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Innovative financing, tapping the private sector

08/01/2018

Official development assistance (ODA) for low-income countries has been shrinking in recent years and is no match for demand on the ground.

As the investment landscape evolves, how can public institutions make better use of these limited public funds and ensure that private sector investments are financially sustainable and socially responsible?

Participants attending last year’s FAO Investment Days discussed these and other issues during a session on innovative financing.

Blended finance – combining public and private money to advance social goods, such as improving food security, creating jobs and reducing poverty – is gaining traction.

“Blended finance is important because it enlarges the outreach of public pro-poor interventions by liaising with private investments and bank loans, generating benefits for a wider public,” said Tommaso Alacevich, an econimist in FAO Investment Centre. “The private sector finds it smart to invest in the Sustainable Development Goals (SDGs), and blended finance is changing the way technical agencies and international financing institutions do their work.”

Public money, he added, helps “de-risk operations by financing technical assistance to strengthen the capacity of entrepreneurs to pay back the private investors while also ensuring that the money invested is producing results in the social sphere.”

Serving the missing middle

Most of the 2.5 billion people managing the world’s 500 million small farms are semi-commercial or subsistence farmers, making up the middle and bottom of the smallholder agriculture pyramid.

“The private sector realizes smallholder agriculture is the next frontier market,” said Adolfo Brizzi, Director of IFAD’s Policy and Technical Advisory Division. “This is where the largest productivity gains are. It’s a difficult market because we’re talking about low costs, low profits but high volumes, and you need scale to be attractive for private investment.” 

“Public institutions need to package the different financial instruments available – private savings, micro-insurance, remittances, matching grants, guaranteed funds, electronic voucher systems, value chain financing –  with public goods in a way that reduces the transaction costs and risks of working with small producers,” he said.

“Once that is done, there are many investors outside the pyramid, such as agribusinesses, supermarkets, social impact investors, microfinance institutions, climate funds, waiting to find the right credit-worthy clients.”

IFAD’s public-private-producer partnership approach – known as the 4Ps –  is using public money to leverage private investment.

By combining public goods, financial instruments and contractual arrangements with small farmers and agribusinesses, the approach can help attract additional resources and create opportunities for scaling up development results.  

Innovations for financial inclusion

Another example of how the public sector is facilitating private sector investment is the CADENA programme in Mexico.

Natural disasters have been increasing in frequency and intensity in the country. After each disaster, the government would divert money from other budget lines. 

To counter that, the government decided to buy weather index insurance at the beginning of the fiscal year from an insurance company, transferring the risk to a third party.

Now, when a natural disaster strikes, eligible farmers receive cash payouts from the insurance company, providing the farmers with a safety net.

“In the beginning, insurance companies were reluctant to sell to smallholders, so the government created one public insurance market,” said Massimo Pera, an FAO financial inclusion specialist and project coordinator. “The market quickly evolved and now there are an additional 12 private insurance companies.”

Competition in the marketplace has since led to the development of other products tailored to the needs of these farmers.

Growing role of remittances

In one month, around USD 37.5 billion will be sent as remittances to developing countries – with 40 percent of the flows going to rural areas.

Roughly 200 million migrant workers send remittances home, benefiting at least four people. That translates to one billion people.

The private flows are mostly used to put food on the table, send children to school, buy medicine, pay bills and cover other daily expenses, while up to 20 percent actually support local economies and businesses and build communities through savings and investments.

“This is a global phenomenon and it’s on the rise, more than ever before” said Pedro de Vasconcelos, Manager of IFAD’s Financing Facility for Remittances. “Remittances are contributing to achieving the SDGs, transforming the world one family at a time.”

Most of the transactions are through money transfers. But helping those flows transit through financial institutions and linking them to services such as savings accounts is already having a significant impact. These flows are now considered a key driver towards financial inclusion for underserved populations in rural developing economies.  

The public sector has a key role to play in maximizing the development impact of these flows while ensuring an adequate enabling environment in the remittance marketplace that does not hamper the nature of these flows.

Only in recent years have these approaches begun to be understood, addressed and implemented by major remittance-sending and receiving countries.

Today's global agenda on migration and remittances is expected to bring forward mechanisms that will allow the true development impact of these private flows to be unleashed, particularly in rural areas which will receive over USD 43 trillion during the 2015-2030 timeframe.

Going forward

Helping smallholder farmers graduate to formal sources of finance to fund their pathway out of poverty is a key development challenge – one that will require greater collaboration between the public and private sectors.

“In going forward, we need to invest in the enabling environment that helps countries and private funds focus on social returns, develop our capacity to partner with the private sector, focus on quality assurance, strengthen monitoring and evaluation systems and improve statistics,” Alacevich said.

“In terms of investment, we see that an inclusive value chain approach is paying off, helping the whole supply chain become stronger, more resilient and more efficient.” 

 

This article is part of a series to share the latest thinking and learning on innovations in agriculture from FAO Investment Days 2017.