’s oversight mechanisms include no capability to assess whether that lending – which comprises at least 40 percent of IFC portfolios, valued at some 20 billion dollars – is helping or harming local communities and overall development indicators.
In response, on Friday five international watchdog organisations, including Oxfam International and the Center for International Environmental Law, collectively called for “a fundamental overhaul of World Bank lending to financial markets actors”.
“For the first time, we’ve had an official body say this is a fundamentally problematic way of operation, that the IFC is missing the entire point of what these policies are for,” Peter Chowla, coordinator of the U.K.-based Bretton Woods Project (BWP), a watchdog and one of the organisations calling for an overhaul, told IPS. “That puts a far larger onus on the IFC to respond effectively.”
Made public this week, the audit is the result of a year of research by the Compliance Advisor/Ombudsman (CAO), an independent body charged with response to complaints from communities affected by IFC and other World Bank Group projects. The document focuses on the institution’s use of “financial intermediaries” – third-party entities such as banks or microfinance groups that use IFC money to engage in development projects.
According to the CAO, “A large portion of IFC financing is currently channeled to private sector projects in developing countries and emerging markets through third party entities.”
The CAO and other analyses suggest this practice has risen in recent years for the IFC and for other multilateral institutions, public and private.
“The use of financial intermediaries was fairly well hidden over the past decade, but they’ve been used increasingly in recent years as both civil society and governments have become more focused on project transparency,” Stephanie Fried, executive director of the Ulu Foundation, which focuses on international financial flows, told IPS.
“Yet as we see a rise in the use of these opaque bodies, we also see the IFC moving away from due diligence requirements. It’s simpler, after all, and they don’t need to be so accountable.”
Fried calls the new report “shockingly candid”, and notes that its findings will have “tremendous implications for the way that global finance is done.”
Do no harm
The crux of the CAO’s findings is twofold. First, in important commitments further strengthened last year, the IFC’s current stated policy is that its investments will not only “do no harm” but that they will actively “do good”, meaning improve development outcomes.
Second, in projects in which the institution is working through a financial intermediary, the IFC requires that entity to set up a system, known as an ESMS, aimed at ensuring that stringent environmental and social safeguards (“do no harm”) are met. However, while the IFC does make certain that the ESMS is in place, it does not engage in further analysis of the effects of this system on the ground – leaving that responsibility to the intermediary.
The CAO characterises this set-up as a “box-ticking exercise”, and warns that the mere creation of the system could become the end result, rather than enhancing environmental and social safeguards on the ground.
In a formal response, the IFC management does not deny that this is the way the system is currently constituted.
“IFC does not evaluate all information at the sub-client” level, the response reads, referring to project implementers below the financial intermediaries. “We do not consider this necessary or efficient,” as the intent is to have the intermediaries “manage this” through the ESMS.
The response also notes that IFC does “expect our (financial intermediary) partners to maintain all the requisite information about all their sub-clients … and this is evaluated by IFC as part of our on-going supervision process.”
Yet according to the CAO findings, BWP’s Chowla points out, even this system appears to break down fairly often, as in 35 percent of cases the IFC reportedly is unable to verify that its direct partners have implemented these safeguards.
Perhaps most damning in this regard, some 60 percent of “sub-clients” were found to have failed to improve their environment and social practices following IFC investment – which, CAO notes, “is where IFC seeks to really have an impact”.
Other models
According to a statement sent to IPS from the IFC’s Washington headquarters, the institution’s use of financial intermediaries allows it to provide access to finance for millions of individuals and micro, small and medium enterprises that the IFC would otherwise not be able to reach directly.
“IFC focuses on helping our (financial intermediary) clients improve their capacity to assess and manage the environmental and social risks inherent in their own financing activities – in line with IFC’s Sustainability Framework,” the statement says. “As the CAO report noted, nearly all of our clients comply with these standards.”
Armed with the new audit findings, however, campaigners are stepping up criticism of the Sustainability Framework itself. This is particularly important given that the World Bank recently began a widely watched reassessment of its environment and social safeguards, for which some worry that the IFC Sustainably Framework could act as a model.
“The World Bank has made it quite clear that it wants to streamline the safeguards process, to use more country systems to measure compliance,” BWP’s Chowla says.
“But we need to see whether they will take on board the message that using country systems does not mean being ignorant of results – that they still need to be accountable for results.”
Indeed, other due diligence models do exist. Stephanie Fried points particularly to those used by the Asian Development Bank (ADB) and the U.S. Overseas Private Investment Corporation (OPIC).
“Unlike IFC, the ADB and OPIC have insisted on maintaining responsibility for ensuring that things are being done responsibly under their investments, looking not only at the clients to whom they’re giving cash but also at the projects on the ground,” Fried says.
“That’s night and day compared to the IFC. We need to see compliance with the ‘do no harm’ mandate, and it appears that would be a complete redoing of the way in which the IFC is operating at the moment.”
