"Backstop" lending for capital market development in Argentina

/491f At a Glance 'IMM11 Bank FPD Note No. 29 November 1994 "Backstop" Lending for Capital Market Development in Argentina Odo Habeck This Note discusses the Argentine Capi- by the banks would provide important tal Market Development Loan, ap- market benchmarks for all borrowers. provled by the World Bank s executive directors in Alarch 1994. Thisproject What is the Capital Market addresses slstemic risk and other as- Development Loan? pects of market development. The pro- The Capital Market Development Loan ject has become known in the World (or Backstop Facility) differs from tra- Bank as the "Backstop Facility. " But ditional World Bank lending. The that nzame does niot do justice to the loan's principal purpose is to develop scope of the project because it does not capital markets rather than to provide ii = | i t: | | reflect its important developmentfta- direct funding for procurement of tures. The Note describes the project goods or services. The loan funds are design and explains wbhv this strulcture not disbursed in the first instance to was chosen and houw it wvill allowv banks participating in the project; the banks to provide longer-term loans to banks must acquire funds by issuing qztalifying borrowers. securities in private markets. The World Bank funds are instead made Proposition available to a government-owned Many large corporations in Argentina Backstop Fund (the Fund) so that it are now able to access international can, if necessary and under specific capital markets, but smaller enterprises future circumstances, purchase securi- must rely on less developed local capi- ties issued subsequently by banks sub- tal markets or conventional bank pro- ject to their having previously pur- ducts. If local banks are unable to tap chased backstop commitments from the markets and must rely solely on this Fund. Several important features their ability to attract deposits, they are differentiate this loan from traditional less likely to be able to meet the needs World Bank structures: of their client base. Well-functioning * Disbursements will occur only if and liquid capital markets providing eligible backstop commitments are in medium-term funds would enable the fact exercised. banks to better manage their risks and * There is a static commitment charge therefore to meet borrower demand. of 0.25 percent and an incremental Furthermore, the debt securities issued usage charge of 0.15 percent. Financial Sector Development Department Vice Presidency for Finance and Private Sector Development  * The World Bank does not approve any individual ment-backed institution to private intermediaries. loans made by the participating banks. However, this would have discouraged development * The operation of the Backstop Fund relies on the of a more sustained market source of financing to judgment of the local fund administrator and ap- banks already able to bring (short-dated) paper to proved domestic rating agencies. market. Because the Fund is available to refinance bonds Instead, the Backstop Facility aims at minimizing issued by commercial banks, it supports rather than intervention, by allowing first-tier market transac- supplants evolving private markets. The refinancing tions to occu r. It encourages the market to respond would take the form of a Fund purchase of a new to the credit of individual institutions. And it does bank debenture should market disruptions occur at not provide financing when the markets are already the time of scheduled bond redemption. Qualifying willing to do so. disruptions are confined to events affecting all banks, rather than those affecting only a single issu- The Backstop Facility provides a "last resort" for er. They could stem from political, economic, or liquidity to banks that need to redeem maturing international causes. If such an event occurs, the bonds. In addition, the Facility helps create many of Backstop Fund would buy a new bond to refinance the building blocks of capital markets, including: the bank's initial issuance and would hold the bond . Creation of a pool of reasonably standardized until it could sell it back into the market. In essence, securities, introducing a class of high-quality the government provides systemic risk insurance to nongovernment bonds for investment by bud- qualifying banks (not directly to investors) through ding institutional investors. This is accomplished the issue of backstop options. This insurance should encourage banks and investors to participate in the * * * K t ital markets. Mre e mnitktpFclt How is the Backstop Facility structured? The World Bank provides a US$500 million loan to ag r t World Bank the Argentine Republic, which in turn has a subsid - iary loan agreement with the newly created Back- !E 96. stop Fund (figure 1). The Fund will be established agremen by the government and managed by an internation- V Argentine ally recognized financial manager. The financial LRepublic manager will be selected by Banco de Inversi6n y a A i, 1 r!m BICE ! Comercio Exterior S.A. (BICE), a second-tier, gov- Sabsediae E . an emnment-owned bank acting as administrator of the ' ' Fund. In addition, BICE will designate banks that Backstop manam meet established standards of credit to participate in the program. Banks that participate will be required to demonstrate that their pool of term loans meeting certain qualifying criteria grows by at least as much FParticipating as the issuance of backstopped bonds. Why was this design chosen and what is the . ... .. role of the Backstop Facility? A more conventional approach would have been a orrowers World Bank term loan extended through a govern- 2  by the Backstop Fund's endorsement of the forms of the securities it is willing to backstop or Capital market development buy. Reliance by the Backstop Fund on the ratings The Backstop Facility contributes to capital market devel- * Reliance by the Backstop Fund on the ratings ,