World Bank Document

Box 8.7 Increasing the flexibility of bank lending
Two new market instruments are examples of financial value of developing-country debt is not abruptly
innovation that help increase the liquidity of banks' port- reduced when TLIs are traded.
folios and encourage banks (especially in the second tier) * Note issuance facility (NIF). The NIF combines the
to maintain a lending relationship with developing coun- characteristics of a traditional syndicated credit and a
tries.
bond. The NIF is one of a set of hybrid instruments
* Transferable loan instrument (TLI). The TLI provides a which have recently been launched in the market. A NIF
standardized means by which a transfer of lending com- is a medium-term loan which is funded by selling shortmitments
can take place from a primary lender to a sec- term paper, typically of three or six months' maturity. A
ondary market. In effect, TLIs create a secondary market group of underwriting banks guarantees the availability
for bank loans. When a bank makes a loan commitment, of funds to the borrower by purchasing any unsold notes
it can sell one or more TLIs to another bank or financial at each roll-over date or by providing a standby credit.
institution. The TLI entitles its holder to receive interest As funds are drawn, the underwriter either sells the
and other benefits of the original loan agreement, just as securities or holds them for its own account. The borthough
the holder had itself been the primary lender. rower has guaranteed access to long-term funds; the
The TLI would be sold in various denominations, subject underwriter holds a liquid, marketable security, potento
some minimum size. It would typically be repaid in tially attractive to a wide range of investors. The facility
one lump sum on a date determined by the scheduled has the added attraction to the borrower that it can be
repayment dates on the original loan. From the borrow- substantially cheaper than a standard Eurocurrency
er's standpoint, the amount, terms, and conditions of loan. The Korean Exchange Bank and the Republic of
the original loan remain intact. From the lender's stan- Portugal have, for instance, recently arranged Euronote
point, TLIs offer international banks scope for managing facilities.
their assets more flexibly. And because TLIs can be sold The fast pace of growth of NIFs and similar hybrid
in packages of varying maturities and denominations, instruments-which totaled $9.5 billion in 1983 and
they are potentially attractive to second-tier banks.
increased to about $20 billion in 1984-has raised con-
Although TLIs have thus far been used for industrial- cerns among banking regulators. Banks could have to
country loans, they could be extended to developing- take on their books high-risk loans if a borrowing entity
country finance as well. However, borrowers and (faced with, say, a fall in its creditworthiness) were not
lenders will have to move gradually, so that the market able to refinance its Euronotes in the market.
access. Foreign bonds are denominated in the cur- In the 1960s and early 1970s bonds issued by
rency of the host country, which often subjects developing countries averaged little more than 3
borrowers to tight entry requirements. percent of total issues (see Table 8.1). By 1978
Developing countries have been attracted to the developing countries had increased the volume of
international bond markets primarily because they their borrowing to $5.2 billion and their market
offer long-term money, at either fixed or floating share to 15 percent. In 1979 and 1980, however,
rates of interest. As a group, developing countries their borrowing and market share declined
have indirect access to the bond markets, since the sharply, reviving only slightly in 1981. Since then,
World Bank and regional development banks are only developing countries that have avoided debt
major borrowers there and onlend the proceeds to problems have been able to tap the markets. In
their member governments. However, few devel- 1984 they raised $3.8 billion in bond issues, with
oping countries have managed to borrow in those ten countries accounting for the bulk of the total.
markets directly, and then only in small amounts. The most promising conditions in which devel-
One important reason is the existence of sovereign oping countries might issue bonds are when the
risk (described in Chapter 6, Box 6.4). Bondholders markets as a whole are buoyant and competition
enjoy none of the advantages that banks have in from more creditworthy borrowers is light. Fixed
coping with sovereign risk. Their relationship with rate markets are most buoyant when inflation is
developing countries is extremely remote, so they relatively low and stable. The shape of the yield
have virtually no leverage to enforce repayments curve also influences the chances of issuing fixed
in the event of debt difficulties. It is noteworthy, rate bonds: if short-term interest rates exceed longhowever,
that those developing countries in diffi- term rates, it is difficult to launch new issues. As
culty have continued to service outstanding bonds for competition from other borrowers, that can be
held by nonbanks so as not to damage their repu- affected by the actions of the host government. If it
tation in the bond markets.
is borrowing heavily to finance its own budget def-
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