Blending grants and loans

By Dr Roberto Ridolfi

Prospects of oil revenues have imperatives for financing infrastructure development in Uganda

Infrastructure development financing in Africa, and consequently also in Uganda, has been dominated by donor and government financing for the many decades, with quite reduced participation of the private sector and commercial banking system. As such despite infrastructure development being a key priority in every year’s budget, Uganda is still characterised by large and longstanding infrastructure deficiencies in Transport and Energy. This highly inhibits economic growth and poverty reduction efforts.

Inadequacy of infrastructure is still significant, as developing infrastructure requires sustained investment over a very long time. Under-investment in infrastructure has negatively affected developments in other areas. Infrastructure deficiencies in Energy and Transport are co-responsible for the high transaction costs, loss of competitiveness and the poor business environment as well as low efficiency of service delivery by the Government.

The EU’s development assistance to Uganda has focused, over the last four decades, on financing road transport infrastructure, supporting important interventions on the northern Corridor connecting Mombasa with Nairobi, Kampala, Kigali and Bujumbura, but with the grant money available it was possible to build only a few hundred kilometers of quality roads. It is clear that the demand far exceeds the ability of available donor grants and government budget resources for investment in infrastructure. Following the new policy of the European Union: Agenda for Change, it is time we begin to think differently and adopt new approaches to financing infrastructure development—through blending grants with government budget resources and loans from the international financing institutions and the domestic and international private sector banking system.

The EU’s new approach is to use the grant funds available as a way to attract, leverage and multiply the total investments in the country (Blending).

The new approach foresees frontloading of loans blended with a well thought-out grant scheme to generate an acceleration of infrastructure investment, based on the assumption that these infrastructures are serving a strategic plan of twenty years plus for allowing the development the socio-economic structure of the country and equitable growth.

In this approach, the grant element from development partners like the EU in a given loan can be made in different ways:  it can make the interest rate cheaper, or assisting making the grace period longer and allowing for a longer duration of the repayment period to make payments more affordable, allowing the expected generation of revenues from oil exploitation to became reality. Related guarantee schemes and a substantial decreasing of the costs of due diligence by development partners strong partnership (technical leverage) are additional ways how to profitably use the grant funds in order to multiply the resources available for investment.

It can be considered that with Euro 100 Millions of grant, the European Union can facilitate a first class road of between 120 and 160 km long, depending on hydrogeology or other factors. The same amount of grant money can instead service and assist lending capital to finance investment for about 3/5 times (financial leverage) more.

Example: If we consider that Uganda requires about 20 billion euros to develop a modern infrastructure that includes a properly functioning railway network, first class roads around the country, water ways, hydro and solar electricity generation stations, transmission and distribution lines, etc, it will require over 30 years of annual provisions in the budget to finance these infrastructure.

In 30 years, the initial infrastructure will already be requiring upgrading, and therefore a cycle of inefficiency and incomplete infrastructure will continue.

Under the new approach, Uganda would require about 4 billion euros, which can be blended with 16 billion euros of loans from both official and private sector financing institutions to put in place a total infrastructure required to strengthen the economy for 20 to 30 years. In this case, all this investment will be front-loaded and repaid by the government over a twenty to thirty years period drawing only a small portion of expected future extra revenues (between one forth to one third maximum around 1 EUR billion per year of repayment).

This will enable the people of Uganda to enjoy good infrastructure, reduce transaction costs, increase therefore productivity and promote economic growth and development. The growth of the economy will generate more resources to the government in the form of taxes and user charges that will be used to pay back the loans even beside counting the prospects of oil revenues which become more clear (by 2013-14 the forecast will be more certain). The surest way of making sure that all Ugandans benefit from the oil money is to adopt this approach and implement it starting with very good feasibility studies and capacity building in the GOU machinery now and not in 10-years’ time when the oil revenue will flow a regime.

Indeed part and only part of the future oil money can specifically be targeted to finance these infrastructures by repaying concessional loans. This will also contribute to avoid the “Dutch-disease” that has affected most of the African countries producing oil, by reducing the appreciation effect on the currency of oil exports.

Not planning on the use of the expected revenues has been a mistake in some countries endowed by oil. Planning it well in advance, trying to transform a volatile and temporary wealth of few years in a long-term richness for many.

Oil delivers economic growth but hardly many jobs. Agriculture will do and to do that, it must be competitive by the reduction of transaction costs.

This approach will constitute a major inter-generational solidarity pact (political leverage), where an effort today to prioritise and well prepare feasible and bankable projects and the courage and intelligence to access loans appropriately blended with the available grants and government funds will benefit the next generation with an existing and efficient infrastructure allowing economic activity  to create job opportunities and revenues and to absorb one of the highest population growth in the world giving the necessary time to gradually manage the transition  into a mature modern society.

A major regional event on the financing of Trans-African Networks following calls by the EAC summit in the key sectors will be organised early 2013 to join together well prepared infrastructure investment projects with the international public and private banking system and the Development Partners community around the common objective of financing the vector of a next inclusive, sustainable and “repayable” growth of the East-African region.