Washington DC November 12, 2008 Financing Energy Investments in Developing Countries Jamal Saghir Director Energy, Transport and Water The World Bank World.

Washington DC

November 12, 2008

Financing Energy Investments

in Developing Countries

Jamal Saghir

Director

Energy, Transport and Water

The World Bank

World Bank Group-Finland-Norway Seminar

Outline and Key Messages

• Changing financial, commodities ,and macroeconomic context

– Recent global financial shake up has changed the outlook for energy financing

– Volatility oil prices has forged close correlation with food prices

– Deteriorating macroeconoic pictures have eased short-term energy demand growth

• Impacts this time around likely to be different than the 1990s crises, given stronger growth prospects in developing countries and energy sector reforms undertaken

• Policy challenges—managing the immediate crisis, while keeping sight on long-term needs

I. Financial Context

Recent developments have tightened credit conditions

– Outlook depends on policy responses and financial consolidation

Emerging markets no longer sheltered, and private capital flows are set to decline from record levels of 2007

Financing of energy infrastructure will be affected as financial market consolidation continues

102030405060708090

100110

Jun-

07

Jul-0

7

Aug-0

7

Sep-0

7

Oct-0

7

Nov-0

7

Dec-0

7

Jan-

08

Feb-0

8

Mar

-08

Apr-0

8

May

-08

Jun-

08

Jul-0

8

Aug-0

8

Sep-0

8

Oct-0

8

S&P 500

Financials

Financial turmoil has moved into a new and dramatic phase

Source: Bloomberg.Source: Bloomberg.

Stock market indicesStock market indices

(June 2007=100)(June 2007=100)

S&P 500 Financial index on Oct. 09,2008: 191.85 (lost 62% since June 01, 2007)

……prompting significant changes in financial landscape

Massive market capitalization losses in global investment banking industry

Consolidation of the broker-dealer business with commercial banking

Deepening credit crunch ,with significant widening of emerging market debt spreads

Financing of infrastructure energy projects would be affected

Bailouts and liquidity injections may have prevented bank collapse

Basis pointsBasis points

-50

0

50

100

150

200

250

300

350

USUS

Euro zoneEuro zone

Source: Datastream.Source: Datastream.

Spread between 3-month Libor and policy interest ratesSpread between 3-month Libor and policy interest rates

Emerging market bond spreads have widened substantially

100

200

300

400

500

600

700

800

900

1000

1100

Sovereign bonds(EMBI Global)

Corporate bonds(CEMBI)

Basis pointsBasis pointsEmerging-market bond spreads

Jan 2007 – Oct 28, 2008

Source: JPMorganSource: JPMorgan

0

5

10

15

20

25

30

35

2004M1 2005M1 2006M1 2007M1 2008M1

$ billions (12-month moving average)

Bond issuanceBond issuance

Private debt and portfolio equity flows to developing countries have been moderating…

Bank lending, bond and equity issuanceJan. 2004 – Sep. 2008

Bank Bank lendinglending

Equity issuance

August 2007

Source: World Bank.Source: World Bank.

…but FDI inflows resilient

FDI inflows to developing countries (US billion)

0

50

100

150

200

250

300

China/Brazil/Russia

* Based on data in 25 developing countries

Other Developing

500

600

700

800

900

0

5

10

15

20

25

30

35

40

45Number of foreign banks Number of foreign banks (left axis)(left axis)

Market share of assets Market share of assets (right axis)(right axis)

……As Foreign banks play a dominant role in developing countries…scaling back would affect energy financing

Percent

Source: DEC Prospect Group based on data from Bankscope.Source: DEC Prospect Group based on data from Bankscope.

Hungary 94%

Mexico 82%

Indonesia 28%

Brazil 25%

India 5%

Thailand 5%

0 20 40 60 80

HSBCCredit Agricole Indosuez

BOT-MitsubishiDeutsche Bank

CalyonDresdnerRaiffeisenBarclays

Standard CharteredABN AMRO

CommerzbankNatixis

WestLBBNP Paribas

ING BankSociété Générale

Citibank

Risks from foreign banks’ transmission of financial shocks have heightened

Number of countries with exposure

Source: World Bank staff estimates based on data from BankscopeSource: World Bank staff estimates based on data from Bankscope

$ billions$ billions

0

200

400

600

800

1000

1990 1993 1996 1999 2002 2005 2008P

0

2

4

6

8

Net private debt and equity flows1990-2007, projected 2008-09 PercenPercen

tt

Percent of GDP(right axis)

Private capital flows expected to decline…Infrastructure and energy projects will be affected

Source: DEC Prospect Group .Source: DEC Prospect Group .

II. From Financial to Commodities Context

Most commodity prices have peaked and are expected to fall in response to improved supply and slowing demand

Oil prices have declined sharply in response to slower demand growth in the U.S. and OECD

Food prices are expected to fall on good supply prospects and weaker oil prices. However, prices will remain historically high and continue to be a major concern.

Metals prices have weakened as supplies have increased and are expected to increase further while demand weakens. China’s demand will be critical to prices.

The boom observed in recent years is unprecedented…

0

100

200

300

400

1960 1966 1972 1978 1984 1990 1996 2002 2008

Rea

l Pri

ce I

ndex

(20

00=

100)

Energy Food Metals

Source: DEC Prospects Group.

…but most prices have begun to decline

0

100

200

300

400

500

600

700

2003 2004 2005 2006 2007 2008

Indi

cies

(no

min

al $

)

Energy Food Metals

Source: DEC Prospects Group.

……Growth in U.S. oil demand has slowed...

-1200

-1000

-800

-600

-400

-200

0

200

400

600

800

1000

Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09

Other

Resid

Distillate

Gasoline

kb/d 3-mo mov avg (y/y)

Source: U.S. EIA and DEC Prospects Group.

… and global oil supplies have increased

-2000

-1000

0

1000

2000

3000

4000

5000

6000

Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

OPEC

Other

FSU

kb/d monthly (y/y)

Source: U.S. EIA and DEC Prospects Group.

III. From Financial to Commodities to Economic Context

Developing countries face slower export growth, deterioration in financial conditions and higher inflation.

The ability of developing countries to play a stabilizing role in the global economy is diminishing.

These developments weigh on energy demand

Inflation now surging in emerging markets–on food / energy prices…..

0

3

6

9

12

Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

High-income OECD

Developing countries

Median inflation ratesJan 2000 to July 2008

Percentage change(12m/12m)

Source: DEC Prospects Group.

…..Current account stress has risen substantially for oil importers

-5

-4

-3

-2

-1

0

2000-2005 2006 2007 2008 2009 2010

Current account balance / GDP oil-importing developing countries ( ex. China), 2000-07, projected 2008-10Percent

Source: DEC Prospects Group.

IV. From Financial to Commodities to Economic to Energy Context

• World Bank estimates that power sector investment in developing economies would be of the order of $165 billion per year until 2010, rising to $185 billion per year during 2011–20.

Power Sector Investment Gap

Cumulative Power-Sector Investment by Region

2005-2030 (IEA)

High bank borrowing renders the energy sector vulnerable to global credit crunch

Capital market financing for developing-country energy sector

0

20

40

60

80

100

120

140

160

2000 2001 2002 2003 2004 2005 2006 2007 2008*

Bond issuance

Bank lending

$ billions

Source: DealogicSource: Dealogic

0

50

100

150

200

250

300

2000 2001 2002 2003 2004 2005 2006 2007 2008*

Bank lending to energy-sector and total bank lending to emerging markets

Energy sector borrowing

Total bank lending

$ billions

* As of September* As of September

Bank lending for energy accounts for one-third of total international bank financing

Lending for in oil & gas dominates energy financing

Industry breakdown of developing-country energy financing, 1997-2008* (percent)

Other6%

Oil&Gas68%

Hydroelectric Power

4%

Electric power22%

* As of September* As of September

International debt flows to the energy sector is highly concentrated in a few countries

Top 5 recipients in energy-sector financing: aggregate 2004-2008

0

50

100

150

200

250

Russia Mexico China India Brazil

$ billions

* As of September* As of September

Past financial crises in developing countries…..With the origin of 1990s crises residing in developing

countries, impact on energy was severe

East Asia In 1998:– GDP in the region declined by an average of about 8 percent

– Primary energy demand declined at a rate comparable to GDP

– Electricity consumption declined at a much lower rate (2,4% in Thailand; 2% in Korea) or even continued growing (4% in Indonesia)

– Sharp currency devaluations against the US dollar pushed up the cost of energy in local currencies

– Deterioration in financial markets disrupted normal operations of energy sector

– Reduction of investment on the supply side, price adjustment (limited) and renegotiation of specific contracts

– Further steps in the reform (regulation, PPP, privatization) postponed or cancelled

…1990s crises : impacts on energy sector Latin America

– Significant progress had been achieved in restructuring and privatization of existing utilities until 1997

– The crisis disrupted reform programs (privatization and creation of competitive markets)

– In some countries (e.g.Brazil) reforms were restarted several years later

Eastern Europe and Central Asia

– Russia and Former Soviet Union (FSU) countries experienced loss of access to commercial funding for project financing

– Institutional and regulatory reform were affected

This time around ,the macroeconomic and sector profile is different

• Different Macroeconomic conditions in the majority of middle-income developing countries, particularly in the large BRICs (Brazil, Russia, India and China)

• Energy sector worldwide: high prices of oil and other primary resources expected for the next two decades

– Russian financial crisis in 1998 was partly due to the fall in oil prices-- to USD 11 per barrel.

• Food prices

There is a Financial + Energy + Food crisis

Investment in Private Energy Projects by Region 1990-2007 (US$ million)

0

20000

40000

60000

80000

100000

120000

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

East Asia and Pacif ic Europe and Central Asia Latin America and the Caribbean Middle East and North Africa

South Asia Sub-Saharan Africa Total Investment

Private Investments in energy peaked in 1997. The recent surge is likely to be reversed …

Consequences on energy would vary across countries

Most affected would be countries with high dependence on foreign capital -- Mexico, Ukraine

Limited in countries with developed institutional investors --.. Chile

Local and regional investors expected to consolidate their lead -- Brazil, Russia, India, China

“Energy rich” countries -- Gulf States, Norway, Brazil and Russia could become bigger financiers of energy projects in other regions

Brazilian and Russian companies likely to expand their role as direct foreign investors in other regions

Policy Challenges

Medium income countries

• Short-term : safeguarding existing projects involving foreign investors

• Medium-term : maintaining strong investment climate to attract future FDI flows

– Enhancement of sector’s institutional development

– Design and implementation of mechanisms for allocation of risks (project, macroeconomic, currency) between project developers and governments

Low-Income Countries

• Increasing Use of renewable energies to expand access

• Maximizing energy efficiency

• Designing better institutional, technical, procurement procedures

• Need to:

• Develop better tools and mechanisms to distinguish energy cycles from business and credit cycle –procyclical with credit cycle, counter cyclical with business cycle

• Highlight the fact that public sector cannot afford to finance all required energy investments in developing countries

• In dealing with crisis, the state’s role has changed to “ guardian of last resort” –-- implications for fiscal deficit, interest rtaes, and PPI model

• One thing is sure:• Private sector participation remains essential and likely to revive once markets

find their footings

But keep in mind:• Energy investments are for the long haul and need robust rules-of-the-game

Concluding Remarks

Thank you