The world around us
Our markets have faced record-breaking capital outflows and an unprecedented recession as a result of COVID-19, which has reversed the progress made in the past two decades towards reducing poverty and inequality. 2020 will be the first year since the turn of the century that the number of people living below the poverty line will increase.[1] FMO’s role as a Development Finance Institution (DFI), as such, is needed now more than ever before.
COVID-19 impact on reaching the SDGs
The crisis will slow progress towards the SDGs. The pandemic has delivered a blow to employment and economic growth (SDG 8). Many companies are laying off employees as they face sharp decreases in demand and interruptions to production and shipping. In many emerging markets (EMs), millions of workers in the informal sector have been hit hard. Unprotected by social security or local law, many workers in these low-skilled, low-productivity and low-paid jobs have abruptly lost their jobs and incomes. This has led to increased levels of poverty and inequality (SDG 10). Meanwhile, the climate (SDG 13) crisis continues as the global community moves away from the commitments set forward in the Paris Agreement. Despite the drastic reduction in economic activity due to COVID-19, the resulting 6% drop in greenhouse gas emissions projected for 2020 falls short of the 7.6% target to meet the 1.5°C ambition set in the Paris Agreement.[2]
GDP growth in developing countries (excluding China) is expected to be as low as -5% this year and grow by 4.7% next year – assuming the pandemic will be brought under control in 2020. Significant downside risks remain to this projection and may hence further jeopardize progress in achieving the SDGs by 2030.[3]
Road to recovery – the role of DFIs
Constrained by high debt ratios and low real interest rates prior to the crisis, many governments and central banks in EMs have struggled to develop adequate response packages to shield the private sector. DFIs such as FMO play an important role supporting and continuing to invest in these businesses as well as the jobs provided by them. In the short-term, we are aligning our corona response with peers and partners to accommodate our joint customers while finding new ways of working (e.g. virtual due diligence). In the short- to long-term, we continue to invest in these markets, working with our partners to acquire high-risk capital from public entities (‘blending’) to crowd in commercial capital (through syndication and fund management activities). We foresee opportunities to stay ahead of the curve and accelerate growth beyond the current crisis, gearing our investments towards new and innovative solutions that are focused on connecting the un(der)served to basic infrastructure and financial services.
Use of blended finance
FMO and the DFI community are benefitting from a greater availability of blended finance offered by institutions such as the European Commission (EC), Global Climate Fund (GCF) and national governments. EC budgets through the European Fund for Sustainable Development program, for instance, are expected to increase substantially and could be used towards developing higher impact and innovative solutions. More (blended) financing is also provided for ‘upstream’ project development, which typically requires considerable time and resources as well as market development.
Commercial capital to achieve the SDGs
Commercial capital is crucial to achieve the SDGs. In the years leading up to the pandemic, institutional investors were increasingly targeting the SDGs, and impact investing was becoming more mainstream as progress was being made towards standardizing impact measurement and reporting. This increased transparency and improved decision-making by companies, investors, and policymakers. FMO will continue to demonstrate that impact investing in EMs – even under the current circumstances – is worthwhile and profitable. FMO’s role is to bring together governmental, NGO and commercial parties to invest capital (back) into emerging and developing markets to boost resilience post-COVID-19. With our syndicated and blended product lines, FMO can bear the risks and pave the way for the private sector to invest in EMs. Several of our commercial partners, such as our FMO Investment Management (FMO IM) funds and Munich Re, have already expressed their ongoing commitment to co-invest in select FMO loans.
Regulatory pressure to increase
Several new regulations may impact FMO’s operations and the markets in which we operate. These include:
Basel IV. The translation of the Basel IV agreement into European law (“CRR-3”) is expected to increase the capital requirements for FMO as it requires a higher risk weight to be applied to equity investments and a higher capital charge for market risk. An increase in capital consumption might limit the ability of FMO to invest and create impact.
Climate related risks. The European Central Bank (ECB) published a Draft guide on climate-related and environmental risks. The guide outlines the ECB’s understanding of prudent management of climate-related and environmental risks and sets out supervisory expectations for banks in this respect. This will likely have implications for FMO’s internal procedures, climate-related and environmental disclosures and how we incorporate climate and environmental risks into our business strategy, risk management and governance frameworks.
EU Taxonomy. Member states and the European Union (EU) will be required to apply the Taxonomy when adopting measures (e.g. labels or standards) in setting requirements for financial products or corporate bonds presented as ‘environmentally sustainable’. The first climate change mitigation and adaptation criteria need to be adopted by the end of 2020 and applied by the end of 2021. Other environmental objectives (e.g. water) need to be adopted by the end of 2021 and applied by the end of 2022. FMO is currently assessing the implications of the EU Taxonomy.
FEC and tax integrity. We expect a stricter approach from both the EC and the Dutch Central Bank (DNB) with respect to client tax integrity. Both the EC and the Financial Action Task Force frequently revise their list of high-risk countries which influence the customer due diligence requirements with respect to customers in those countries. The effectiveness of the Financial Economic Crime (FEC) Enhancement Program, which is currently underway within FMO, will be closely monitored by the DNB.
- 1 World Bank Group (2020). Global Economic Prospects.
- 2 United Nations (2019). The Sustainable Development Goals Report.
- 3 International Monetary Fund (June 2020). World Economic Outlook Update.