Local Strategies to Access Financial Markets€¦ · access the capital markets, yet it took place at a time when international capital markets were effectively closed to these players

First World Bank Conference on Capital Markets Development a t the Subnational Level

Local Strategies to Access Financial Markets

Lessons and Opportunities for Latin America, Central and Eastern Europe

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First World Bank Conference on Capital Markets Development at the Subnational Level

Local Strategies to Access Financial Markets: Lessons and Opportunities for Latin America, Central and Eastern Europe

First World Bank Conference on Capital Markets Development at the Subnational Level

Local Strategies to Access Financial Markets: Lessons and Opportunities for Latin America, Central and Eastern Europe

SIPA = 3'" ~ O L O , , ~ T E W A T , O " A L

USAID c::::,;l:::::::;.

The f ndings, interpretations, and conclusions expressed in this document are entirely those of the author(s) and should not be attributed in any manner to the World Bank, to its affiliated organizations, or the members of its Board of Executive Directors or the countries they represent.

Copyright 0 1999 by the International Bank for Reconstruction and Development.

The World Bank enjoys copyright protection under protocol 2 of the Universal Copyright Convention. This material may nonetheless be copied for research, educational, or scholarly purposes only in the member countries of the World Bank. Material in this series is subject to revision. The views and interpretations in this document are those of the author(s) and should not be attributed to the World Bank Institute or the World Bank. If this is reproduced or translated, the World Bank Institute ~ . o u l d appreciate a copy.

Contents

About the Global Program on Capital Markets Development at the Subnational Level vii

Message from Dean Lisa Anderson ix

How to Use This Book xi

Acknolwledgrnents xiii

I. Introduction and Analytical Overview I

II. Report on the Proceedings I I

Ill. Summaries of Selected Papers and Presentations 37

Theoretical and GeneralTopics of Subsovereign Borrowing

Current Conditions and Challenges Facing Subnational Markets

Assessing Risk

Case Studies:Access to and Management of Debt

Case Studies: High-Risk Issues

Case Studies: Innovative Approaches

IV. Appendices 67

About the Global Program on Capital Markets Development at the Subnational Level

THE BANK'S CENTRAL Vice Presidencies for Financial and Private Sector I$evelopment, together within the Urban Division (TWURD) and the Capital Markets Development department (CMD), have launched a number of initiatives for capital markets at the sub-national level. Among these is this two-year joint program between TWURD, CMD, the World Bank Institute(WBI), and the Latin America and the Caribbean (LAC), the East Asia and Pacific (EAP), South Asia (SAR) and Europe and Central Asia (ECA) Regions of the Bank and the International Finance Corporation (IFC).

The program aims to increase and develop knowledge on the analysis of the financial capacity of local governments, comparative levels of creditworthiness, and the ways local governments perceive and use capital markets financing. Furthermore, it is designed to support local governments in making informed decisions.

The program primarily targets members of sub-national governments in the selected regions, investment bankers, credit rating agencies, monoline insurance agencies ("credit enhancers"), multilateral organizations, institutional investors, and the World Bank task managers.

We would like to express our special thanks to the United States Agency for International Development, Columbia University's School of International and Public Affairs, and the World Bank Institute for making the Conference and its Proceedings possible.

Message from Dean Lisa Anderson

COLUM~IA UNIVERSITY'S SCHOOL of International and Public Affairs (SIPA) is pleased to partner with the World Bank in preparing this report on the proceedings of the Mhrld Bank First Conference on Capital Markets Develop- ment at the Subnational Level in Santander Spain, October 1998.

MTe at SIPA are dedicated to sharing our knowledge and expertise with public servants around the world. In particular, through our Center for Urban liesearch and Policy and its Urban Habitat Project, we and regional governments and their policymakers and officials offer a special focus on issues relevant to local.

By combining our world-recognized regional studies with expertise across a wide range of substantive issue areas, we are eager to work with local and regional governments to assist them in meeting their own particular challenges. While we offer a series of established degrees and other training programs, we are also willing to tailor programs to the needs of individual localities.

For more than fifty years SIPA has formed a point of intersection anlong Columbia University's academic departments and schools, and among a distinguished university, the nation's largest city, and a complex world beyond. As scholars, our faculty, students and alumni work to understand the world. As practitioners, they act to change it. It is a re~narkable combination.

b" hope that this report o n the proceedings will serve as a useful refer- encc for localities and institutions concerned with sub-sovereign access to the capital markets. We extend an offer to assist you in designing your own individual approaches to those challenges. We look forward to a continuing pdrtncrship with the \Vorld Bank, and with localities and other institutions around the world.

Sincerely, Lisa Anderson Dean

How to Use This Book

THIS BOOK HAS been prepared as part of the World Bank's Global Program on Capital Markets Development at the Subnational Level, coordinated by Marcela Huertas, Augusto de la Torre, and Mila Freire of the World Bank.

It is intended to serve as a record of the First Conference on Capital Markets Development at the Subnational Level, which was held in October 1998 in Santander, Spain.

In order to provide the richest information possible about the conference proceedings, this book is divided into three parts.

Part I offers an introductory analysis of the issues discussed at the conference, highlighting areas of consensus and disagreement while suggesting a series of frameworks for further analysis.

Part I1 provides a more detailed report on the presentations made at the Conference's plenary sessions. Rather than serving as a verbatim transcription of these presentations, this chapter endeavors to put the presentations and discussions into a broader context. The specific positions and policies presented are not intended to reflect the opinions of the author of this report or of the World Bank, but those of the individuals involved.

Part III provides summaries of key papers presented and/or made available at the Conference.

While this book can be read from cover to cover, the individual parts are meant to stand on their own for reference purposes.

Any suggestions regarding how future editions of this book should be improved, can be sent to Mark Gordon at Columbia University's School of International and Public Affairs, 420 West 1 lgth Street, New York, New York 10027, USA. (e-mail: [email protected] and fax: (212) 854-5765). .

xii

Acknowledgments

THIS REPORT WAS prepared under the direction of Mark C. Gordon, a professor at Columbia University's School of International and Public Affairs and director of that school's Urban Habitat Project. Professor Gordon wrote Parts I and 11, and Joshua M. Lupkin, a doctoral candidate at Columbia, edited the text and summarized many of the documents in Part 111. Mark J. Wood- ward, a student at Columbia Law School, wrote the remaining summaries, and Michael Penfold Becerra, doctoral candidate at Columbia, translated several documents into English. Other Columbia graduate students who provided assistance in preparing the proceedings include Sumant Inamdar, Anna Lappk, Noah Leff, Nicol Malas, Guillermo Rodriguez, and Virginia Martinez.

The editorial staff would like, in addition, to thank Marcela Huertas and R. Enrique Asturizaga of the Urban Division of the World Bank for providing needed information and support. Several participants from the Conference at Santander, including Anibal Aguilar, Pedro Gonzales, Vilma Milunovic, Jo3o Oliveira, William Oliver, Katalin PaUal, Hana Polackova, Fernando Rojas, Carlos Sandoval, and Pilar Solans took time from their busy schedules to consult with or provide documents to the editor.

xiii

Part I: Introduction and Analytical Overview Mark C. Gordon

THIS REPORT SUMMARIZES the discussions and papers presented at the plenary sessions of the World Bank's First Conference on Capital Markets Develop- ment at the Subnational Level, which took place in Santander, Spain, from October 26-29, 1998. The conference covered a wide range of issues from the il~acroeconomic implications of subnational borrowing to financial management and funding strategies, as well as the view from the market. \'arious instruments and borrowing structures were presented, as were different institutional, legal, and regulatory frameworks. More specific case studies were discussed further in breakout sessions. (The conference agenda is reproduced as Appendix B.) While the conference covered a series of broad issues, it focused on the development of local strategies to access financial markets, with particular attention to the lessons and opportunities for Latin America and Central Europe.

Approximately 216 people attended the conference, from at least 31 countries. The participants reflected a broad range of views and experience. with public and private sector participants each representing over 30% of the total number. The attending groups, in order of size, were estimated to he as show in Table 1.

This report is intended both for those who attended the conference and those who did not, as it highlights key issues discussed and presents

lntmduaion and Analytical Overview

Table I : Attending Groups - -

Group N= %of total

an overview of the wide range of approaches suggested. It is organized as follows:

1 . This introductory section will present a brief analytical overview of several of the key concepts discussed at the conference. Rather than being comprehensive, this section is intended to suggest several ways of thinking about the topics covered in later Parts.

2. Part11 presents the formal report on the proceedings, summarizing the plenary session presentations and discussions. While it does not cover each point made in these sessions exhaustively, it is intended to provide a useful summary of the proceedings and critical topics discussed.

3. Part 111 summarizes the key papers presented at the conference.

Analytical Overview The M'orld Bank's First Conference on Capital Markets Development at the Subnational Level was attended by over 200 people representing a wide range of perspectives, including policymakers, government officials, representatives of multilateral institutions, academics, financial consultants, bankers, and other market participants.

One would expect that any conference including such a diverse set of participants would offer a wide diversity of views, and this conference was no exception. Before turning attention to the specifics of each presentation as

Introduction andAnalytica1 Overview

reflected in Part 11, it is useful to consider the extent both of consensus and disagreement regarding several broad areas. In particular, three questions are worth addressing:

A. On what topics was broad consensus reflected by conference participants? B. What were the key tensions evident in and among the different

presentations? C. Based on the answers to the two questions above, what is the range of

paradigms available for analyzing subnational access to capital markets?

A. Consensus

I. UNDERLYING PRESUMPTION 7'lrere were several points on which general (even i fnot unanimous) consensus seetne~i to exist. First, one must remember that the timing of the conference could seein strange. The conference was intended to identify "lessons and opportunities" for subnational actors in Latin America and Central Europe to access the capital markets, yet it took place at a time when international capital markets were effectively closed to these players. The conference organizers and participants shared the expectation that market conditions will improve over time, however, and that subnational players in these regions will have increased opportunities to access the international markets. One could argue that lessons and opportunities are useful to explore even if only domestic capital markets in these regions are open to subnationals.

2. BASIC BENEFITS OF ACCESSING CAPITAL MARKETS 1Vot only was there consensus that market conditions will improve, but there also was izgreement that there aregood reasons for subnational governments to t v i~n t to access capital markets. While some participants pointed to the potentially greater availability of funds to address local needs, others focused 011 the efficiency benefits that access to capital markets can bring o r the intergenerational equity benefits of financing infrastructure investments through long-term borrowing. While the underlying reasons may have been different, the general notion that access to capital markets presents positive opportunities for subnational governments was broadly accepted. There was less consensus regarding a related point: that such expanded subnational access is a positive development overall. In this regard, there was a great deal of concern expressed about the ability of subnational governments to undercut national macroeconomic policies and stability (see moral hazard discussioil below).

Introduction ond Analytic01 Overview

SU VIABILITY OF TWO-REGION PERSPECTIVE The linkage of two very different regions of the world-Latin America and Central Europe-reflected a third area of consensus: that while each subnational actor and region may confiont its own specific challenges, there is enough commonality in terms of the situations they face and the steps they must take to make joint discussion profitable for all. In addition, the discussions assumed that even if in the future the market begins to distinguish among different developing regions, the common level of development of local governments in these two regions (both of which have undergone significant decentralization over the past decade) makes joint inquiry valuable.

4. EMPOWERMENT OF SUB-SOVEREIGNS A fourth area of consensus reflected the role of subnational governments and their ability to influence market developments. A belief that subnational governments can take steps to better access financial markets was implicit if unstated in conference presentations. These steps include improved capital planning and financial management, and establishment of clear regulatory frameworks. However, there was also agreement that subnational governments, actingalone, cannot improve access. That is, sovereign government action is needed to create an efficient framework for subnational capital market access, whether through providing subnational governments with the taxing authority necessary to generate revenues or making it possible for those governments to dedicate various revenues to repay bondholders.

5. ROADBLOCKS A final area of consensus reflected the fact that subnational governments in these regions face significant challenges in successfully accessingfinancial markets. These challenges include not just market circumstances but also national regulations that limit local revenue-raising, borrowing flexibility, issues of subnational capacity, and the economic strength of potential domestic investors, as well as the hesitation of private capital to make long- term investments in developing economies.

B. Tensions Despite the consensus described above, there was a series of disagreements evident in the conference presentations and discussions. These can be grouped in the following categories:

lntroduaion andAnalytica1 Overview

I . BALANCING EMPIRICAL VS.THEORETICAL APPROACHES Discussion at the conference dealt with theoretical approaches to subnational borrowing as well as lessons from empirical analysis. These different approaches presented opportunities for significant disagreement in at least three areas.

M o w HAZARD PROBLEM. First, much attention was directed to the "moral hazard" problem, which occurs when subnational governments access the capital markets with the hope or expectation that their sovereign governments will bail them out if they fail to repay bondholders. As was pointed out repeat- edly at the conference, this can lead to a series of perverse incentives whereby subnational governments "over-borrow" in an effort to shift the burden for their development onto the national Treasury. Such overborrowing, of course, has significant implications for national macroeconomic stability.

Numerous presenters discussed the moral hazard issue, presenting its theoretical basis and ideas for addressing it through national regulations. While there was no disagreement regarding the theoretical underpinnings of the moral hazard problem, there was significant disagreement about whether this should justify stringent national restrictions on subnational borrowing. This disagreement was based on empirical analysis which indicated that subnational governments in Emerging Markets are not "overborrowed," and that, in fact, the most significant overborrowing by subnationals exists in the developed market economies over which no one has suggested stringent national restrictions.

Similarly, the reality of the current market situation, in which the central problem is lack of access for subnationals, raises questions about whether the theoretical concern of moral hazard should drive policy. Admittedly, those concerned with the moral hazard problem could point to previous experiences in which subnational borrowing undercut national economic stability. However, the fundamental question remained as to how current policy should balance the theory of moral hazard with the reality of little subnational borrowing.

FINANCIAL MANAGEMENT INCENTIVES. A second tension centered around the impact of market access on subnational financial management. One of the theoretical arguments for encouraging subnational access to the capital markets is based on the assumption that such access will rationalize decisionmaking. That is, the demands of the market will force subnational governments to "clean up" their accounting and financial management systems, to make operations more transparent, and to shift resources toward investments that yield greater economic benefits. However, empirical evidence

Introduction and Analytical Overview

was presented indicating that market access does not always have such consequences, as it sometimes enables subnational governments to put off "the day of reckoning" by living on borrowed funds. (Of course, a national bailout of subnational debt would further undercut market pressures.)

SUBNATIONAL GOVERNMENT INFLUENCE ON ~ K E T BEHAVIOR. Finally, there is a tension between theory and experience in the extent to which subnational government actions can shape market access. Many conference participants stressed the need for subnational governments to adopt internationally accepted financial management standards in order to access international capital markets. This is based on the theory that markets will differentiate among different subnational governments on the basis of their underlying financial strength. However, others argue that recent experience has shown international capital markets do not make these distinctions. First, during the boom time of the early and mid-1990s, international capital markets were willing to (and did) lend to numerous sovereign and sub-sovereign governments with financial management practices far below internationally acceptable standards. Second, during the "credit crunch of late 1998, credit had been denied to subnational governments in Emerging Markets on a wholesale basis, irrespective of the rectitude of their financial management practices. Thus, there is evidence that both in good times and in bad a subnational government's financial management practices do not dictate the extent of market access. (Of course, one could argue that subnational governments with poor financial management practices pay a price in terms of higher interest rates on whatever money they borrow, yet that presents a different set of choices as they would have to compare the cost of imposing internationally accepted standards with the benefits of lower interest rates.) In short, while there may be many reasons to urge subnational governments to improve their financial management systems, it is unclear whether markets will operate according to theory in denying access to those that do not.

2. UNIVERSALITY VS. PARTICULARITY Implicit in any international conference is a notion that comparing experiences in foreign countries and regions of the worId is a fruitful endeavor. It is also clear, however, that individual countries and subnational governments face unique pressures and circumstances. Those making capital access policy decisions need to balance this tension, which was particularly evident in two respects.

First, while Latin America and Central Europe do face similar problems in accessing capital markets (and there was consensus that these similarities

introduction and Analytrcal Overview

were sufficient to make simultaneous consideration of the two regions worthwhile), substantial differences also emerged. For example, a dramatic process of decentralization has occurred in both regions, in which power has been devolved to local governments. However, the extent to which resources have also been devolved to local control differs dramatically. In Latin America, devolution of responsibility has often been accompanied by devolution of significant financial resources, while this has not been the case in Central Europe.

Second, throughout the conference, the municipal capital market in the United States was regarded as the most developed and was presented as a possible model for emulation. At the same time, discussions about subnational borrowing emphasized the benefits of financing infrastructure through non-subsidized market mechanisms. Ironically, the United States municipal market is heavily subsidized through the tax exemptions offered on municipal bonds. Thus, one must question how the strength of the U.S. model can be emulated without also incorporating the broad subsidy framework on which it rests.

3. SPECIFICITY VS. GENERALITY Another underlying assumption was that markets will differentiate among specific subnational governments and their offerings. Thus, it makes sense to consider what steps those governments can take in order to make their bond offerings more appealing to the markets. On the other hand, it was also clear that subnational governments often get "lumped" together, whether through operation of the sovereign ceiling for ratings on subnational debt or through the market's alacrity in lumping together numerous countries within a given geographic region. This tension can be seen also in the way analysts argued for undertaking broad privatization efforts in numerous countries, without distinguishing among the specific needs of individual countries and the level of privatization appropriate in each context.

4. MARKETS VS. PUBLIC POLICY Another underlying assumption was that market access and the rigor that market forces bring to public policy are positive. However, there was also recognition that public policy decisions are often made taking into account social goals and equit objectives rather than purely market-driven goals. In numerous cases, projects that are not financially viable in the market may yield positive social and public benefits. Thus, while reasons why the introduction of market forces may enhance governmental efficiency and operations, public policy needs to balance efficiency with equity as well as other concerns.

Introduction and Analytrcal Overview

C. Paradigms The tensions described above are also reflected in a series of competing paradigms for analyzing policies regarding subnational access to the capital markets. While few advocate only one of the paradigms, it is instructive to consider them separately, as their interactions and conflicting underlying goals shape key policy choices.

This paradigm places primary emphasis on ensuring national economic stability and growth. Thus, it encourages subnational capital market access to the extent that such access can enhance infrastructure investment that furthers economic growth. In addition, subnational access can act to limit the demands for funding placed on the national treasury, thereby strengthening national economic health. However, adherents of this paradigm are particularly wary of the risks that subnational borrowing and its attendant moral hazards pose for national economic policy.

THE PARADIGM OF ECONOMIC EFFICIENCY This paradigm sees capital access as a way to encourage the more efficient operation of subnational governments. Accordingly, the introduction of market mechanisms are welcomed as a way to unveil hidden subsidies and institute clear linkages between the expenditure of money and benefits received. Adherents to this paradigm would be concerned with any market failure that threatens to undercut efficiency. For example, sovereign guarantees would pervert the economic choices of subnational governments, and legal restrictions on subnational borrowing would limit the ability of markets to operate effectively.

T THE PARADIGM OF LOCAL NEEDS Under this approach, access to the capital markets is valued as a way to bring added resources to bear on meeting a wide range of local and/or regional needs. Borrowing is defined less in terms of economic efficiency and more in terms of whether the borrowing helps satisfy a legitimate local need. Thus, this paradigm may be used to justify significant Iocal borrowing on the basis of the extent of local infrastructure or other long-range development needs.

T THE PARADIGM OF LOCAL DEMOCRACY/ACCOUNTAB~L~TY This paradigm sees local access to capital markets through the lens of improving the accountability and representativeness of the subnational government

Introduction and Analytical Overview

to its population. Like the economic efficiency paradigm, this paradigm argues that capital market access can improve government operations, yet it focuses less on improving economic efficiency and more on ensuring transparency of governmental decisionmaking.

Much of the debate and discussion at the conference reflected the competing forces at play in the paradigms and tensions outlined above. While there was consensus on several significant issues, there was no agreement, or even explicit debate, on how the different tensions and paradigmatic goals should be balanced.

Indeed, these tensions and goals can be expected to continue to shape public policy choices in this arena for the foreseeable future, and it is recommended that readers use the descriptions in Parts I1 and 111 to develop their own judgments on how to achieve the appropriate balance.

Part II: Report on the Proceedings Mark C. Gordon

THIS REPORT SUMMARIZES key points made by the lecturers and discussants d u r ~ n g the Conference plenary sessions. Rather than trying to recreate every point made, this summary aims to highlight for the reader the major avenues of inquiry and the ways in which they were addressed at each session.

Inauguration Ceremony and Opening Remarks bVorld Hank President J~~rnrs I). Wolfensohn started the Conference by affirming the World Bank's commitment to helping countries, states, and inuilicipalities navigate the process of planning for the future and structuring thc finances of specific projects. In this regard, Wolfensohn noted the nunlerous ways in which the World Bank is working to its utmost to be accessible and up-to-date. As part of a broader process of decentralization, he predicted enormous growth in the local capital markets in the next two decades. Wolfensohn concluded that sub-sovereigns will face distinctive challenges in fulfilling this promise-both in terms of reforming their financial tnanagement systems and in building the capacity necessary to earn and retain the faith of the international investment comm~inity.

Report on the Proceedings

Opening Speech:Tuesday, October 27, 1998 Guillermo Perry, Chief Economist for Latin America and the Caribbean Region of the World Bank.

l'erry pl-esentcil his intcrprct;ition, hnscd o n bank research and his experi- encc in (;olornhia, of the framework within which subnational access to capital lakes place and how that framc\vork determines the process of capitill m;~rl,et acc-css. In general, his presentation focused on analyzing dccent~.alization and ways to assess its impact on sitbnational spending a n d I ~ o l . r o \ ~ i ~ ~ g .

I .THE EXTENT OF DECENTRALIZATION IN EMERGING MARKETS Ikrry arg~recl l l~at thc dcjirec of deicntrulization within developed market economics is filr grciitcr than that in Emerging Markets. If one measures decentraliz~itio~~ I>y the extent of total government spending that is repre- stwted I>y suhnational expenditures, then six developed economies would have p ~ ~ h l i c .;pending t h ~ t is more than 10(%1 decentralized, with ten more having decentralized hpcnciing o\.er 300h . Only four Emerging Market countries I I%razil, Indin. 'irgentina, and (:olornhia) reach the 30(Yii, level. Thus, Perry ,~rgued, as 1;merging Markets hecome more ~ieveloped, we should expect their spending profiles to Oecomz increasingly decentralized.

THE FORCES BEHIND DECENTRALIZATION It'hat arc the ti,rccs hchincl this decentralization proccss? Perry noted that tlierc arc '1: Icas~ three strong theoretical reasons to support decentralization:

I . If thc provision of public services is decentralized, then each locality can sclcct tliat Iwndle of pi~blic services most appropriate to the needs and wishes of the local poy~~la t ion .

?. Since the service provider at the local level is monitored by local elected officials who must live in the same city (even after losing office), one \ v o ~ ~ l d expect greater accountability and transparency; less corruption; and inllxovecl monitoring, control, and efficiency from decentralized aciministr:ltion.

3. IUlocal p ~ ~ l d i c services ;Ire financed to ii large extent by p~lblic tax rc\,enLlcs, t11t.n decentralization sh0~11cI ensilre that government as a ~vholc \ \ r i l l not grow too large, ns local citizens will feel the burden i~nlxxcd 0)' taxation whenever they choose to increase local services. 'l'his link is lost in the national provision of services.

\'\'hilt cconomisls have foc~~scd attention on these reasons, Perry argued that the sciil I-c,usons I>chind thc decentralization process are political. These


political incentives can be derived from a multitude of goals: from deepening democracy, to defusing ethnic conflict in multicultural countries, to the historical legacies of previous political administrations that are now main- tained by inertia. For example, recent experience in Latin America has shown a strong link between democratization and decentralization in countries such as Brazil, Argentina, and Mexico.

3. CRITERIA FOR JUDGING DECENTRALIZATION SUCCESS Perry presented three types of criteria for judging the success of the decentralization of public spending:

1. Political criteria-Does the decentralization process result in more democratic local governments?

2. Microeconomic criteria-How well does the decentralization process lead to increased efficiency in service delivery? Does the bundle of delivered public services meet the needs and desires of local populations? Uoes the decentralization process lead to more cost effective delivery of services and less corruption?

3. Macroeconomic criteria-Is the decentralization process compatible with national macroeconomic stability?

Each of these criteria raises accountability problems. When considering political criteria, for example, sub-sovereign administrators are accountable to the citizens as voters. The microeconomic criteria, on the other hand, focus more on accountability to the consumers of public services, including both firms and citizens. 'The macroeconomic criteria raise issues in terms of accountability to citizens as taxpayers.

THE PROBLEM OF THE COMMONS: PRESSURES FOR INCREASED SPENDING The taxpayer accountability issue presents a serious problem, made particularly difficult given the heterogeneity of wealth among geographic regions. That is, if the nation were comprised of totally homogeneous provinces each with the same level of wealth, a totally decentralized system would be easy to implement. However, with heterogeneity, there is a need for redistribution of wealth. This means that the connection between who is paying taxes and who receives local services is interrupted. This in turn raises the problem of the commons in which it is in the interests of each region to increase national spending in the hopes that the bulk of the spending will benefit their region while its costs will be spread among all the regions. This pressure toward excessive public expenditure then undercuts the national economic strength on which each region depends.

Perry suggested several ways to diminish these pressures:


1. It is better to have automatic intergovernmental transfers driven by a formula than discretionary transfers, as this limits the problem of the commons to one point in time (when the law is first enacted), rather than repeating it with each year's budget negotiations.

2. Intergovernmental transfers can be tied to the subnational government's own fiscal choices by requiring a local match for nationally provided funds.

3. The decision regarding the aggregate amount of total resources to be transferred to subnational governments should be separated from the formula and process for allocation of this money.

However, even with these approaches, problems arise. Since the national government must make the political sacrifice of raising the money, it has a strong incentive to impose at least some controls on how the money is spent (thereby undercutting some of the efficiency gains from local decisionmaking). Furthermore, there may be less local control over spending than appears on the surface. For instance, a large percentage of decentralized expenditures are for education and health, in which 80% or more of the total expenditures are for wages. In many Emerging Markets, however, wage levels for these services are negotiated at the national level, thus imposing large expenditures on local governments.

THE PROBLEM OF THE COMMONS: PRESSURES FOR ~NCREASED BORROWING The problem of the commons exists on the borrowing as well as spending side. Subnational governments are tempted to borrow in excess against their own revenues and intergovernmental transfers in the hope that they will be bailed out if they face economic trouble, as they often have been. In the 1980s a substantial part of the fiscal problems and hyperinflation in Argentina and Brazil was related to this problem, as large overspending by states led to deficits financed by their provincial banks, which were, in turn, bailed out by the central banks.

THE PROBLEM OF THE COMMONS: STATISTICAL SUPPORT Perry argued that the theoretical concerns arising from decentralization and the problem of the commons are reflected (at least in part) in available data. If one looks at subnational deficits as a percentage of GDP, greater decentralization is correlated with more subnational deficits, although this relationship is stronger in the case of Emerging Markets than in developed economies. If one examines the cross-sectional averages for national and subnational spending and deficits, there is evidence that countries with higher subnational spending have higher central government spending, as would be predicted by the


problem of the commons. However, greater decentralization does not seem to indicate a higher central government deficit. Since it is true that the higher the level of subnational tax revenues, the lower the central government spending, one could argue that decentralization accompanied by the transfer of significant taxing authority to local governments is unlikely to lead to excessive central spending. However, if one examines the effects of increases in spending, it appears that increases in subnational spending translate into increases in both central government spending and deficits. These effects are higher when central banks are not autonomous and when the governmental structure is unitary rather than federal.

7. QUESTIONS FROM PRACTICAL EXPERIENCES Perry argued that several case studies raise important questions related to local borrowing. For example, one would expect local governments to borrow especially for large long-term projects that yield good rates of return. However, in six case studies of Latin American subnational borrowings, five were not related to investment projects or programs, but were used for restructuring old debt.

This use of the capital markets raises a further issue regarding whether they are preferable to bank borrowing. The argument has been that capital markets can offer the opportunity to tap longer term financing, and that capital markets in principle impose more discipline. Such discipline was not readily apparent in the case studies, where short borrowing periods (three to five years) and similar terms for local and sovereign issues fueled speculations about possible bailouts. Central governments, according to Perry, can discourage such assumptions by actually allowing subnationals go bankrupt and by establishing both clear procedures for such bankruptcies and clear limits on the amount of debt subnationals can assume.

Plenary Session One MACROECONOMIC IMPLICATIONS OF SUBNATIONAL BORROWING

Lecturer: laroslaw Bauc-Secretary of State (Poland) Discussants:

Cristopher Marks-Resident Advisor, Ministry of Finance (Poland) DGPA- USAID

Anwar Shah-Principal Evaluation Officer, Operations Evaluation Department, World Bank

Roger Grawe-Country Director, Hungary, Czech Republic, Moldova, Slovak Republic, Slovenia Country Unit, World Bank


Moderator: Eduardo Wiesner-Economic Consultant (Colombia)

This plenary session focused on one of the key concerns of the conference: the extent to which subnational borrowing can undercut macroeconomic stability. As Eduardo Wiesner pointed out, this concern arises in the context of tremendous globalization of decentralization, in which subnational governments have emerged as major protagonists not only for local development but for national development as well. While this has obvious benefits, one must also consider the problem of the commons, as outlined above by Guillermo Perry. Agreement about the general theoretical problem, however, did not extend to proposed practical applications. A case study of Poland was used to explore ways in which such subnational borrowing, to the extent that it is a key concern, can be constrained in ways that protect national macroeconomic stability.

A.To What Extent Should We be Concerned with the Macroeconomic Implications of Subnational Borrowing? The presentations offered a variety of ways to think about the issue of subnational borrowing and the contexts in which it should be considered.

I . MACROECONOMIC BENEFITS FROM LOCAL BORROWING Jaroslaw Bauc pointed out a wide range of positive implications that can arise from local borrowing. For example, resorting to private debt financing for economically viable projects limits the pressures for public resources, which can then be targeted to projects that are not marketable and require a public subsidy. In addition, the use of privately obtained funds for infrastructure represents an efficient allocation of domestic capital, while enhancing intergenerational equity, as long-term borrowing requires future users to pay for the benefits they receive. Borrowing also often represents the only practical way to finance large capital projects without huge variations in local tax rates.

2. MACROECONOMIC RISKS FROM LOCAL BORROWING Bauc also outlined the potential macroeconomic risks that local borrowing can impose. These include the following:

a. An implicit easing of national fiscal policy; b. Implications for the national current account; c. The threat of increased cost of capital for the private sector through

"crowding-out"; d. Increased cost of capital for the central government due to subnational

competition for funds; and


e. The increased risk that central treasuries \ % r i l l he oldigated to I~ail out subnational governments, even in the ahsence of explicit guarantees.

3. DOES THE EMPIRICAL EVIDENCE REFLECT THESE RISKS? Scvcral discussants raised questions about the extent to which the empirical evidence justifies making concerns alroi~t suhnational borroiving a ccntrCll focus. For example, Christopher Marks qucstioned whether scieral kc). concerns that increase macroeconomic risk (such as implicit bovereig~i guarantees, weak development of local management inientivea, and information disclosure problems) are more holdovers of previous central gtrvernment control than reflective of real capital market risks.

Similarly, Roger tiranre pointed out that the current dyna~iiic in Central Europe might reflect transitional problems more than underlying long-term risks. In this context, he suggested that as nations movc froni centrally planned economies they are engaging in transitions along two ciir~iensionb: nniversality and selectivity. Thus, on the expenditure side, governnients arc trying to move the public away from expectations for the universal delivery of services toward greater selectivity. O n the revenue side, governments are instead trying to move from selectivity toward greater universality in terms ol'spreadi~lg the tax burden. As these new dyna~nics are achieved. limitations on subn;rtionnl borrowing may becorne less necessary.

Grawe and Anwar Shah noted the dil'fere~ices l~etween the h o r r o ~ i n g situations in developed eionoriiirs and Emerging hlarkets, arguing that subnational governments in Emerging Markets are in niany cases rlntlerhorrc~wcd. Shah contended that the concern regardi~ig subnational borrowing in E~nerging Markets is contrary to the data. l~ lc pointed o ~ ~ t that there is a clear excess of local burrowing in developeci economies. yet those national governments encourage such horrouing. In the Emerging htarkets, where many governments are imposing limits o n suhnational borrowing, there is (beyond Argentina and 13razil) h;irJly any excess of local borrowing.

Shah argued that the macroeconomic risks of subnational I lorro~ring trom decentralization are overstated. For example, fiscal dcccntr,~lir.atio~r leads t o greater central bank independencc, better fisc;rl dihciplint., a n d improved governanceCal1 of which have positive macroeconomic iniplications.

B. How Should Subnational Borrowing be Regulated? One's approach to national regulation of suhrrational I,orro\ving depends o n how one perceives the gravity, centrality, arid pernianelicc of thc risks involved.


I. Focus ON THE NATIONAL AUTHORIZING ENVIRONMENT Based on his analysis that n~acroeconomic risks are more a function of weaknesses in the national authorizing environment than of the extent of subnational borrowing, Shah argued that direct controls on subnational borrowing are neither desirable nor enforceable. Rather, national policies should focus on reducing the disharmony between the authorizing environment and the operational capacity, on the one hand, and values, missions, and goals on the other. This approach would argue for greater tax decentralization (subnationals in Emerging Markets raise less than 1% of GDP in their own revenues, while the figure for developed economies is over 6%); enhanced central bank independence; use of municipal bond banks and other structures to enhance borrowing capacity of smaller subnational governments; and improved standardization of accounting and auditing.

Eduardo Wiesner, also thinking on a macroeconomic scale, suggested that the issue revolves around how to encourage subnational borrowing with the right institutional support. In this regard, he presented three different trajectories that need to be considered: how to decentralize in terms of revenues and expenditures; how to decentralize in areas such as privatization and accountability; and how to decentralize macroeconomic monetary responsibility and achieve central bank independence. Wiesner also recommended that a broad strengthening of property rights on each level of government might be more effective than detailed regulations to limit subnational borrowing.

2. Focus ON IMPERFECTIONS IN THE MARKET Informed by a belief that a well-functioning subnational capital market should not undercut macroeconomic stability, Christopher Marks contended that regulation of subnational borrowing should be approached not through a broad effort to limit such borrowing but rather through a more targeted inquiry that asks: what are the features of local capital markets that blur the ability of creditors and borrowers to achieve a functioning market and therefore require regulation? In this context, Marks identified four particular areas in which the problem of the commons (or "moral hazard" issues) arise:

1. Outright subsidizatioiz of local government debt-This occurs to a great extent in the United States, as well as through Europe's formal guarantees of local debt and various guarantee funds that assume a portion of repayment responsibility.

2. Lack of clarity regarding national guarantees-Clarity requires explicit bankruptcy regulations and recovery proceedings, imposition of financial managers if subnationals get in financial trouble, etc.


3. CVeak developnlent of loci11 management incentives-Such weak incentives arise from limited local taxing ability, as thc usc of own-source revenues provides an incentive not to increase debt service costs.

4. Informution disclostrre problems-Clear regulations for disclosure and presentation of budgets in a timely fashion are required.

3. Focus ON DETAILED LIMITS ON SUBNATIONAL BORROWING Jaroslw Rauc presented the case of Poland as an example of detailcd limits on subnational borrowing. Poland initiated a series of administrative reforms in 1990, under which 2500 Gminas, or local governments, appeared on the map. .Iih~o additional levels are also being created-200 counties and 16 ~vojewodzt~~a. With all these subnational governments, however, the ratio of local government to total public debt remains very low. While the ratio is about 11% for the European Union and the United States; it remained under I 'YO for Poland in 1997 (although it had risen from .3% in 1995 to .6% in 1996 and .9'3/0 in 1997).

In order to deal with concerns about the inipact of growing subnational debt on mazroeconomic stability, Poland has introduced a series of limitations:

1. A constitutional requirement limits total public debt (including sovereign and subnational debt, as well as guarantees) to 60% of GDP. So long as this ratio remains below 5O0h, n o national restrictions are placed on central or subnational government borrowing. If the ratio is between 50 and 550/0, then the ratio of the central budget deficit to GDP cannot exceed the same amount from the previous year; and the local budget deficit relative to local revenue cannot exceed the same amount. If the ratio exceeds 55%, the national debt to GDP ratio must be lower than the previous year, as must local budget deficits. If the ratio excccds 60°/0, then no unit of public government is allowed to run a deficit.

2. Restrictions were placed on the types of debt instruments permitted. For examplc, (a) debt incurred by local governments must be serviced at least once per year, making zero coupon bonds impossible; (b) interest capitalization is not allowed, and the discount on a bond price cannot exceed 5Wo; and (c) Regional Audit Chambers are required to issue non-binding opinions on the credit repayment possibilities of local governments intending to issue a security.


Plenary Session Two Financial Management and Funding Strategies

Lecturer: ]oan Clos-Mayor of Barcelona (Spain) Discussants:

Vilrna Milunovic-Head Department of Finance, Piran Slovenia) John Petersen-President, Government Finance Group Inc. (USA) Katalirl Pallai-Advisor on Planning, Municipality of Budapest, Secretariat

of the Mayor (Hungary) Moderator: Benjamin Darche-Principal, Capital Advisors Ltd. (USA)

This plenary session presented a series of different approaches to dealing with local financing needs, focusing in particular on local strategies for improving debt management. While each city's experience is unique, several broad themes emerged, including the need for political commitment to reduce debt overhang; the importance of moving from a short-term debt profile that requires frequent refinancing; and the need to enhance own-source revenues. In addition, innovative approaches such as special economic districts and betterment assessments were discussed.

A. Barcelona, Spain: Restructuring from Short-term Debt Pilar Solans, Finance Minister of Barcelona, offered the city's experience as a case study in the transition of a city from significant short-term debt, through refinancing, to a longer term debt profile together with an operating surplus. After this restructuring, Barcelona's long-term debt is now on a 1 t o - 1 basis with its current revenues. In 1991, almost 3094, of the city's debt was short term; by 1997, that figure had been reduced to zero. The average debt lifespan rose from 4.1 to 5.8 years in that same six-year period. In 1991, the ci~y's debt strategy was dominated by bank credits in pesetas (680?,), with some domestic issues (24%), and few foreign loans or international issues (combined 8O?]. Six years later, the situation had changed dramatically: bank credits now composed only 23% of the pie, and international issues and loans together amounted to more than half of the total. Between 1995 and 1998, investment increased 23.5% annually. Solans attributed these improvements to such factors as fiscal discipline, improved communication, and effective management (including some liquidation) of city owned property.

B. Budapest, Hungary: Financial Management Reform Katalin Pallai noted that the city, like Barcelona, had to undergo substantial reform in rethinking service provision and delivery, as well as financing. In


contrast to Barcelona, Budapest was trying to avoid creating a large financial crisis, especially given the fact that the Hungarian capital produces more than 40% of the national GDP. The Budapest experience can be seen through the prism of three distinct periods:

1. 1990 through 1994--The city suffered from substantial fiscal uncer- tainty and a national government with an anti-Budapest policy. Given these constraints, the key goal for the city was to maintain a balanced budget and operational capacity by trying to regain central revenues and negotiating the use of shared funds.

2. 1994 to 1998-The city adopted a strategy of a balanced budget. lnstead of fighting for central revenues, the city's strategy focused on increasing its own-source revenues from local taxes and privatization. One-time revenues from privatization were used for infrastructure improvement, as well as improving the conditions and rationalization of operations. The goal was to achieve an operating surplus at 20% of current revenues, which required shifting to task financing of operation, the four-year planning of capital expenses, swapping of existing loans, and an active borrowing policy and maintenance of financial reserves.

3. Post-1 998-The city is geared toward developing a system of sustainable financial balance, based on task financing, a clear system of infrastructure maintenance, strategic planning, and an active borrowing policy.

C. Piran, Slovenia: Dealing with Added Pressures Vilrna Milunovic explained that the city is facing greater pressure to expand public services, hampered by a shortage of public tax sources and inadequate financial management. Thus, decentralization has led to increased responsibilities without the needed resources.

Slovenian cities operate within several nationwide constraints. While municipalities can borrow through loans or bonds, they can issue debt only for investment in public infrastructure. Local indebtedness (including guarantees) cannot exceed 10% of annual budget revenues, and municipalities cannot issue debt on the international market unless allowed by law.

D. Additional Approaches ~.

John Petersen pointed outlined new approaches to financing economic development. For example, in the United States, increasing numbers of municipalities are establishing special districts that assess taxes for economic development. Afier Proposition 13 limited the State of California's ability to


tax property value, new taxes were introduced, including taxes based on square footage and on lumens (the amount of light generated). In each case, the goal was to create new revenues in the context of growth.

Benjamin Darche pointed out that construction of a transit system in California is being financed through bonds secured by payments from property owners who are benefiting from the system.

Plenary SessionThree Legal, Regulatory and Institutional Frameworks for Subnational Borrowing

Lecturer: Jose Luis Ruiz-International Monetary Fund Discussants:

Vera Kamenickova-Advisor to Prime Minister (Czech Republic) Michel Noel-Manager, Municipal Finance Initiative, World Bank Timothy Goodspeed-Professor, Hunter College, City University of New

York (USA) Moderator: Fernando Rojas-World Bank

'This session considered different ways to look at central control of subnational borrowing. Timothy Goodspeed set the tone by outlining the two major inducements toward regional borrowing: (1) the moral hazard problem derived from implicit promises of central bailouts and (2) the underfunding of subnational government needs by central governments. Thus, the challenge becomes one of simultaneously encouraging judicious subnational borrowing and protecting national macroeconomic strategies. Several approaches to achieving this balance were considered. Under one approach, four different models can be used to describe different levels of central governmental control, each of which may be appropriate based on local circumstances. Another approach rejects the extremes of purely administrative control or pure market discipline, and looks instead at a series of rules that are recommended in all cases. A third approach suggests three key pillars for a national framework, and recommends a range of approaches within each.

Even those presenters who differed on the most generally useful approach, however, often voiced common concerns and conclusions. For example, several presenters noted that a model based purely on market discipline is not appropriate, either because it may add too much subnational debt to the central government's debt, or because few countries have markets mature enough for such a plan to function effectively. Similarly, a system of strict centralized control garnered little support. There was also general


agreement regarding the need for precision in terms of definitions, whether one is defining exactly what is included in the public debt, or what types of projects are considered public investments. For example, should education and health care projects be considered the same as infrastructure projects since both lead to economic development?

A. Different Models for Different Nations Josk Luis Ruiz proposed that given countries' distinctive experiences in trying to control sub-sovereign borrowing, there is no clear model to recommend. Rather, since each model has its own advantages and drawbacks, Ruiz suggested that each country needs to build its own alternative from the different elements of the following four models:

I . N o EXPLICIT REGULATIONS Under this model, countries do not impose explicit limitations on local indebtedness, trusting instead that market mechanisms will allocate subnational credits. It is argued that through this approach subnational indebtedness should be neither more dangerous nor more difficult to handle than other kinds of indebtedness with which the market deals. Limitations on this model arise from the fact that both lenders and borrowers adapt their behaviors to the expectation of eventual bailout by the government. In addition, for the market to operate efficiently, local governments need to offer clear information to the markets, which is often a challenge.

2. COOPERATION SYSTEMS The model of central/subnational cooperation is based on the Canadian system in which the central government needs to agree with subnational governments about the size of their deficits and their indebtedness. While this system has led to a national bailout of certain provinces, it has also enabled local borrowing within the context of specific agreements. A disadvantage to this model is that it may be particularly difficult to implement in certain societies.

3. PRECISE LIMITS ON BORROWING Some countries have adopted rules that limit indebtedness of subnationals through prescribed debt service to revenue ratios or other measures. Varia- tions on this approach include restrictions on certain types of indebtedness, such as foreign currency borrowings. These systems may also impose various rules earmarking funds in investment projects. While rules have benefits and avoid the need for annual negotiation, they tend to lack flexibility and become fixed even as national economic needs change.


4. DIRECT ADMINISTRATIVE CONTROL Under this system, the central government directly authorizes major subnational debt instruments loan-by-loan. While this can help rationalize subnational debt across a country, the central authorization of indebtedness creates an implicit, if not explicit, central guarantee.

B. Required Guidelines Vera Kamenickova used the Czech experience to illuminate a series of recommended requirements. While pointing out that both the extremes of administrative control and of market discipline are dangerous, Kamenickova identified a series of generally applicable guidelines. These include the need for clear definitions of items such as local debt, borrowing capacity, and local revenue; the need for an explicit bankruptcy procedure; the need for unified budgetary and accounting methods which distinguish between operating and capital budgeting and present capital expenditures on a multiyear basis; and the need for strict disclosure and auditing rules. Kamenickova also referred to the need for strict subnational borrowing limits.

C.THREE PILLARS Michel Noel used the experiences of nations in Central Europe to describe three pillars of an approach that works to balance transparency and predict- ability with market freedom. The three pillars include:

I . PRUDENTIAL FRAMEWORK This framework would:

1. Provide a clear definition of public debt to include borrowing as well as guarantees and other contingent liabilities of the government;

2. Establish in law the fact that the sovereign will not guarantee sub- sovereign debt, unless explicitly stated otherwise by the Council of Ministers or National Assembly (as in Romania and Bulgaria); and the law would address not just sovereign guarantees but those of other levels of government as well.

3. Clarify bankruptcy and local government insolvency rules, as has been the case in Hungary.

While borrowing limits may have some usefulness in the short-term while the regulatory framework is being constructed, Noel contended that over time they become either superfluous or counterproductive.


2. BUDGETARY FRAMEWORK This framework would establish clear budget accounting and auditing rules, particularly regarding the distinction between operating and capital expenditures, the latter of which continues to be elusive in much of Central Europe. A well-grounded budgetary framework would also reflect clear rules regarding revenue and asset collateralization, and would establish a rationalized system of allocation criteria for investment grants. According to Noel, most Central European countries allocate investment grants through a wide variety of channels, so that at the local level, the share of investment in a given project covered by a grant bears no relationship to the economic rationale of the grant o r to the externalities to be caused by the project.

3. FINANCIAL SECTOR, LEGAL AND REGULATORY FRAMEWORK This framework would establish a precise national system to support capital market development. This includes registration and disclosure rules, as well as issuance and trading rules. For example, specific rules would be established regarding the types of information that must be disclosed at the time of issuance and throughout the life of the bond.

Plenary Session Four TheView from the Market

Panelists: Juan Miranda-Wellesley Co., AB Asesores K Brian Keegan-Managing Director, Debt Capital Markets, Merrill Lynch

(USA) Iain Hardie-Executive Director, Eastern Europe Capital Markets, Morgan

Stanley, Dean Witter (USA) hlaher Al-Hafar-Director, Debt Capital Markets, Santander Investment

(USA) Moderator: David Rosen -Managing Director, Emerging Markets, Bear

Stearns (USA)

'I'he participants in this session represented several important players in the international capital markets. Discussion centered around two general themes: the condition of the market, and steps that subnationals from Emerging hlarkets can take to enhance the marketability of their issues. Given market conditions at the time of the conference (October 1998), little hope was offered in terms of short-term access to the international markets for subnational governments. There was, however, at least an implicit sense that


market conditions would change significantly in the longer term such that subnational access would again become possible.

A. Market Conditions There was unanimity among the panelists regarding the current condition of the international market, which is effectively closed for subnational issues from Emerging Markets. Stefan llorfmeister from Merrill Lynch spoke of a credit crunch in which a few nations (such as the Czech Republic, Hungary, Slovenia, and Estonia) are converging with the developed economies while most are submerging and in serious trouble on the international market. Maher Al-Haffar spoke of a massive confluence of negative events happening at the same time, in which every equity market in the world has experienced big losses, the credibility of banks has been diminished, and there is massive volatility on the currency markets. He noted that the Emerging Markets Bond Index (in which every 1% change in yield reflects a 5% change in price) recently tripled; while domestic markets have also been very volatile, with spreads tripling or quadrupling. lain Hardie spoke of the currency meltdown in Russia, and the fact that international markets will now be less forgiving of - -

municipalities that try to access international markets without having first explored the domestic market.

13. Subnational Policies Within the context of a deteriorating market, there was little suggestion that any subnational policy could serve as a panacea to guarantee immediate market access. However, a number of considerations were suggested for the future. Juan Miranda reported on his study of six Emerging Markets bond issues, and the reasons for their success and failure. He noted that a key variable was what he termed the "issue context," namely the confluence of macroeconomic conditions, the regulatory environment, and intergovernmental relationships. Miranda also noted the important function played by the underwriter and indicated that he did not foresee the emergence of a major moral hazard problem.

Dorfmeister noted that those n~arkets that are converging with the developed economies have more and more characteristics of investment grade debt, including an incipient secondary market. Al-Haffar suggested that perhaps the Argentine and Canadian markets, rather than the US market, would be the most appropriate models for Emerging Markets. In this context, he noted that it is unrealistic to expect Emerging Markets to develop with the characteristics of the American market, especially given the deep national subsidies provided in the United States through tax exemption of subnational


issues. Hardie predicted that investors would carefillly scrutinize assumed guarantees of sovereign support for local issues after an experience in China where S L I C ~ assumptions proved to be unfounded.

Opening Speech Wednesday, October 28,1998 Enrique Peiialosa-Mayor of Santa Fe de Bogota, Colombia

hlayor Pefialosa offered an impassioned defense of cities and their role in national life, questioning the wisdom of national policies that favor rural over urban development. His remarks presented an intriguing prism through which to evaluate subnational governments' need for infrastructure and repayment capacity, as well as the general effects of sovereign government policies on sub-sovereign borrowing.

Penalosa urged officials not to allow bucolic dreams t o blind them to their responsibilities to cities and their burgeoning populations. Rather, he argued, there is a strong econon~ic rationale that leads t o growth for certain urban areas, and that international efforts t o constrain such growth invariably fails. while producing negative economic consequences. Despite the fact that large cities generate inost national tax revenues, Peiialosa argued that national policies often d o not give urban areas proportional representation on the political level and provide less than proportionate economic support for inajor cities as well.

Such policies, Peiialosa argued, can be both socially and economically regressive. taking money from investments in urban areas that ~vould generate larger ret~irns and shifting it to rural areas. Indeed, Peiialosa suggested that the transfer of resources from large cities to small villages has had a high cost in terins of economic growth rates around the world, and that a lack of such transfers might explain some of Singapore's and Hong Kong's success. In Colombia, on the other hand, ideologically based redistribution artificially prolongs the existence of certain rural areas that ~ rou ld not otherwise be economically viable.

Pefialosa also suggested that current measurements of poverty and need do not reflect pressing urban problems accurately. For example, the lack of availability of urban parks for children or the lack of coinfortable transportation are not included in traditional poverty indicators. Additionally one hour lost by a highly qualified engineer in a traffic jam downtown imposes a greater cost than one hour lost by a less skilled rural worker. Ignorance of these factors, however, affects the amount of funds available for cities, and a lack of resources prevents ~ l rban areas froin building the infrastructure needed to compete.


In short, Penalosa argued that tax autonomy for cities should be increased; in other words, national policies should not be permitted to "kill the urhaii goose that lays the golden egg."

Plenary Session Five Choice of Instruments and Borrowing Structures

Lecturer: (ieorge Peterson-Senior Fellow, Urban Institute (USA) Discussants:

A4urio (;emu-General Administrator of San Salvador (El Salvador) Rrlfael Guticrrez Sunrez-Advisor on Economy and Finance, Government

of (,antabria Ellis Juan-Senior Vice President, Head of Project Finance, Latrn America,

Sant'~nder Investment Moderator: Brud Johnson-Partner, Hawkins-Delafield 8( Wood (USA)

This session presented several perspectives on how borrowings and borrowing systems should he structured, followed by two case studies relating subnational experiences in dealing with budgetary pressures. 111 general, presentations focused on the subtle but crucial differences in perspective that niay exist among the different parties in a borrowing. 'The case studies presented two very different approaches, one on the local and one on the regional level, to handling budgetary pressures.

A. Structuring Borrowings and Borrowing Systems

I .A LONG-TERM SYSTEMICVIEW George Peterson argued that Emerging Market governments should take a long-tern) view in structuring their domestic capital markets, starting with a vision of what they want their municipal credit systems to look like five t o ten years in the future, and then working backward. Peterson suggested that these systems should be structured with two key goals: enabling debt issuance and repayment and increasing efficient financial management. Thus, steps that achieve the first goal but at the expense of undercutting the second are not recommended. Given these goals, Peterson offered several specific suggestions:

1. N~~tionrzlglturrzntees of sub~zutionnl debt should be nvoided, or they negate the efficiency benefits of the market. The experience of Istanbul, Ankara, and other Turkish municipalities that defaulted in 1996 were saved by implicit national guarantees illustrates how the availability of credit can be used to undermine responsible financial management.


2. National subsidies need to be rationalized to reinforce the market. Peterson noted that many subnational investments, such as wastewater and environmental protection, offer significant external benefits and deserve public subsidy. However, he argued that national environmental funds (as in Poland and the Czech Republic) may undercut the market and market discipline, as they lend money more cheaply than the market, and discourage worthy investments from going to the market. This occurs because these funds define very broadly the domain of projects eligible for subsidized funding (without having the resources to subsidize all eligible projects). This results in a shortage of subsidized credit, long waiting lists of projects, and hesitation by municipalities to invest on their own at market rates so long as the prospect of subsidized funds somewhere in the future beckons.

3. Strong collateralization is needed for subnationals to gain access .to the credit markets. Peterson suggested particular covenants, such as maintenance schedules and other commitments that encourage effective financial management. He also noted the benefits of spinning off entities so that guaranteed revenues cannot be claimed by the general fund. Generally, Peterson expressed concern that systems are retreating from defining collateral in a way that encourages efficient service delivery. Rather, he said, more loans are being collateralized by property, which is difficult to foreclose on, which doesn't lead to good management, and which in countries like Poland may, due to specific national rules, enable those loans to escape normal debt limitations.

4. Municipal Development Funds should be reassessed in terms of their impact on credit market development. Peterson stated that, in most countries, the goal should be for municipal development funds to disappear within a decade of beginning operations, and that these funds should be seen merely as transitional mechanisms to help achieve market systems. After ten years, these funds should either have successfully helped develop a real market or have turned into true market- oriented intermediaries. Instead, Peterson expressed concern that no municipal development fund anywhere in the world has made the transition to a real capital market, and suggested that these funds are creating a new class of political risk: as cities that have trouble repaying their loans can get assistance from ministers controlling these fiinds.

THE NEED FOR ~NNOVATIVE APPROACHES T O RISK MITIGATION Ellis Juan contended that financing the private provision of public services will require innovative structures. He based this on five assumptions:


1. Structures need to be created from the point of view of lenders who have witnessed a severe deterioration in market capital values.

2. Infrastructure investment has a strong impact on economic growth. However, while Latin America requires $60 billion in annual infrastructure investment to achieve 3% to 4% growth, even in the best years it has received only one-half of this amount.

3. The gap between the rich and poor is neither widening nor decreasing; and rapid urbanization is occurring because rural areas offer no future.

4. The private provision of public services is no longer a political taboo, which opens up possibilities for finance and debt structuring.

5 . Even before the current market crisis, only 5 to 7% of sub-sovereign entities were creditworthy.

Thus, given the need for development and the willingness to seek private financing, together with concerns about creditworthiness and the amount of funds available to lenders, innovative approaches are clearly needed. For example, Juan suggested a scenario in which a municipality wants to develop an express tollway costing $400 million, with total savings from reducing costs of doing business estimated at $150 million, only a portion of which can be monetized through tolls. He further assumed growth in the area covered has been 7% per year, with 12% annual growth in the number of vehicles. Juan noted that, from the lender perspective, two distinct risks would emerge: ( I ) the contractual risk of the municipality, as it will be the obligor of record, and construction of the tollway will create a contingent obligation that might exceed the annual local budget; and (2) the currency risk, which reflects both commercial risk and a political risk based on the macroeconomic situation. Given these risks, Juan argued for innovative risk mitigation techniques. These could include the use of multilaterals, central governments and lenders to create a mechanism to trap currency risk at the sovereign level. He also suggested the possible creation of a backstop facility to guarantee at least in part the loans.

3. SPECIFIC LESSONS LEARNED Brad Johnson related a series of experiences in structuring debt for the Long Island Power Authority, the city of Miami (which was on the verge of bankruptcy), and Brazil. From these experiences, Johnson extracted several lessons, including the fact that capital markets do not have an ideology, the fact that financing can be accomplished with retained earnings or other segregated funds even in a financial situation which is otherwise chaotic, and that structuring deals in ways that are familiar to investors can ease market access.


0. Case Studies of Borrowings

I . SAN SALVADOR, EL SALVADOR Mario Cerna described the financial pressures faced by San Salvador, particularly a central government ruled by the opposite party, which can impede necessary intergovernmental transfers. In fact, intergovernmental transfers have been reduced for San Salvador, but not for other cities.

According to Cerna, the city's budget of $30 million is far too small given its nceds, as projected costs for urgent investments are about $80 million. In addition, the tax system is quite regressive: small businesses pay 1.75%, while large banks pay only 0.02%; citizens also pay less in user charges than the cost of providing the services. The 1998 budget also must offset a deficit from the previous two years.

In order to deal with these problems, the municipal budget is comprised of revenues derived 68% in taxes and user charges, 3.4% in government transfers, 27% in municipal bonds, and 1.1% in external cooperation. An effort is being made to change the taxing structure, creating a single rate of 0.36%, and user charges are being increased (although still not to a level to cover costs). The municipal slaughterhouse and other services are being privatized.

The municipality is issuing investment certificates with a private local , bank for $9 million dollars. The interest rates will be determined by the basic rate of 180 days plus a spread from 0.5 to 2% based on market conditions, making the current interest rate of 14% better than the bank rate of 18 to 22%. This scven-year loan, rated AA+ by Duff and Phelps from Chile, will be used to finance urgent investment, including modernization of administration, refurbishing the historic city center and purchase of equipment to clean the city, dispersal of municipal services, improvement of green areas and city parks, and investments in communities that comprise the municipal districts. Principal payment will be on a semi-annual basis, although accumulated monthly. The securities are guaranteed by the municipality, backed up by future tax revenues and user charges; and a trust has been created to accumulate the liquidity account and manage a reserve account for repayment of the bonds.

2. CANTARRIA, SPAIN Rafael Gutierrez Suarez discussed his government's approach to meeting the strict requirements imposed by Maastricht. He explained that the provincial government decided to look at the specific situations of each of the 102 local governments in the province, which he divided into three general categories.


The more populated jurisdictions tended to provide acceptable services, but suffered from liquidity problems. Intermediate-sized jurisdictions frequently experienced short-term funding growth from atypical revenues, but faced insufficient recurrent revenues. The smaller lurisdictions tended to have acceptable liquidity and solvency, but lacked good management of municipal services. This led to a determination to create local covenants to increase municipal power to improve those services. In addition, the Province designed financial health ratios that any jurisdiction needs to meet, including minimum and maximum figures for growth, savings, cash flow, short-term borrowing, and liquidity.

Plenary Session Six Avoiding Bail Outx Minimizing Exposure of the Central Governments

Lecturer: Fernando Rojas-Senior Public Sector Management Specialist, World Bank

Discussants: Hana Polackova-Public Sector Management Specialist, Poverty Reduction

and Economic Management Sector Unit, World Bank Jolio Oliveira-Senior Economist, The World Bank

Moderator: David Vetter-DEXIA (France) This plenary session explicitly addressed one of the underlying concerns of the conference: the potential negative impact of subnational borrowing on central government economic stability. In addition, it provided an opportunity to consider two different ways of conceptualizing central government exposure, as well as to examine the case of Brazil. However one considers limiting central government exposure, or the need to be concerned about such exposure, David Vetter noted that a key concern should be the ability of governments to take advantage of crises to implement policy reforms.

A. Minimizing the M o r a l H a z a r d Fernando Roja delineated the variables that sub-sovereigns should consider before attempting to access the capital markets. Central to the discussion was the risk of moral hazard: of borrowing indiscriminately and irresponsi- bly. Rojas made it clear that the decision is usually too complicated for rigid yes-no answers. Rather, he discussed six scenarios and outlined the necessary questions that sub-sovereigns must ask themselves. In some cases, the answer is clearly "no": governments should never borrow to compensate for arrears. In some cases, it is a highly qualified "yes": sub-sovereigns might borrow to improve fiscal financial management, but only after having tested


eligibility and formed the appropriate partnerships. Although often ideal candidates for bond issues, capital investment projects always come with a number of prerequisites, such as a lack of implicit bail-outs and the presence of well-developed partnerships with relevant private sector entities, inultilat- era1 organizations, and central governments. Kojas concluded with the recommendation that sub-sovereigns begin the process by forming joint investigative committees.

0.A Typology of Government Risk Hana Polackova presented a 2-by-2 matrix for conceptualizing sources of fiscal risk for central governments arising from subnational borrowing (see Table 2). Under this typology, the key questions center on: ( I ) are liabilities explicit or implicit and (2) arc the liabilities direct (i.e., they will arise in any event) or contingent (i.e., they will arise only if a particular event occurs).

Rased on these two measures, different situations can be categorized, and, presumably, countermeasures can be taken appropriate to their category. Thus, government risk that is both direct and explicit arises from foreign and domestic sovereign borrowing, as well as spending obligations incurred by law. Direct but implicit risk occurs in the following situations: future recurrent costs of public investment projects; future public pension obligations, if not required by law; future health care financing; and social security schemes if not required by law.

Thc obligations that are explicit but contingent include: guarantees for borrowing issued by the government; i~mhrella guarantees for various types of

Table 2: Sources of Fiscal Risk

Liabilities Direct - - . -. - -

Contingent - - . . - - - -

Direct borrowing Guarantees on credit

f;xpticit Legally Mnding arsd privaze investments Insurance programs

expenditures (crop insurance)

Implicit

Depletion of assets (housing, hospitals,

Services and benefits schools, water pipelines) required by law Arrears and obligations

of own enterprises Liabilities of own banks


loans (such as certain mortgage, student, agricultural and small business loans in the United States); guarantees on private investments; and government insurance arrangements (including deposit insurance, crop o r flood insurance, guaranteed min imun~ returns from private pension funds, etc.).

Contingent and implicit obligations would include: default of sub- sovereign government and parastatals or private entities on non-guaranteed debt; liability clean-up in entities being privatized; banking failure (in which intervention could extend beyond state insurance); investment failure of non- guaranteed funds (such as social protection of small investors in pension funds); central bank default on its obligations (e.g., foreign exchange contracts, currency, balance of payments); and residual environmental damage or disaster relief.

Given this typology, one can assess the extent of subnational contingent liability on the central government, taking into account the size of sources of fiscal risk faced by sub-sovereigns; whether these determinants are exogenous or endogenous; how the risks are measured; and the likely pressures on the central government t o intervene in cases of failure.

B. The High Cost of Bailing Out Sub-sovereigns:The Brazilian Experience JoHo Oliveira presented the experience of Brazil in which subnational borrowings have imposed significant costs o n the central treasury. Oliveira explained that Brazil is one of the most decentralized governments in the world, with weak political parties, strong regional representation, and substantial regional autonomy, so that debt issues are immediately politi- cized. Brazilian municipalities depend significantly on transfers from the central government and the state.

Given this structure, the 1960s and 1970s witnessed substantial deficit financing, financed through domestic resources from forced savings (such as social security funds), with external financing obtained mainly through enterprises. 'The 1980s and 1990s, however, witnessed maior financial crises for subnationals, which were financed through short-term debt, with their own revenues as collateral. State banks were very active in placing these bonds as well as private deposits, but the "Real Plan" exposed a significant structural fiscal imbalance. In fact, subnational debt had increased dramatically, with the debt to GDP ratio rising from 1% to approxin~ately 20%) from the mici-1960s to 1997. In the same span of years, the debt to net revenue ratio rose from 20% to 200°/0.

In each of three recent debt restructuring episodes (1989, 1993, and 1996), the federal government provided significant debt relief for subnalionals. In the most recent restructuring, state debt was consolidated


into one contractual debt, with a series of bilateral negotiations between the central government and subnationals. Under this arrangement, limits were also placed on subnationals' ability to issue debt if the debt-to-revenue ratio exceeded one, and amortization and other requirements were imposed on subnationals.

Closing Session Gonzalo Garcia Piriiero Lageh layor of Santander (Spain) Michael Barth-Director, Capital hlarkets Developemnt Department,

World Bank Roger Grawe-Country Director, Hungary, Czech Republic, Moldava,

Slovak Republic, Slovenia County Unit, World Bank Tim Campbell-Advisor, Urban Development, World Bank h4igucl Fiandor-Managing Partner, Arthur Andersen (Spain) Philip Schofield-DEPFA-Bank, General Manager (Spain) Luis Guusch-Lead Specialist, LCSFP, The MTorld Bank

The closing session presented an opportunity for participants to take a step back and consider underlying themes and conclusions from the conference.

A. Increasing Numbers of Players Seeking Funds Tim Campbell placed subnational borrowing in perspective with an overview of the unprecedented scale of urban growth, noting that in less than 20 years, approximately 559'0 of the population in Emerging hlarket countries will be urban. Emerging Market cities are expanding by 60 million people per year; by 2015 there will be 60 cities of over 5 million inhabitants. This will translate into multiple new actors seeking funding on the international capital markets. Campbell also noted the M'orld Bank's desire to focus on the creation of specially tailored development strategies to create cities that are competitive, manageable, bankable, and livable.

B. Increasing Availability of Funds Despite the market limitations extant at the time of the Conference, Leo Gomez noted the potential for a dramatic increase in funds available for investments, especially on domestic markets as !ocal pension funds increase their assets.

C. Need for Key Frameworks Several closing comments focused on the general consensus that if the markets are to work well for subnational governments, a set of rules and


frameworks must be developed. According to Michael Barth, these include improved financial, legal and regulatory frameworks; a commitment to transparency, discipline, and disclosure; reality-testing from the markets; development of appropriate bonding instruments; and balancing of micro and macroeconomic concerns. In addition, Gomez pointed out the need to address moral hazard concerns, the adoption of good debt management practices, and the need for the political commitment to borrowing to be broadbased enough to transcend any change in political control of the government. The development of these frameworks is made more challenging, as they raise issues that, as Roger Grawe pointed out, cross the lines of various disciplines, voices, and interests.

D. Future Trends and Considerations

Philip Schofield reminded the audience of the possibility of very abrupt changes ,which can upset settled predictions, as well as the potential for political leadership emerging from the most unexpected of places. These caveats aside, he pointed to a growing standardization of the market, as Europe moves closer to the American model.

Both Miguel Fiandor and Michael Barth suggested taking a step back to consider underlying values and goals. Fiandor focused on urban areas seeking to provide efficient services, which can keep human capital from leaving cities. Barth pointed out that while capital markets access presents an opportunity to use a valuable source of finance that can bring certain ancillary benefits if done right, capital markets should not be seen as a panacea.

Part Ill: Summaries of Selected Papers and Presentations

THESE SUMMARIES, BY Columbia University graduate students Joshua M. Lupkin and Mark J. Woodward, are intended to introduce the reader to the overall work of the conference as reflected both in papers distributed by and presentations given by participants. Each summary indicates several points in the paper that may be of interest to readers. In some cases, the abstracts rely heavily on the authors' own summaries within their papers. While each paper may contain both specific and general information, an effort has been made to place each paper along a spectrum from theoretical and general issues to specific case studies. The papers can be found in Appendix C.

Theoretical and General Topics of Sub-sovereign Borrowing

Fiscal Federalism and Macroeconomic Governance: For Better or forworse? Anwar Shah-Principal Evaluation Officer, Operations Evaluation

Department, World Bank

Shah's paper focused on the recent debate over the efficiency of principles and practices of fiscal federalism. In particular, the author examines the institutional environment for macroeconomic management in the areas of monetary policy, fiscal policy and sub-national borrowing. Regarding fiscal policy in a

Summaries of Selected Papers and Presentations

federal system, Shah concludes that federally imposed controls often do not work. Capital markets and bond-rating agencies provide more effective fiscal discipline; for this reason, it is important for central governments not to "backstop" local debt. Regarding sub-national borrowing, Shah concludes that financing choices available to local governments are quite limited due to macroeconomic instability and a lack of fiscal discipline. First steps to improving the situation may be to establish municipal finance corporations and to encourage tax decentralization to secure local revenue sources.

Shah also focuses on the relevance of securing an economic union in a federal structure, including ( 1 ) preservation of the internal common market; (2) tax harmonization; (3) transfers and social insurance; and (4) regional fiscal equity. Finally, he outlines some of the challenges of globalization for federal systems. On the one hand, national governments are seeing diminishing control over "large-scale" fiscal policies as international trade increases; on the other hand, the trend toward localization is leading to diminishing control over "small-scale" policies.

Shah draws some concluding lessons from past experiences for developing countries:

Monetary policy is best entrusted to an independent central bank with a mandate for price stability. Fiscal rules accompanied by "gatekeeper" intergovernmental councils/ committees provide a useful framework for fiscal discipline and fiscal policy coordination. The integrity and independence of the financial sector contributes to fiscal prudence in the public sector. To ensure fiscal discipline, governments at all levels must be made to face financial consequences of their decisions. Societal norms and consensus on roles of various levels of governments and limits to their authorities are vital for the success of decentralized decisionmaking. Tax decentralization is a prerequisite for sub-national credit market access. 1 Iigher level institutional assistance may be needed for financing local capital projects. An internal common market is best preserved by constitutional guarantees. Intergovernmental transfers in developing countries undermine fiscal discipline and accountability while building transfer dependencies that cause a slow economic strangulation of fiscally disadvantaged regions. Periodic review of jurisdictional assignments is essential to realign responsibilities with changing economic and political realities.


Contrary to a common misconception, decentralized fiscal systems offer a greater potential for improved macroeconomic governance than centralized fiscal systems.

Macroeconomic lmplicotions of Subsovereign Borrowing Jaroslaw Bauc-Secretary of State, Finance Ministry, Poland

Jaroslaw Bauc focuses on some of the challenges and opportunities facing local government borrowers in Eastern Europe from a macro-economic perspective. Eastern Europe has seen a recent trend toward increased devolution of expenditure responsibilities to local governments, and with such devolution an increase in local government engagement in private capital markets.

On the macroeconomic level, Bauc writes, increased sub-sovereign borrowing has both positive implications and potential risks. On the positive side, local governments' use of funds for inh-astructure development provides for greater accountability and better access to information, thus enhancing efficiency. Borrowing itself has certain advantages, as it is a practical way to finance large capital outlays and allows future users of facilities to pay for the benefits they receive. Finally, local government borrowing provides symbiotic benefits to the financial services sector, providing dependable sources for investment.

Bauc also delineates a number of potential risks to increased sub- sovereign borrowing. Monetary policy might be eased as borrowing increases. The cost of capital for central governments could go up due to competition with local governments, and the cost of capital in the private sector could similarly increase through "crowding out." Finally, central governments could be forced to meet sub-sovereign obligations when local governments exhibit poor debt management.

In the case of Poland, the macroeconomic risks to local government borrowing can be, and in many instances have been, addressed. Two key restraints generally apply:

1. Short-term borrowing to cover seasonal or exceptional liquidity shortfalls must be repaid within the budgetary year.

2. Long-term borrowing must be used for investment purposes. Other restrictions have also been implemented, including requiring

taxpayer approval for certain borrowing, allowing borrowing for only certain types of projects, restricting debt to a certain percentage of revenues, requiring national or provincial approval for borrowing, limiting debt based on total


outstanding public debt of all government levels, and limiting certain types of debt instruments. Additionally, the Polish Parliament has discussed a draft law on public finances, which would provide a prudent framework for local government borrowers.

Central governments must meet the challenges of increased sub-sovereign borrowing. In doing so, they must ensure macroeconomic stability while not placing undue constraints on the growth of local capital markets.

Challenges of Rapid Urbanization: Local Strategies to Access Financial Markets Shahid Javed Rurki-Vice-president, Latin America and Caribbean Region,

World Bank

Burki argued that fiscal discipline is the only realistic method for addressing urban needs. From 1980 to 1997, the world's urban population increased by an estimated 912 million, 89% of which occurred in the developing world. Latin America has become the world's most heavily urbanized region, with an estimated 74% of the population living in urban areas in 1997. Rapid urbanization has led to serious challenges for urban administrations in providing basic services. For example, only about 65% of the urban population in Emerging LMarkets had access to sanitation in 1995.

According to Burki, a realistic, cost-controlled approach can reasonably be expected to address successfully some of the problems faced by the urban poor. One appropriate goal is to provide basic services, rather than full services, in urban areas. Basic service means access to water pipes and communal sanitation facilities, for example, rather than metered water and plumbing in each home. In Latin America, this approach would cost an estimated $1 16 per capita for installation and $9 per capita per year for maintenance, as opposed to $685 and $51 per capita for full service. Where possible, user fees for services should be implemented to encourage tough choices regarding consumption and a sense of the link between cost and services. A second goal is to actively encourage the involvement of the urban poor in designing and maintaining urban services. Finally, the provision of services should be decentralized to local governments to the fullest extent possible. Decentralization should occur, however, with clarified revenue sources and a clear delegation of functions to local governments.

As responsibility for providing urban services is decentralized, local governments will need access to credit as they meet the needs of an ever- expanding population. The primary aim of local administrations should be to build effective institutions with sound financial practices. Whatever the source


of municipal credit, fundamentals such as credible accounting, independent audits, multi-year budgets, improved financial reporting, and reforms to control bureaucratic costs are necessary to ensure credit-worthiness.

Uurki concluded by suggesting that, in some respects, the current financial difficulties around the world present urban administrations with a unique opportunity to institute reforms that will make them fundamentally credit-worthy when global capital markets reopen.

Current Conditions and Challenges Facing Subnational Markets

The Growing Importance of Local Domestic Capital Markets for Subnational Infrastructure Development

Danny Leipziger-Director, Private Sector and Infrastructure, Latin American and Caribbean Region, World Bank

Until the recent Asian financial crisis, Latin American countries had considerable access to international capital markets to fund infrastructure projects. l~lternational investors were especially willing to invest in projects in the telecommunications, power, and transportation sectors. In 1997 alone, over $2 billion in Eurobonds was issued to fund power projects in Latin America.

The worldwide financial crisis has shown how quickly access to international credit can decrease. Reliance on international capital is especially volatile because of the foreign exchange risk faced by foreign investors. Given current volatility, international funding for infrastructure projects is likely to decline further. This is especially true for smaller sub-national projects with risk factors that are difficult to address.

Because of the current international volatility, local governments will rely more heavily on domestic sources of funding for infrastructure projects. Several factors should facilitate the growth in domestic investment:

1. The growth ofprivatt, domestic pension funds. Many Latin American governments have privatized pension funds, leading to increased demdnd for potential investment.

1. l)ccentrcllizatiot~ ofservices and local taxingauthority. In several Latin American countries, transfers of public funds from central to local governments have increased, providing local governments with access to revenues that can be used to secure debt obligations.

3. Further progress in limitingpolitical and regulatory risk. Expanded democratic elections have given many municipal governments greater control over decisionmaking. However, these changes have also


brought increased risks. Local governments should ensure that (1) newly elected officials do not repudiate the obligations of their prede- cessors and (2) regulatory structures are implemented to insure objective, independent monitoring of project in~plen~entation.

4. Strengthening of local government institutions and credit evaluation. In order to encourage further domestic investment in infrastructure projects, municipalities will need to improve financial reporting. Credit evaluations of local governments should also be enhanced.

The shift of focus to domestic capital markets will continue to provide municipalities with opportunities to engage in creative financing structures. Some governments have addressed credit risk with a blending of project revenues and dedicated taxes, while others (particularly smaller governments) continue to rely primarily on central governnlent transfers.

In the final analysis, sub-national project finance will most effectively expand when financial management improves. Local governments must adhere to the principle that obligations extend beyond the current administration's term, separate their own obligations from those of the national government to avoid the problem of moral hazard, and commit to fiscal balance. If they do so, domestic capital markets will continue to develop.

Global Municipal Finance: Opportunities and Challenges William E. Oliver-Senior Vice-President, Alliance Capital Management (USA)

Oliver stressed that in a time of rapid change in the financial markets, it is essential for local governments to maintain sound credit fundamentals. Investors will be particularly attracted to issuers who present (1) an acceptable sovereign risk profile; (2) conservative fiscal and debt policies; (3) transparent financial reporting; and (4) continuing financial disclosure. In addition, issuers should evaluate appropriate security pledges for bonds, ranging from general obligations to dedicated revenues to project finance. His presentation describes a number of paths taken by recent Latin American issuers:

The cities of Rio de Janeiro and Buenos Aires (Argentina) have issued General Obligation bonds. The city of Santa Fe de Bogota (Colombia) has financed airport and water projects. The provinces of Tucuman and Santiago del Estero (Argentina) have utilized co-participation notes. The provinces of Mendoza and lierra del Fuego (Argentina) have secured issues with oil royalties.


Oliver points to a number of areas of concern in the current global investment climate. Financial transparency has often been poor, and secondary market disclosure is also frequently lacking. Many issuers do not have a solid track record, and political and legal environments are subject to rapid change. These factors have led to markets that are highly fragmented and often illiquid. In the current market, spreads are very wide as market psychology rules and relative value is immaterial.

The problenls of the current market can be addressed. Primary and secondary market financial disclosure should be improved. Standardized accounting and reporting systems should be implemented. Finally, greater use should be made of developn~ent banks and pooling entities.

Financing Investment at the Sub-national Level Pedro Juan Gonzales Carvajal-Finance Secretary, City of Medellin,

Colombia

Gonzales examines regional development in his country and city in the context of recent historical trends and movements for social justice. In this way, he applies the paradigms of local needs and local democracy. Even if implemented too rapidly, he argues, decentralization has been a positive force for the building of progressive and accountable local governments.

The opening quote sets the tone for a discussion of the theory of Human 1)evelopment: "llevelopment that perpetuates current inequalities is neither sustainable nor worth being sustained." Governments, confronted with evidence of poor conditions and failed policies, have begun to abandon economic growth inodels as the sole measure of their countries' progress and development. Rather, they are pursuing growth with social participation as well as human security and environmental safeguards. Colombia's government had long pursued nationally-oriented growth at any cost, but social tensions have led to the adoption of a new Constitution (1992) that incorpo- rated revised attitudes towards the potential costs and benefits of growth.

Gonzales cites several United Nations reports to show how much work needs to be done in the areas of health, education, child welfare and em van- '

mental improvement in Latin America. For example, potable water is available to only half of the rural population as compared to 90% of the urban population, and more than 20 million boys and girls do not attend school of any kind.

Governments have been learning that economic growth policies, and particularly efforts for inclusive human development, are difficult or impossible to sustain over huge geographical areas and among multiple


social groups. !&centralization strategies, however helpful, cannot in themselves bring about economic and social well-being. In Colombia, social unrest and partisan fights in the 1980s made a distribution of power and responsibility possible and even unavoidable. The author includes many details of the process and liberally cites provisions from the National Constitution.

Gonzales concludes with a more specific overview of planning by the municipality of Medellin, which has been based on the innovative Law 152 of 1994. Between 1995 and 1997, the administration established an employment coordination center with the National Service for Learning and expanded the activities of the Xlonitoring Citizenship Office. Among prominent success stories has been the upgrading of public utilities. A development plan in 1998 is noteworthy for its openness and wide ranging goals. These goals include peace and social integration; social development and quality of life; public space and urbanism; economic development and competitiveness; and organizational development and participation.

Ways to Subsidize DevelopmentThrough State Banks and Second-tier Intermediaries

Building Local Credit Systems Gcwrge E. Petersorl-Senior Fellow, Urban Institute (USA)

I'eterson's paper, originally prepared in May 1997 for the Urban Institute, Ibcused on how rapid global urbanization and a trend toward decentralization have greatly increased the level of local government involvement in infrastructure development. These trends have increased the importance of local credit systems. However, local credit systems in developing countries have been slow to emerge. Officially sponsored lenders continue to dominate in many countries, and central governments have often constrained local investment decision-making.

Peterson emphasized the need by local governments to conduct a r.igorous appraisal of whether or not borrowing is justified. The IMF has in recent years expressed concern about excessive debt levels on both the national and sub-national level. Local governments must increase long-term debt only when financing needed increases in capital investment, not to tinance current account deficits. i\dditionally, a local government must have a foundation for debt repayment in place, whether it is through general revenues, project revenues, or central government transfers. Excessive borrowing should be


Types of Financing Programs Ofiered by Bond Banks. Bond banks typically offer three primary types of financing programs. The first, and most common, is a long-term bond pool, which is structured to issue bonds and use the proceeds to secure debt obligations of local governments. Because of the diversification of such a pool, bonds are usually issued at lower interest rates than individual local governments would be able to obtain on their own. Economies of scale are also often realized. The second type of financing program is cash flow financing, in which short-term pooled issues are made in order to provide local governments with interim funding. The third primary type of program is for equipment lease financing, which finances small equipment purchases. This type of program is especially useful for smaller local governments.

Types of State Credit Enhancement. Most state bond bank programs involve some sort of security provision from the state government, which results in interest savings for the local governments participating in the bond bank. States have taken several approaches, including establishing a debt service reserve fund to which a state government has a "moral obligation," pledging the state's full faith and credit to back either the bond bank or the local governments, and providing state appropriations of debt service. A final, and relatively common, approach is for the state to provide statutory authority to the bond bank to intercept state aid to the local government in the event of default on the local government's obligations to the bond bank.

Benefits and Disadvantages of Bond Bank Issuance. The principal advantages of state bond bank programs as described by bond bank managers include: ( 1 ) lower interest costs; (2) lower issuance costs; (3) improved access to the municipal bond market; and (4) the ability of either small local issuers or issuers financing small projects to participate. The primary disadvantage of bond banks for local borrowers is a relative lack of flexibility for local officials regarding financing schedules, borrowing terms and selection of outside consultants. Additionally, local issuers with strong credit ratings may be able to obtain lower interest costs by issuing on their own.

The use of bond banks in the United States could have international applications. The complex U.S. financial market is sometimes perceived to be an unrealistic model for developing countries. Participants in state bond banks, however, are often small and financially unsophisticated local issuers. The participation of such local governments in bond banks has enhanced their access to low-cost credit. Though bond banks are just one way to access private capital markets, they have been particularly usehl for small governments.

Summaries of Selected Papers ond Presentations

Second-Tier Banking for Municipalities in Colombia Sergio Lleras-Financiera de Desarrollo Territorial S.A., Santa Fk de Bogota

Lleras, an independent consultant, commented on the significant changes in municipal finance seen in the last decade in Colombia. While these changes have brought new opportunities for municipalities, they also have led to a number of challenges that must be faced.

Until 1989, loans for municipal projects in Colombia were reviewed, analyzed, and administered by the Central Bank, leading to a lack of experience in loan analysis among local banks. In 1989, a new financial institution, FINDETER, was created to administer municipal and territorial infrastructure financing. FINDETER has acted as a second-tier bank, and its administration has seen a substantial increase in loans to municipalities. Constitutional reform in 1991 also contributed to the rise in the level of transfers to municipalities.

In 1997, as Lleras describes, local capital markets saw a large influx of capital from foreign banks. To compete, many large local banks made long- term loans to municipalities at low spreads and without strict conditions or credit analysis. Local banks also restructured many of FINDETER'S loans. However, interest and inflation rates remained volatile, and many municipalities are beginning to default on loans.

A number of factors led to the current troubles in Colombian municipal finance. Sound accounting practices are just beginning to be enforced nationally. Financial reporting and analysis has not been sufficiently developed. Local banks and second-tier banks have not established effective working partnerships. Community involvement in and awareness of municipal finance has been virtually absent, and project cost control hab been deficient. Municipal administrations are plagued frequently by political interests and corruption. Finally, there has been a lack of control on "infor- mal" collateral and guarantees provided by municipalities to banks. Lleras provides a set of recommendatioi~s to address these problems:

New economic conditions affect deeply the role of second-tier banks and the type of assistance that multilateral agencies can provide. Central monetary and foreign exchange policies impose high risks and compromise financial stability. A technical monitoring of municipal and territorinlfinancial performance is needed, as a healthy cornplement to the project-financing approach. Commercial banks should bc invited to actively participate in this effort. Hence, it is adtlisable that the ')partnershipn of commercial banks and second-tier banks be clearly redefined to avoid conflicts. This could include the institution of prepayment penalties, [assignment of] clear


responsibilities in project arlalysis and control, formal definition and contracting of technical assistance support services, cross reporting, definition of funding efforts and new products, establishment of specialized and independent fiduciary management systems, contin- gency planning, and the like. On the demand side, municipalities and territorial entities wishing to access long term capital markets should work on accountability, anti- corruption measures, project control and information systems, staff professional competence and stability and community involvement. Multilateral banks might well be the principal catalyst for these changes.

Assessing Risk

Subnational GovernmentxA Rating Agency Perspective (Moody's) Yves Lemay-Senior Vice-President and Global Coordinator for Sub

sovereign Risk, Moody's (USA)

Lemay explained the firm's credit rating procedure. The rating is an opinion on the ability and willingness of an issuer to pay its debt obligations in full and on time. Moody's uses its widely recognized ratings categories. Credit ratings have become increasingly important on the international scene. Central governments' international borrowings have increased, and the trend toward decentralization of responsibilities has led to increased sub-national borrowing as well.

Moody's has developed an analytical model to evaluate sub-national credit risk. The model is more than a mathematical formula; indeed, a qualitative analysis of risk factors is integral to the rating process. Additionally, for sub-national debt instruments denominated in a foreign currency, the foreign currency country rating acts as a "ceiling" on foreign currency debt ratings of sub-national governments.

Moody's examines five broad categories when evaluating sub-national credit risk:

1. Institutional Framework. This category involves an examination of the ability of the institutional framework within the country to support credit quality at the sub-national level. One possibility is an explicit guarantee by a national government, but given that such guarantees are rare, the nature of central government oversight of sub-national lending is normally examined.


2. Economic Fundamentals. Since economic fundamentals are key to generating government revenues and thus servicing debt, bloody's examines the size and diversification of the economy and the competitiveness of key industries.

3. Government Finances. Moody's looks at government revenues, including taxation powers and intergovernmental transfers, and the level of and flexibility in government expenditurcs. Key to this category is a government's ability to cover its operating costs with its recurring revenue base, which normally protects its ability to meet debt obligations.

4. Debt Profile. The legal framework for the issuance and service of clebt is very important in this analysis. '['he level and structure of direct debt is examined, as arc the amounts of short-term debt and foreign currency debt. In addition, Moody's examines a government's possible contingent liabilities, that is, the extent to which the sub-national government may become responsible for debt issued by other entities. Finally. medium-term plans and trends are important to understanding a government's future borrowing needs.

5. Politicul Dynnmics. Factors that are examined in this context include the power and efCectiveness of the executive branch, and the social and political climate on both the local and national level.

Standard and Poor's Overview of the Rating Process Caroline N'ingnrclh-Director, Standard & Poor's (USA)

Ll'ingardh focuses attention on the ratings process from the perspective of Standard and Poor's (S&P), a prominent international rating agency. Credit ratings are independent, objcctive opinions of a borrower's capacity to repay its debts. Rating agencies offer ratings of issuers in general as well as ratings of particular issues. In either event, obtaining a credit rating can offer substantial benefits to an issuer. Benefits include ( 1 ) access to more investors; ( 2 ) lower funding costs; (3) general publicity for the issue from analyses and press releases; and (4) the potential creation of budgetary discipline through the rating process.

Wingardh commented that the rating process followed by S&P involves a detailed analysis in cooperation with the local government. After a rating request from the city, a team from S&P visits the city and prepares an internal analysis. A committee determines the actual rating, and that rating is colnrnu- nicated to the city with the possibility o t appeal. If the city chooses to publish


the rating, an analysis is distributed to news agencies and S&P customers. The rating may also remain confidential. After initial publication, S&P continues to monitor the issuer.

Wingardh outlined a broad set of factors included in the rating analysis: 1. Country Rating. Because the central government controls monetary power

and access to foreign exchange, the overall country rating constrains the rating of local issuers with respect to foreign currency debt.

2. Intergovernmental Relationships. S&P examines the taxing authority of the issuer, the stability of local systems, the support of the central government, the split of services between the national and local government, and the overall nature of a local government's revenues and experlditures.

3. The Municipality\ Administrative System. The rating agency looks at a municipality's financial management, including accounting, budget, and reporting procedures, as well as the political stability of an issuer.

4. Macro-economic Structure and Growth. S&P examines factors such as "local GDP," the level of private investment and new enterprises, the level of natural resources, population growth, employment growth, infrastructure and economic diversification.

5. Financial Performance and Flexibility. This category involves a detailed analysis of an issuer's financial statements. The focus is on an issuer's operating balance (current revenues v. current expenditures), and on flexibility of revenue and expenditure structures.

6. Debt, Liquidity and Off-Balance Sheet Liabilities. .4n issuer's debt may be defined as direct debt (which is on an issuer's books), total public sector debt (all guaranteed debt), or tax supported debt (public sector debt which is self-supporting). The type of debt a rating agency focuses on depends on the particular circumstances of an issuer. Whatever the case, debt and liquidity levels play prominently into an issuer's rating.

Measuring Government Credit Risk and Improving Creditworthiness George E. Peterson-Senior Fellow, Urban Institiite (USA)

I'ctcrson, in a paper originally prepared in hlarch 1998 for a World Bank Municipal Finance Toolkit, focused on the methods of rating n~unicipal credit risk and what borrowers can do to improve creditworthiness. Credit risk is normally assessed comparatively, taking an issuer's creditworthiness in comparison with other issuers. An issuer is deemed "creditwortlly" when it meets the standards of the lender.


Developing countries present a unique picture regarding credit risk, with much of it stemming from systenlic risks which arise from policies and rules regarding the municipal sector as a whole. Several factors in particular are often uscd to assess sectoral credit risk.

BIS Ratios. The Bank of International Settlements in Basel, Switzerland, sets minimum capital adequacy ratios for banks which member nations subscribe to. BIS ratios arc weighted by sectoral risk, and are particularly important in Eastern and Western Europe. lntergovertlrnental Fiscal Depetldence and Legislative Risk. This factor takes into account the proportion of local government revenue corning from national or provincial governments. Parastatal Lenders'Uefault Katcs. The default rate on public or quasi- public lending to municipalities may be the best measure of sectoral risk. Legal lssues Surrounding Municipal Default. This factor involves the likelihood of a municipal lender getting paid in the event of default. Econornic Conditions. The ability of local governments to repay debt is affected by local and national economic conditions.

In addition to sectoral risk, the amount and structure of a Municipality's existing debt are critical to credit analysis. There are several ways to assess the quantity of existing debt, the most fundamental of which is the ratio of debt service to recurring revenue. Other ratios that are sometimes examined are total debt to local tax base and debt per capita. The structure of a Municipality's debt has also been important in assessing credit risk. Principalg'red flags" include (1) large foreign currency debt: (2) balloon maturities or large amounts of debt with prolonged initial grace periods; (3) large amounts of short-term debt; and (4) new debt as a high proportion of municipal "income."

To address credit risk, loans may be reinforced by a number of security pledges: - Governrnenl Guarantees. A guarantee by a sovereign is effective, but

often at too great a cost, as neither the borrower nor lender has an incentive to examine underlying economic risks of the loan. Revenue l'ledges. Revenue pledges provide the lender with access to certain revenue streams to satisfy debt obligations. Intercepts. Intercept arrangements allow a lender to collect payment from a national or provincial govcrnme~~t if a borrower does not pay. Such arrangements are effcctive for lenders, but can hinder the process of decentralization. Property Collaterul. Providing liquid property as collateral has been effective in reducing loan defaults in Central and Eastern Europe, where municipalities often own substantial property.


Bond Insurance and Letters of Credit. Although common in developed countries, use of insurance pools has not been established effectively in developing countries. Municipal Project Finance. In project finance, debt is supported by anticipated revenue from the project being financed. This has the advantage of tying credit risk to the principal element of the project's viability.

Case Studies:Access to and Management of Debt

SubnationalAccess to the Capital Markets:The Latin American Experience Maria Etnilia Frrirr--Regional Coordinator, Mbrld Bank Institute Marcela Huertas-Capital Markets Development, Mbrld Bank Benjamin Darche-Principal, Capital Advisors Ltd. (USA)

Freire, Huertas, and Darche examined six case studies involving international and domestic bond offerings in Argentina, Brazil and Colombia. The six offerings are summarized in Table 3.

The cases illustrated many of the common issues faced by Latin American sub-sovereign issuers, which were summarized by Freire, Huertas, and Darche. Key findings from the case studies include:

Table 3: International and Domestic Bond Offerings in Argentina, Brazil, and Colombia

-- - - - - - -- - - - -

Refinance Buenos Aires (City) US500 mil. cicy' s debt Eurobond Apr-lun I 997 Unsecured

stock ~- US$1"di. - Dec 1996, T rearury works July 1997 bonds

Ibague. Colombia Pesos 8 mil. Civil works Domestic 1996'

(city) Jul 1997 taxes

WsflwRee mj%mir, pmv$r~ 's %#obcnd Aug 19% Oil royalty

dsbr

Rio de Janeiro (City) US$125 mil Refinance

existing debt Eurobond Jul 1996 Unsecured


The international capital markets will provide access to internationally known municipalities for ilnsecured or "general obligation" type of bonds. Investors will require lesser known municipalities to provide a dedicated revenue source to secure the bonds. Investor perceptions and the movement of sub-national bond priccs seem to suggest that the moral hazard will remain as a significant risk for national governments in the international capital markets. International investors may place a higher likelihood on government bailouts for defaulted Eurobond issues than their counterparts in the domestic market. There is no direct evidence for this conclusion, but the trends toward dedicated revenue bond structures in the domestic market and tighter national government fiscal regulations for sub-sovereign debt seem to indicate a lower probability of government bailouts of domestic investors. The credit rating process played an important role in developing the structure of the domestic bond issues. Credit ratings also provide domestic and international investors with a third-party review of the blunicipality's credit quality and we expect that they will continue to require these evaluations for future bond issues in both markets. However, there is a major gap between the standards used for rating international issues and standards for local issues, especially the need to prepare financial statements using international accounting standards. An effort is needed to reduce the differences in rating criteria, due diligence and disclosure between local and international issues. Creation of self-regulatory bodies may help to improve domestic credit rating, disclosure and due diligence. Multilateral development banks and other interested parties should consider technical assistance programs to assist governments in the development of an international standard for local government accounting. This effort can be coordinated with the creation of a self- regulatory body for domestic capital markets. Bond market professionals, such as investment bankers, financial advisors, lawyers, trust agents, etc., were used extensively for both the domestic and international bond issues. Nevertheless, the municipalities did not have the capability to measure the performance of these professionals, especially in regard to the price they received for their bonds. One way to improve the transparency of bond pricing is to create a self-regulatory body to regulate underwriters and the bond issuing process for domestic issues. Bond professionals in the domestic as well as international capital markets should be selected on a competitive basis to improve transparency in the bond transaction.


The external advisors helped the municipalities prepare their financial statements and other docunlents used for disclosure and the offering circulars. For the international bond issues, the advisors prepared financial statements using international accounting standards. The municipalities did not adapt these changes to their actual accounting systems, however. To encourage improvements in financial reporting systems, the bond professionals may provide a checklist of items to improve the current financial management information and reporting system. These improvements can be linked to future bond offerings.

The Issuance of Gasoline Interest Plus Bonds by the Municipality of Ibague, Colombia Carmen Ines Cruz-Mayor of Ibague, Colombia

Cruz begins by placing the relatively positive experience of IbaguC within the context of the wider fiscal problems experienced by most Colombian sub-sovereign governments. The impossible levels of sub-sovereign debt contracted in the 1990s arose from a combination of sub-sovereigns' ability to borrow after the 1991 national Constitution and a lack of responsible national regulation. As a result, excessive borrowing has been substituted for insufficient tax revenues. Responding to shortsighted political pressures, sub-sovereign administrators disregarded national guidelines and made only a pretense of conducting feasibility studies and general fiscal planning. Even after the debt crisis of 1998, controls over territorial borrowing remain weak.

For Ibague, there were several potential alternative sources of funds. When properly approached, the capital markets offer a less costly source of funds than bank loans. A special type of bond, called a "titularizacion," according to the author, is a "profitable financial mechanism for reducing both costs and r isk The titularizacion is supported by given revenues to be produced by a given asset. Bondholders get property rights over the mobilized assets. Among the forms of such a bond are credits, construction projects, participatory infrastructure bonds, and bonds based on future liquidity of a company or on leasing contracts.

The preferred form of bond for Ibague has been the "Gasoline Interest Plus Bond," which was meant to finance transportation infrastructure improvement. Cruz reviews some of the costs, benefits, stages and major players of this type of bond. Among the major advantages are:

Ability to raise funds by reducing assets and not by increasing debts; Diversified risks for the municipality;


Improvement of the Municipality's image and positioning in the capital markets; Reduced cost compared to other financial mechanisms; and Improvement in margins between benefits and risks.

Also potentially useful are trusts, credits, transfers, and concessions. Ibague, while not immune from the vicissitudes of infrastructure

development and experiments with the capital markets, has taken some creative steps to raise funds economically and with the least possible accumulation of further debt. Prominent among the Municipality's efforts has been the public credit operations previously mentioned and the issue of special bonds based on trust contracts. The municipality is currently accommodating itself to the decentralization-oriented national economic plan, has successfully issued several investment-grade series of bonds based on gasoline tax revenues, and is actively competing for transfers from multilateral organizations.

Macroeconomic and Microeconomic Context of Collateral: La Paz, Bolivia Anibal Aguilar G6mez-Financial Officer, City of La Paz, Bolivia

Aguilar, who is Official Coordinator of the Municipal Government of La Paz, discusses the underlying decision-making process and implementation of several recent bond issues. An introductory overview of the city's government, relevant laws, and infrastructure requirements is followed by a long statistical appendix with several charts and graphs. The appendix will be of interest to those looking for detailed information about the bond issuance process and the exact allocation of funds in the city of La Paz. For instance, Aguilar lists the major players and planning details pertinent to several distinct issues and analyzes some of the infrastructure projects (i.e., the American Institute Tunnel, road improvement, school construction, the canalization of the River Auquisamaiia) .

Aguilar contrasts the present structure of the Bolivian pension fund (state-oriented and highly dependent on regulation) with a new system of private sector participation and autonomous regulatory agencies. The transition will involve three stages, at the end of which strategic private investors will own 50% of the shares of major state utilities, such as electricity, telecommunications, airlines, trains, oil production, etc. Major regulatory responsibilities will be divided between SIRESE and SIREFE.

La Paz initiated a bond issuance process in 1996-1997 for US $1 1 million, which satisfied debt limit conditions and refinanced short-term debt as long-


term debt. In order to secure the issue, La Paz created a warranty fund. This took the form of a Sinking Fund in a local bank, financed with a percentage of public revenues from real estate and transportation taxes. The money was used for road maintenance, school construction, management, and canalization of the river basin, and other forms of infrastructure improvement.

Public Credit Managernent:The Recent Experience of Bogota Carlos Alhertn Sandoval Reyes-Secretary of Finance, City of Santa Fe de

Bogota, Colombia

Sandoval, working in the administration of the city of Santa Fe de Bogota, argued that his city's improving financial situation has come from policy reform. Before 1993, the city had few tools with which to enter the capital markets. It had poor investments and minimal savings. Relatively crude tax, budget, and short-term financial management methods were used to solve liquidity problems and control expenditures. Institutional rcforms during the 1990s allowed the city to take a more active self-improvement role. On the legal side, the city gained greater autonomy and ability Lo modernize its planning, programming, and budget implementation process after recognition as the Capital District in 1991 and approval of the Organic Statute in 1993.

Bogota's administration ensured a steady stream of revenue in the mid- 1990s, Sandoval recalls, by rationalizing the tax system. 'l'he municipality not only increased taxes in general and introduced special corporate and gasoline taxes but endeavored to make the population take these taxes seriously. Savings financed an average of 8S0/0 of an increasing investment pie (US $123 million to US $1.2 billion) between 1994 and 1998.

Also important was a revised debt management strategy. Although pre- 1993 debt was fairly small (US $240 million in 1991), it was relatively high in terms of revenues. External debt was contracted exclusively with multilateral organizations, and short-term internal debt was concentrated with commercial banks. The city managed to place an issue of US $165 million in 1995 with a Duff & Phelps credit rating and without bank assistance. Two years later, the city was able LO arrange a credit substitution that saved it an annuaI US $3 million in debt servicing costs. By 1997, in fact, the city had completed its tenth successful issue without nearing the interest load maximum.

The city's development plan promises to continue these trends into the near future. In addition to further tightening the tax system (c.g.. cracking down on recalcitrant tax evaders), the city plans to supplement Intergovern- mental Financial 'liansfers with the acquisition of new debt up to its limit of US $778 million. The issuance and positioning of bonds for lower costs,


Sandoval argued, will have to be achieved with innovative legal and operational instruments.

Sandoval concluded by emphasizing the link between Bogota's successful participation in national and international capital markets and the recent strengthening of its public finances. Borrowing, he stresses, is an appropriate financial instrument as long as it is used appropriately, for productive investments and in manageable sizes and conditions. Only after rationalizing the fiscal system can a city obtain investment grade credit ratings (such as the BBB for Bogotri).

Financial Management and Funding Strategies:The Ayuntamiento of Barcelona ]c~nrz Clos-Mayor of Barcelona (Spain) Pilar Soluris-Financial Director, City of Barcelona

(Zlos outlined the means by which Barcelona improved its ability to access the capital markets in the 1990s. In 1990, Barcelona faced an excess of short-term debt and a rapid influx of foreign capital. The 1992 Olympic Games necessi- tated large infrastructure projects, providing the necessary public energy to also begin to tackle more enduring problems.

From 1992 to 1995, Barcelona went from a deficit of 20 billion pesetas per year to a surplus. Municipal debt was restructured, allowing more long-term bonds. With the comparatively healthy budget, Barcelona instituted tax- collection reforms, privatization of some services, and sale of some land. As Clos points out, the city has achieved a great deal, but continues to encounter significant unemployment and vigorous competition from other cities.

Solans added to Clos' prcsentation with a nurnber of charts and statistics. After its restructuring in the early 1990s, Barcelona's long-term debt was brought up a 1-to-1 basis with its current revenues. In 1991, almost 30% of the city's debt was short-term; by 1997 that figure had been reduced to zero. The average debt lifespan rose from 4.1 to 5.8 years in that same six-year period. In 199 1, the city's debt strategy was dominated by bank credits in pesetas (68%), with some domestic issues (24%) and few foreign loans or international issues (combined ~'HJ). Six years later, the situation had changed dramatically: bank credits composed only 23% of the pie, and international issues and loans togcther amounted to more than half of the total. Between 1995 and 1998, investment increased 23.5% annually. Solans attributed these improvements to such factors as fiscal discipline, improved communication, and effective ~nanagernent (including some liquidation) of city-owned property.


Debt Management City of Saint-Petersburg Igor Kostikov-Managing Ilirector, Alexander Kostikov and Partners Ltd.,

St Petersburg, Russia In this slide presentation, Kostikov offered background information on the relationship between the overall structure of the St. Petersburg municipal government and general micro and macroeconomic trends. He offered statistical comparison of the relative position of St. Petersburg and its region with other major cities and regions in Russia. Kostikov also presented data on how yields or government issues fluctuated with political developments in Russia.

Access to International Financial Markets:The City of Tallinn Story Kaarel-,Muti Hala-Advisor Economic Affairs, City of Tallinn, Estonia

Hala focused on the successful bid by the city to improve its financial outlook and fund capital investments by accessing international debt markets. For one, the sovereign government has managed to improve several economic indicators within the past five years. Inflation has been reduced from more than 40% to less than 15%. GLIP per capita has gone from near L>Ml000 in 1993 to over DM 5000 in 1997. Tallinn, moreover, has taken steps to take advantage of its role as the capital and largest city of Estonia, its fine port, and its long history as a regional trading center.

In April 1996, the city launched its first international bond issue, of DM 60 million at 6%, due in 1999. Moody's rating of Baal was the highest awarded to any city in Central and Eastern Europe. A second issue of DM 30 million was launched in 1998, due in 2003 with floating rate interest of 6 million DM LlBOR +0.65%. Suitable market conditions may lead to further issues. Wala attributes this successful entry into the international capital markets (and potential EU membership) to strict monetary policy, new trends and ideology in the city's fiscal policy, and relaxation of some restrictions. Moreover, Tallinn met its legal borrowing limits by a wide margin.

Case Studies: High-Risk Issues

Non-Performing Municipal Borrowers in Central America Giovanni C;iovannelli-Financial Specialist, Inter-American Develop-

ment Bank

Giovanelli foc~~sed on a municipal bond offering made by the city of San Pedro Sula, Honduras, in January 1996. The bond offering was made to


finance the construction of a sports colnplex built by the city after it was selected to host the Central American Games in 1997. At the time of the bond offering, the estimated cost of construction and management of the Games was $25 million, with anticipated revenues from the games and the new stadium set at $ 3 2 million. Of the $32 million, $24 million was to come from the sale of 4,120 VIP seats in the new stadium.

The municipality of San Pedro Sula made a $15 million bond issue in January 1996. The bonds had a six-year maturity with a two-year grace period for interest and a fixed interest rate of 1 I (% payable quarterly. The bonds were guaranteed by ( 1 ) a plot of land owned by the municipality, ( 2 ) revenue generated from the operation of the sports complex, (3) the sports complex; and (4) the full faith and credit of the municipality. The bonds were never sold, but were used to pay construction companies, with a 10-1 5% discount. The final cost of thc project was $36 million, and revenues fell far short of projections, with only 900 of the 4,120 VIP seats sold. The resulting situation has placed serious financial constraints on the municipality.

According to Giovanelli, the problems encountered by the municipality were not the result of choosing to make a bond offering, but were due largely to deficits in project planning and financial management. In particular, the study made by the municipality prior to the bond offering failed to analyze potential demand for VIP seats in the stadiun~, did not detail assumptions made in calculating the cost of the project, lacked a justifica- tion for the construction of new sports facilities as opposed to alternative solutions, and failed to consider fully the risks to the municipality inherent in the project.

Aspects of the bond offering itself could also have been improved. Market conditions in Honduras at the time of the offering made the bonds highly illiquid. Despite this situation. alternative sources of funding were not considered. Additionally, the bonds were guaranteed by the municipality itself rather than a by specific source of revenue. This guarantee subjected the municipality to substantially greater risk. Finally, the choice of fixed-ratc, dollar denominated bonds further exposed the municipality. The municipality's exposure may have resulted from the fact that the municipal adnlinistration made nluniciyal commitments beyond the duration of the administration's term.

4 number of recommendations can be taken from the case study: Costs of a bond issue should be carefully considered before it is made. Repayment and interest terms should be as flexible as possible, particularly in an illiquid national market. Bond guarantees should be appropriately limited if at all possihlr.


Inexperienced issuers should seek external support from a financial adviser o r underwriter. Assistance in financial planning and bond structuring often proves to be indispensable. The process of planning a project and of choosing a funding instrument should take place separately. Finally, a politically independent, competitively selected and compen- sated management team should be put in place to administer the entire implementation phase.

Managing Cases in Argentina with High Default Risk Hertzrirz C;artzpora-Director of Research, SBS Sociedad de Bolsa,

Buenos Aires iM~irrr~lo ,Vetlendez-Menendez v Asociados S.A., Buenos Aires

C i n ~ p o r a and klenkndez focused on Argentina's attempts, centered around the "(:onvertibility Plan" of 1991, to reform its economy and attract investors. 'The Federal Government, in order to successfully reform its own behavior, needed to streamline the provincial-capital relationship as well as the debt acquisition process.

'I'he Convertibility Plan of 199 1 was intended to reduce inflation and restore economic growth through tighter monetary policy, tax system reforms, privatization, and the liberalization of the economy. The plan fixed the exchange rate to the US Ilollar and required the Central Rank t o maintain external reserves equal to the monetary base. These steps, according to Cimpora and MenCndez, increased transparency in the economy, set the exchangc rate anchor and sorted out efficient from inefficient enterprises.

Privatization played a key role in the reorientation of the economy. Between 1991 and 1994, in fact, the Government privatized some 90% of all atate enterprises for the equivalent of more than US $20 billion. The privatization drive brought considerable gains in economic efficiency, produitivih, and conipetitiveness.

The success of the overall program was illustrated by the yost- "'Tcqi~ila (:risisX reaction. Argentina's new policies, backed by judicious efforts to maintain confidence and spur consumer demand, helped the country's economy to bounce back rapidly. By 1997, the economy bur- geoned by 8% and boosted output t o a level of 50% above that of 1990. hlcanwhile, the country approached 0% inflation for a second time. Although conceding that much work needs to be done in reforming the


education, health, and judicial systems, Campora and Menendez stressed their nation's achievements.

In order to illustrate the effects of financial reforms and the Convertibility Plan more concretely, Campora and Menendez offer detailed analyses of intergovernmental relationships under the Constitution as well as two case studies of bond issues (Tucuman Province and the City of Buenos Aires). Campora and Menendez conclude that Argentina has reduced the level of risk associated with its bond issues by heeding seven major lessons:

A financial crisis can have a positive effect on public policy. The Federal Government must foster fiscal discipline in sub-sovereigns in order to avoid acting as a lender of last resort. All levels of government need to regulate debt issues carefully. The instruments used to borrow funds must be transparent. Clear definition of the payment ~nechanisms can help ensure fulfill- ment of terms and conditions. Collateral will facilitate access to capital markets for inexperienced lenders. Credit ratings play an important role in educating investors about the issuer's circumstances and prospects.

Transparency, Credibility, Fiscal Management and Financing: Notes on the Brazilian Experience

Kcnnto \.'illelu-Secretary of Strategic Affairs, City of Rio de Janeiro, Brazil

Villela focuses on Brazilian sub-sovereigns' recent poor financial management policies and subsequent loss of credibility in the international capital markets. In order to rectify the situation and build a base for future development, Villela argues, municipalities and states need to cease borrowing entirely for the time being, even if this means discontinuing popular services. The Federal Government, moreover, must institute more transparent reporting practices that allow direct comparisons by foreign investors.

Villela deems exchange rates and the differential between domestic and foreign interest rates to be crucial variables in understanding his country's current financing difficulties. While exchange rates have played an important role in bringing price stability, they also have proven to be a temporary crutch for a society that is unable to work within the limits of a balanced public budget.

Ineffective expenditure management, to a large extent, brought short- term budget imbalances even at a time of increasing tax revenue. Without the


power to print money, sub-sovereigns issued large amount of debt on unfavorable terms in the domestic market until the Central Bank intervened. Federal attempts to intervene, Villela states, have not been sufficient because they do not categorically prohibit further borrowing. A palliative debt- rescheduling program, for instance, reflected the governments' inability to force sub-sovereigns to engage in fiscal austerity.

Villela examines the Federal restrictions of 1993, including a Constitu- tional Amendment prohibiting new bond issues for six years and requiring a complex series of approvals for any credit operation, and judges them to be inherently limited and arbitrary. Except in the case of a well-publicized financial scandal, he contends, controlling agencies' decisionmaking process can be subject to political pressures.

Villela concludes that Brazil needs to tackle the sub-sovereign credit problem more directlycwith a one-article law saying that states and municipalities cannot undertake credit operations, a tougher stance toward troubled sub-sovereign pleas for assistance, and an overall commitment to transparency in the public accounts.

Case Studies: Innovative Approaches

Vehicles for joint Public Investment City ofVirginia Beach, Virginia, USA Putricia Philips-Finance Director. City of Virginia Beach, Virginia, USA

Introducing Virginia Beach as an independent, full-service city with a diversified economy and sole taxing power within its boundaries, Philips outlined the innovative methods by which the city has updated its infrastructure. The city's efforts to attract varied businesses and upgrade facilities for the tourism industry have depended on fruitful partnerships with the private sector.

An annual Capital Improvement Program (CIP) authorizes the expenditure of funds for basic capital projects (such as schools, roads, sewer, and water utility improvements) and the issuance of debt or use of other funding sources. General obligation debt is constrained by charter ($40-50 million maximum without a referendum) and policy limits (self-imposed Iimit of $1,500 per capita to maintain credit rating), and frequently there is not enough for special projects that can potentially shape the city. Mindful of these constraints, Philips explains, the City Council has devised several innovative development strategies:

The Tourism Growth Investment Fund (TGIF) encourages projects considered important to improving the city's image, encouraging


business support for resort revitalization, and preventing tourist loss to other resorts. With revenue gleaned from, such sources as taxes on meals and hotel rooms, the fund supports debt service, cash funding, and special programs. Prominent projects have included the expansion of the Virginia Marine Science Museum in 1996, two municipal golf courses (the city leased land and provided initial money for infrastructure, while private entities built the actual facilities), and efforts to control beach erosio~l (costs shared with the Federal government). Tax Increment Financing (TIF) allows the city to support needed private-sector projects without assuming added risk or issuing debt. In one case, the city agreed to contribute a new parking lot to an aging shopping mall by means of a lease in which the city used increased real estate tax revenues to meet its lease obligations. If these increased revenues were not realized, the city did not owe anything on the lease. Special Service District (SSD) provided a means for the City Council to cooperate with local property owners to fund shoreline improvements through limited and targeted increases in real estate taxes. Econornic Development Incentive f i n d (EDIP) allowed the city to tap cigarette taxes in order to encourage capital investment and create jobs. Each dollar of EDIP funds yields $49.66 in new capital investment, and each $393 spent yields one new employment opportunity.

In a final case of a difficult but potentially rewarding structure, Philips noted the city's recent partnership with the private sector to build a waterfront hotel complex with some public access.

Instruments for the Implementation of Public Investments: Salamanca's Water Supply and Filtration System

Ltiis de la Mora-Partner, Arthur Andersen (Spain)

De la Mora outlines the process by which a medium-sized city in west-central Spain privatized its water works. He begins with an analysis of Spain's local corporations (which number more than 8,000). These municipalities must respond to challenging new expectations with a system where powers and responsibilities are ambiguous. Old formulas cannot satisfy many current and future needs. Good public services, which De la Mora characterizes as linked to specialization, technology, and a consumer-oriented ethos, are difficult to provide in most existing government structures.

"Indirect Management Strategies" emphasize the separation of two basic functions: provision and delivery. Ayuntamientos (local governments) must


define needed public services; determine the objectives, quality requirements, and prices of each service; and regulate the service according to the law. Private concessionaires are responsible for infrastructure construction, provision, and monitoring of the service, and communicating regularly with public regulators. While this structure can generate additional revenue, involve expert outside operators, and permit greater flexibility, there remain significant problems of labor/political opposition, complicated bureaucratic procedures, and a small pool of appropriate concessionaires.

The filtration and distribution of water, moreover, presents special problems for local governments. As rates of consumption increase, so do the resources that Ayuntamientos must often pay to higher levels of government. Salamanca, which directly administered its Water Municipal Service, had a long history of poor service in this area. Organization was insufficient, staff was underqualified and plagued by low morale, and there was no clear statement of fiscal goals and strategic objectives. A systemic analysis by outside consultants revealed that 13,700 million pesetas would be necessary to rehabilitate the system. The consultants devised a detailed multi-step plan to award a concession for the city's water service. The goal was to initiate changes slowly but steadily, with proper distribution of risk The concession process, initiated in July 1996, was concluded six months later through the cooperation of the Ayuntamiento and the consultancy groups.

De la Mora concludes that political will, mixed teams, and specialized outside talent made the rehabilitation of Salamanca's water works possible. As of late 1998, construction of infrastructure, service improvements, and increased technical efficiency (+65%) had been achieved.

Mechanisms for Public lnfrastruaure Financing:The Northeast Highways in the Murcia Region (Spain)

Enrique Fraricia Romero-Manager, Arthur Andersen (Spain)

Citing the details of a highway project in Spain, Francia delineated the different procedures necessary for infrastructure investments funded by public agencies, private corporations, and combinations of the two. Romero is the Manager of the Consultancy Group for Public Administration in Madrid, which served on the project described.

Francia begins by describing the difficult situation of many public administrators who face a widening gap between rising desire for modern public services on one hand and the challenge of raising funds on the other. He recommends a "professionalization of public administration" and a more

Summaries of Seleaed Papers and Presentations

open approach to the dcvclopment oipublictprivate initiatives. Projects, he stresses, should be designed and implemented in order to make public services more efficient.

Francia distinguished between the mcthodologirs needed for infrastructure funded by public entities and private corporations. In the former case, resources must be found in the capital markets with a public guarantee (unless proiect revenues can he presented as collateral). In the case of private corporations or public-private partnerships, he recommended a multi-step "Project Finance" method. The elements of such a plan include: awarding a concession; making a contract with firm deadlines; the corporation raising f i~nds from syndicates of investors o r from the open market; the varioi~s parties involved distributing risk; after construction, the corporation collecting rarenut.s from users; and, finally, some mechanism (perhaps a public agency) to be created to tend to lingering debts. Throughout, the public and private managers need to be in close communication.

Francia then presents the details of the situation in hlurcia. The Northeast I lighways were intended to address the development needs of that region's poorest and most isolated area. 'I'he project, which cost US $97 million, was constructed by a private corporation, which received shadow resources from the public sector. The Council for Territorial Policies and Public lnvestrnents was responsible for the concession, with CE'I'EC and Arthur Andersen brought on as technical and financial consultants, respectively. Francia outlined the ways in which the Murcia project followed the steps of the "Project Finance" method, including revenue earned from a four-scale toll system, the clear distribution of different kinds of risk among the players involved; and a clear schedule for implementation.

Francia concludes that even small public entities can develop a highly complex proiect in a relatively short period of time by engaging a mixed team of experts that is integrated and well coordinated. Political goals must be accompanied by careful planning, examination of public-private partnerships, and the willingness to invest the necessary funds to ensure long-term success.

Region of Murcia:Alternatives for Financing Infrastructure Projects in an Age of European Monetary Union

,-\ndrk Ayala-General Secretary, Bureau of Territorial Policies, Xlurcia (Spain)

Ayala presents concrete steps by which the region has endeavored to build infrastructurt: through public concessions to private corporations (also known


as Build-Operate-Transfer contracts). He begins by introducing European Monetary Union requirements and Murcia's place within them; in Section 11, he discusses case studies; and in Section 111, he provides a detailed list of the terms of the enabling regional law.

A public-private concession, he argues, allows municipalities and regions to build infrastructure without incurring the kinds of debts prohibited by the Maastricht treaty and frowned upon by financial institutions in general. A market for infrastructure investments, Ayala contends, will develop only if the public sector structures concessions that distribute risk and that guarantee some form of return.

In the case of Murcia, Regional 1 . a ~ 411997 (hereafter referred to as "the Law") regulates the construction of highways, water recvcling, reclamation and distribution, ports and airports. It handles, as well, the provision of a three-tiered p ~ ~ b l i c housing system. 'The Law aims to create new formulas that eliminate risks and offer guarantees that may entice investment in infrastructure projects.

Ayala presents two cases, the first of which is the Northeast Highway. The concession for the 65 km toll road was initiated in order to bring developmenl to a physically and economically isolated sector of the region. For the US $108.3 million investment, a concession was awarded for 27 years. 'The latter case, the Public Housing Regional Plan, intended to diminish the number of families not able to find proper accommodation in the regular housing market. Three plans, each tailored to a different family income range, stipu- lated differing relationships between administration, concessionaire, and user.

Ayala details the provisions of the Law, entitled "Construction and Exploitation of Infrastructure in the Region of Murcia." The Law "stipulates the particular form in which the planning of infrastructure projects should proceed," including careful coordination, attention to legal and technical requirements, preparation of viability studies, and solicitation of public approval. Also outlined is thc process by which construction should begin, the conditions upoil which the concession rests, and the procedure by which the infrastruclure project will be converted to direct government control at the end of the concession.

Part 1V:Appendices

Appendix A Remarks oflames D. Wolfensohn, President ofworld Bank, October 26, 1998

I am very happy, indeed, to participate at this conference, although I regret very much that I didn't have the pleasure of coming over to be in Spain. I want to start by expressing my thanks to our partners in the prcscntation of this very important meeting.

I was anxious to attend and say a few words because it's very clear to me that the issue of financing and development of local strategies is extraordinarily important. As I looked at the issues which face us on a global basis, everywhere I find a problem in terms of access to funds and in terms of the volume of funds that are needed for appropriate development purposes. I also see a move towards decentralization of responsibilities, and I see a parallel move also to urbanization, which is evident, certainly, in Latin America and in the Central and Eastern European regions.

All of this I'm sure has been covered in the early part of your meetings, but let me simply add that, from my point of view as I try and look at the tasks that we face in the Mrorld Bank, one of the tasks and the opportunities is to be supportive of this move to decentralization, and to the financing of projects that will be run by decentralized authorities.

Appendices

This is a development which is, of course, extraordinarily well known in the United States, where that decentralization has been going on for years, and where there has been financing at a very high level on the basis of local authority credits.

Indeed, at this moment in time, we have $1,300 billion or outstanding bonds and they're being added to annually at the rate of $250 billion.

These are enormously high numbers, and it reminds me of the days at the beginning of the Euro dollar market, when we were talking about offerings of sovereign credits and comparing them with the United States and saying how small they were. I think 20 years fro111 now we will look back and say that the comparison between local authority borrowing and the giant sixe of the American market will have been diminished substantially, and that there will be a significant move to financing at a local level.

We've already seen 51 such issues in Argentina, in Brazil, and in Colom- bia, in the last five years, and of course in Eastern Europe we've also seen an increase in those issuances. For a time, we also had issuances from Russia, from the municipalities. In fact, 91 bonds were issued in the domestic market and 77 such issuances in the international market. They're on hold at the moment for reasons that we all know, but the direction is very clear.

'That means that we need to prepare ourselves in the way in which we set up the issue of governance, the issues of transparency, and the basic framework in which local authorities will operate. It is not different in terms of the advice that I would givcand the work that we would offer to do with municipalities and regional governments than it is with national governments.

There is a need for very good financial planning. There's a need for good project planning. There is a need for evidence of fiscal responsibility and budgetary responsibility.

There's a need for transparency. l'here's a need for good accounting practices. There's a need for regular reporting. There is a need, simply, to demonstrate that there is a degree of competence in the governments, that would encourage investors to invest.

None of what I've said is of a revolutionary character. It is the nature of what has to be done; if one is to access international markets. And so as we move forward on our plans of working together to meet the enormous needs of local authority financing, what I think is crucial is that we start on the right basis, so that we do not have the problems of rejection by the marketplaceand so that we can enter the market with a level of competence and effective presentation of what we're doing that will allow us to unlock the funds that are needed.

Certainly all the instrumentalities of the Bank are available to be of help, and the private sector, which you were just discussing in your question-and-

Appendices

answer session, we have MEGA and we have IFC, which are very ready to work on projects, and in the case of the Bank itself, we're surely ready to do so with states, with municipal and local governments, provided we can get the backup from the national authorities.

More and more, we're finding that we're able to do that, and in fact in some countries, the actual distribution of funding, and I speak here particularly, for example, of India, the distribution of national funding which they are taking from the Bank, either in terms of cash or in terms of guarantees, is being competed for by the states and by the local governments as though the states and local governments were the borrowers.

And so as we see this decentralization and this growth of local government, we're finding that within countries in which the Bank is active; we have a competition amongst the states and local authorities for those funds which would come from The World Rank but with the support of the central government.

That is another reason, of course, that as we approach the question of governance, that we're extraordinarily keen to be as helpful as we can in terms of trying to prepare a solid and a transparent base from which local authorities and local instrumentalities are managed, to ensure that we can make transparent and clear presentations to the financial community.

We, as an institution, arc rcally anxious to be helpful. As my colleagues may have told you, we are setting up computer links so that information on development efforts, ranging from agriculture to infrastructure, from governance to judicial systems, will be available online for all of you. You'll be able to come into us directly on the Internet for help on any areas of governance, and if it's not fully up in terms of the information base, we're prepared, through this, to have a Help Desk available that will be available to give you background information not just on what we think in the Washington headquarters, both good and bad, from which you can profit.

We want to be, in addition to a financial arm, an institution that yo11 can regard as a source of knowledge and information, and our team is ready to be of assistance to you, to every one of you, in terms of the types of projects that you're thinking about. Feel free to come to us long before you have a project outline. Talk to us, come through to us with your questions. If we can answer them, we will, if we cannot, we will tell you, and hopefully, we'll be able to give you the sort of backup and information that you will need.

So we want to be seen as your partners, partners of the central governments, a good partner of course of the Spanish government that has been so helpful in this meeting, partners of the local government authority which are our partners in this effort. But partners to all of you in terms of providing both advice, guidance, and funding that you might wish.

Appendices

We believe that as we look to the future, it is with you that we will be doing more and more financing, more and more financing directly, more and more financing jointly with the private sector, and it is for that reason that I am particularly happy to be here with my colleagues to extend my support to all of you, and my hopes that we will do many things together in the years ahead.

Thank you very much.

Appendix B Conference Agenda

Please note that this agenda may not represent last-minute changes and substitutions.

FIRST DAY-MONDAY, OCTOBER 26

17.00 Registration

19.00 Inauguration Ceremony Opening Remarks Jose Joaquin Martinez Sieso-President, Cantabrian Autono-

mous Community (Spain) Angel Martin Acebes-Deputy Director for Multilateral Organi-

zations, Ministry of Economy (Spain) Francisco Martin-Executive Vice President, Banco Santander

(Spain) Shahid Javed Rurki-Vice-president, Latin America and

Caribbean Region, World Bank Roger Grawe-Country Director, Hungary, Czech Republic,

Moldova, Slovak Republic, Slovenia Country Unit, World Bank

20.15 James D. Mblfensohn-President, World Bank

SECOND DAY-TUESDAY, OCTOBER 27

9.00 Opening Speech Guillerrno Perry-Chief Economist, Latin American and

Caribbean Region, World Bank

Appendices

9.45 Plenary Session One Macroeconomic Implications of Sub-national Borrowing

Lecturer: Iaroslaw Bauc-Secretary of State (Poland)

Discussants: Cristopher Marks-Resident Advisor, Ministry of Finance

(Poland) DGPA-USAID Anwar Shah-Principal Evaluation Officer, Operations Evalua-

tion Department, World Bank Roger Grawe-Country Director, Hungary, Czech Republic,

Moldova, Slovak Republic, Slovenia Country Unit, Mbrld Bank

Moderator: Eduardo Wiesner-Economic Consultant (Colombia)

1 1.30 Plenary Session Two Financial Management and Funding Strategies

Lecturer: Joan Clos-Mayor of Barcelona (Spain)

Discussants: Vilma Milunovic-Head Department of Finance, Piran

(Slovenia) John Petersen-President, Government Finance Group Inc.

(USA) Katalin Pallai-Advisor on Planning, Municipality of Budapest,

Secretariat of the Mayor (Hungary)

Moderator: Benjamin Darche-Principal, Capital Advisors Ltd. (USA)

13.00 Lunch sponsored by MBIA-AMBAC Jim Hass-Managing Principal, Capital Advisors Ltd. (USA)

14.30 Plenary Session Three Legal, Regulatory, and Institutional Framework for Subnational Borrowing

Lecturer: lost Luis Ruiz-International Monetary Fund

Appendices

l>iscussants: Vera Kamenickova-Advisor to Prime Minister (Czech Republic) Michel Noel-Manager, blunicipal Finance Initiative, World Bank Tirnothy Goodspeed-Professor, Hunter College of the City

University of New York (USA)

Moderator: Fernando Rojas-Senior Public Sector Management Specialist, Poverty Reduction and Economic Management, World Bank

16.30 Plenary Session Four-Round Table The View from the Market

Juan Miranda-M'ellesley Co., AB Asesores K. Brian Keegan-Managing Director, Debt Capital Markets,

Merr~ll Lynch (USA) Iain Hardie-Executive Director, Eastern Europe Capital

Markets, Morgan Stanley, Dean Witter (USA) Maher Al-llaflar-Director, Debt Capital Markets, Santander

Investment (USA)

Moderator: David Rnsen-Managing Director, Emerging Markets, Bear Stearns (USA)

21.00 Dinner sponsored by Morgan Stanley

THIRD DAY-WEDNESDAY. OCTOBER 28

9.00 Opening Speech Enrique Penalosa-Mayor of Santa Fi de Bogota (Colombia)

9.30 Plenary Session One Choice of Instruments and Borrowing Structures

Lecturer: George Peterson-Senior Fellow, Urban Institute (USA)

Discussants: Mario Cerna-General Administrator of San Salvador (El

Salvador)

Appendices

Raf;lel Gutierrez Suarez-Advisor on Economy and Finance, Government of Cantabria

Ellis Juan-Senior \'ice President, Head of Project Finance, Latin America. Santander Investment

Moderator: Bradlohnson-Partner, Hawkins-Delafield &Wood (USA)

11.30 Five Breakout Sessions--Case Studies Session One-Credit Ratings and Financial Guarantors

Caroline Mringardh-Llirector, Standard & Poor's (USA) David Slevens-Senior Vice President to the Chairman, MBIA

Insurance Corporation (USA) Gersan Zurita-Duff & Phelps (USA) Yves Lemay -Senior Vice President and Global Coordinator for

Suh-Sovereign Risk, Moody's (USA)

Morlerutor: K. Brim Keegan-Managing Director, Merrill Lynch (US'4)

Session Two-Borrowing through Financial Intermediaries

Janeth Hunter- moo re-Executive Manager, Michigan Bond Banks (USA)

Pedro Lnsa-Municipal Infrastructure Finance Loan, PROMUNI (Central America)

Sergio Lleras-Financiera de Desarrollo Territorial S.A., Santa Fe de Bogota (Colombia)

Dana Craciunescu-Associate Banker, EBKD, City of Bucharest (Hungary)

Modemtor: John Peterscn-I'resident, Government Finance Croup Inc. (US'4)

Session Three-Debt Management

Carlos Alberto Sandutfal Reyes-Secretary of Finance, City of Santa Fe de Bogota (Colombia)

C;isarAugusto Kabello Borges-Governor of Bahia Province (Hrazil)

Appendices

Igor Kostikov-Managing Director, Alexander Kostikov and Partners Ltd., St. Petersburg (Russia)

Moderator: Clemente del \hlle-Principal Financial Specialist, Capital Markets Development, World Bank

Session Four-Assessing the International Capital Markets

Eduardo delle Ville-Secretary of Finance of City of Buenos Aires (Argentina)

Aladar Madarasz-Senior Research Fellow, Institute of Econom- ics, Hungarian Academy of Sciences, Budapest

Renato Villela-Secretary of Strategic Affairs, City of Kio de Janeiro (Brazil)

Andrew Dobson-Consultant to UK Know How Fund on Russian Capital Markets, St. Petersburg (Russia)

Moderator: Francisco Pujol-Vice-President Latin America Capital Markets, Morgan Stanley (USA)

Session Five-Collateralization

Carnlen Ines Cruz-Mayor of Ibague (Colombia) Anibal Aguilar Gonzez-Financial Officer, City of 1.a Paz

(Bolivia) Andres J. Ayala-General Secretary of the Bureau of Territorial

Policies, Murcia (Spain)

Moderator: Maria E. Freire-Regional Coordinator, World Bank Institute, World Rank

13.00 Lunch sponsored by Standard & Poor's

14.30 Plenary Session Two Avoiding Bail Outs: Minimizing Exposure of Central Governments

Lecturer: Fernando Rojas-Senior Public Sector Management Specialist, World Bank

Appendices

Discussants: Hana Polackova-Public Sector Management Specialist, Poverty

Reduction and Economic Management Sector Unit, World Bank Joao Oliveira-Senior Economist, The World Bank

Moderator: David Vetter-DEXIA (France)

16.00 Five Breakout Sessions-Case Studies

Session One-Dealing with Non-Performing Sub-sovereign Borrowers

Giovanni Giovanelli-Financial Specialist, Inter-American Development Bank

Marcelo Mentndez-Menendez y Asociados S.A., Buenos Aires (Argentina)

Joseph Hedegus-Director, Metropolitan Research Institute, City of Budapest (Hungary)

Moderator: George Peterson-Senior Fellow, Urban Institute (USA)

Session Two-Financing Typical Sub-national Investment (Revenue bonds and General Obligation bonds)

Kaarel-Mati Halla-Advisor Economic Affairs, City of Tallinn (Estonia)

Jorge Pardal-Mayor of Guaymallen (Argentina) Pedro Juan Gonzales CarvajalSecretary of Finance of City of

Medellin (Colombia) Oscar Stark-Principal Economic Advisor of City of Asuncion

(Paraguay)

Moderator: Anthony Levitas-Municipal Finance Policy Advisor, USAID

Session Three-Transparency and Information Disclosure

Renato Villela-Secretary of Strategic Affairs, City of Rio de Janeiro (Brazil)

Richard Wilson-Duff and Phelps (UK)

Appendices

Marino Henao-Director of Latin Center for Urban Manage- ment, Quito (Ecuador)

Eugenio Mendoza-Managing Director, Merrill Lynch (USA)

M(~derator: Sonia Hammam-Advisor, The World Bank

Session Four-Institutional Investor Perspectives

Carlos M. Asilis-Senior Advisor, Vector Investment Advisors (Spain)

William Oliver-Senior Vice President, Alliance Capital Man- agement (USA)

Stefan Muller-Bongartz-Credit Analyst, Kheinhyp Bank Europe

Moderator: Carlos Silva- Jauregui-Economist, Poverty Reduc- tion and Economic Management Sector Unit, World Bank

Session Five-Vehicles for Joint Public Investments (Special Purpose Districts, Intermunicipal Companies)

Patricia Philips-Finance Director, City of Virginia Beach (USA) Luis de la Mora-Partner, Arthur Andersen (Spain) Enrique Francia Rornero-Manager, Arthur Andersen (Spain) Javier Ibarrola-Senior Vice-President, Banco Santander (Spain)

Moderator: Elio Codate-Senior Urban Management Specialist, World Bank

2 1 .OO Dinner sponsored by Merrill Lynch Brian Henderson-Senior Vice President, Merrill Lynch (USA)

FOURTH DAY-THURSDAY. OCTOBER 29

9.30 Closing Session

Gonzalo Garcia Piriiero Lage-Mayor of Santander (Spain) Michael Barth-Director, Capital Markets Development

Department, World Bank Roger Grawje-Country Director, Hungary, Czech Kepublic,

Moldova, Slovak Republic, Slovenia Country Unit, World Bank

Appendices

Tim Campbell-Advisor Urban Development, World Bank

10.00 Miguel Fiandor-Managing Partner, Arthur Andersen (Spain) Philip Schofiell-DEPFA-Bank, General Manager (Spain)

11.30 Michael Barth-Director, Capital Markets Development

Department, The World Bank Tim Campbell-Advisor Urban Development, The World Bank Roger Grawe--Country Director, Hungary, Czech Republic,

Moldova, Slovak Republic, Slovenia Country Unit, World Bank Luis Gurrsch-Lead Specialist, LCSFP, The World Bank

13.00 Lunch sponsored by Arthur Andersen

Documents

Local Strategies to Access Financial Markets€¦ · access the capital markets, yet it took place at a time when international capital markets were effectively closed to these players