Supporting national development strategies is not enough of a strategy

This week we published a report summarising the national development strategies of the countries where BII invests.[1] We commissioned this research for two reasons. Firstly, we wanted to compile an accessible summary of these strategies for our reference, and for public information. Secondly, we wanted to compare these strategies against our investment portfolio.

What we found was a high degree of alignment between the investments in BII’s portfolio and stated national priorities. That is not surprising. African and South Asian countries invariably want to grow and diversify their economies, to reduce poverty and advance human development, and we share the same understanding of what investments that will require.[2]

Many commentators on development finance think that DFIs should organise their investments around local development strategies. For example, Charles Kenny from the Center for Global Development, wrote: “Moving forward would involve fully abandoning the reactive, firm-led model that has traditionally dominated DFI investments and moving aggressively to a model that supports governments with their industrial and infrastructure development strategies”

The idea of aligning development cooperation behind local priorities has a long pedigree. The first principle of effective development cooperation, agreed by 161 countries and 56 organizations, is country ownership.[3] The primary expression of what a country wants is its national development strategy. I would certainly agree that helping countries execute their development plans is a positive thing for DFIs to do. But “support national development strategies” is not enough of a strategy for a DFI.

Whether a sector or development objective is named in a strategy document is something of a binary. These strategies tend to be very wide ranging, so the set of investments that would fall under them is large. It was not surprising to find that alignment between our portfolio and countries’ stated national development priorities is so high – it would be difficult to find investments that do not fit into these strategies.  We need some way of prioritizing investments within that set, which is what our strategic impact objectives and associated impact management systems give us. These tools have been designed around global intergovernmental agreements, the Sustainable Development Goals and Paris climate agreement.

Perhaps what matters is not doing something named in a strategy document, perhaps what matters is active collaboration with the state in the execution of its plans. For some of our investments, notably infrastructure, that is certainly important (and inherent). But wherever one stands on the question of how much state intervention in an economy is desirable, one of the merits of the private sector is that it is decentralised, rather than centrally planned, and that society benefits from private experimentation and competition.

When a government says that increasing the supply of credit to small businesses is a national development priority, or that it wishes to diversify its economy and grow the manufacturing and services sectors, that does not imply it wants to be involved in deciding which businesses receive investment. Being part of a government coordinated development initiative is a good reason to support an investment, but not being involved is a bad reason for rejecting one.

If a DFI encounters an investment opportunity with great expected positive social impact, in comparison to other potential investments, and where suitable private finance is not forthcoming, but this particular business is not doing anything named in a strategy document and the transaction involves no special collaboration with the state, I do not see how it would be in anyone’s interest for that investment to be rejected.

The idea of supporting national development initiatives is related to the idea of taking a more coordinated approach more generally. The evaluators of BII’s “Industry, Technology and Services” sector investments, for example, recommended “a more focused approach to achieve more ecosystem-level or economy-level outcomes identified in impact frameworks. This could involve leveraging clusters of sector specific investments in the same geographical area or system.”

There is a great deal of evidence about the importance of complementarities between investments (for example in agriculture), the need for coordination is one of the oldest ideas in development. The theme of our report When growth does and doesn’t reduce poverty was that poverty falls most rapidly when different public and private investments support each other. So, I certainly agree about the potential to deepen impact through a more coordinated approach to investment, including by supporting national development initiatives. We should not just assume, however, that a narrower selection of investments will necessarily mean greater impact.

DFIs maximise impact by identifying investments with the greatest positive benefits and selecting them  (subject to portfolio construction considerations).[4] Like other DFIs, BII has created an impact management system so that we can originate and select investments expected to achieve highest impact as defined by our strategic impact objectives.[5] If the resulting portfolio of investments looks ‘scatter gun’ with a wide variety of different types of investment in different places, perhaps that’s just what maximum impact looks like. Or at least, we would not obviously improve matters by declining “misfit” high impact investments to create a more aesthetically pleasing portfolio. We need good reasons to deviate from simply picking the highest impact investments we can find. Those reasons should be strong synergies between investments. There could also be meaningful operational efficiency gains.

My view is that DFIs should prioritise helping countries execute their national development initiatives where they can, and that DFIs could deepen their impact by taking a more coordinated approach towards the development of certain markets, as argued in the BII discussion paper Driving market-level changes in impact investing. The set of investments that BII has made in India’s EV market, for example, exemplifies that approach.

However, as Aristotle warned, any virtue taken to extreme becomes a vice. We must remember that simply improving the supply of finance to firms and diversifying the economy are often stated national development priorities. I think DFIs should always leave some room for finding high impact investments, wherever they may be.

Footnotes

[1] Except for countries in Asia Pacific where BII only has a mandate for climate investing.

[2] These same messages – an emphasis on economic diversification, growth and job creation, and desire for investment – also emerge strongly from the government’s recent wide-ranging in-country consultations, undertaken to formulate the UK’s new approach to Africa.

[3] See the Global Partnership for Effective Development Cooperation Kampala Principles. Local ownership is especially important when donors are trying to support institutional reforms with grants, where those efforts are likely to fail if they are an unwanted imposition. With private sector development finance that dynamic is less relevant, because it always entails supplying capital to a business that wants it, and which will fail if it fails to meet the demands of its customers or retain its workers.

[4] The relationships between financial returns, risk and impact are complicated. See the BII report Risk, return and impact.

[5] This system is of course imperfect, but DFIs are unusual in having created impact management systems that allow them to rank the expected impact of every investment they might make, serving a wide range of different development needs in different places. Most development agencies and NGOs have not developed similar prioritisation tools that they can apply across their activities.