The economic growth of Central America as a region has been impressive in recent years, especially when compared to its Southern neighbours. Overall, Latin America is expected to grow 1.3% in 2017, while Central American expansion is expected to hit 3.9% according to the World Bank.
However, the region is still struggling with high poverty rates. About 40% of the population live on less than US$4 per day, while elevated crime rates and poor infrastructure continue to dampen the region’s prospects.
Development banks are becoming an increasingly important stakeholder in these countries’ bid to boost their economic prospects and financial inclusion while reducing inequality.
According to Dr. Helio Montenegro, President of Banco de Fomento de la Produccion (BFP) in Nicaragua, development banks have much to offer as a market maker with a risk appetite typically unrivalled by commercial banks, which gives them access to a broader range of sectors.
“Banco Fomento de la Produccion was created with the purpose providing financial services to encourage both the economic and productive growth of Nicaragua. It prioritizes small and medium enterprises in the key sectors for the development of Nicaragua. Through credit the bank seeks to promote sustainable growth in the national economy,” he added.
Some of the banks operating in the region include large supranational entities such as Development Bank of Latin America (CAF), the Central American Bank for Economic Integration (CABEI), and the International Finance Corporations (IFC). Others like BFP or Guatemala’s Banco de Desarrollo Rural (BDR) operate in-country.
Banking Central America’s Development Banks
Local development banks have come to rely heavily on large multilateral organizations from developed countries for funding. The most active in the region include the Inter-American Development Bank, CABEI, Germany’s Kreditanstalt für Wiederauf (KfW ) and Netherlands’ Development Finance Company (FMO).
Susana Pinilla, CAF Country Director in Panama said the bank tends to finance itself through a combination of bond issuances and capital provided by its stakeholders, which in CAF’s case includes its 19 member countries and 13 private banks.
Many of the region’s smaller development banks still struggle to raise fresh funding, however.
“The regulatory requirements in each country, the size of the financial markets, the cost of issuing from a fees and spreads perspective are the most common obstacles we encounter” Pinilla mentioned.
The size of the Central American capital markets is very small, especially compared it with its peers in the Mila region. Average turnover on securities in Latin American markets is 47.4%, in the Mila region specifically it is 23.6%, while in Panama – the country with most registered issuers in Central America – is barely 0.9%.
For Montenegro, securing government approval can prove the most challenging. “You need the government to agree because at the end of the day, it ultimately becomes sovereign debt,” he said.
Pinilla explained that bank had found ways of expanding its fund base through private placements, which are becoming increasingly more common as institutions look to work more closely with investors and overcome some of the regulatory friction created through public debt placements.
Many smaller development banks still struggle to launch private places because in most instances, investors – particularly European and Japanese funds, which account for the bulk of emerging market private placement demand – require high credit ratings and established credit curves.
The IFC, which currently holds a US$2.3bn portfolio in Central America, prioritises projects that foster financial inclusion, innovation and digital finance, infrastructure and energy, climate and agribusiness, and further development of the region’s capital markets, according to Maria Angela Fonseca, Country Head & Principal Investment Officer of the IFC in Panama and Costa Rica.
Much like CAF, it can secure much of the funding they need through the international markets. But it is looking to position itself as a reliable partner for the region’s smaller development banks and develop the local capital markets by helping to bring issuers to market and issuing its own securities locally, with the proceeds that don’t go towards loan creation then re-invested in regional sovereign securities.
For a region like Central America, the proliferation of reliable and credible institutions like development banks could provide a path for sustainable and inclusive economic growth. But many still need to overcome the funding gaps that hamper their ability to lend and, in turn, contribute to the development of the market.