Still on the Drawing Board: the Banco del Sur a Half Year Later

By Thomaz Alvares de Azevedo e Almeida
May 27, 2008, COHA

In the wake of the third summit of heads of state for the Union of South American Nations (UNASUR), the newest development is the creation of a South American Defense Council. One question still in the air, however, is what happened to the Banco del Sur, the South American development bank that was so heavily hyped a half year ago?
The Banco del Sur may become an important actor throughout the continent, but for this to happen its members first need to agree on the subscribed capital upon which it will be levied.
Once the bank's capital subscription is decided, future challenges await: How to allocate the voting shares distribution and how to achieve high quality portfolios and credit ratings.

In December 2007, presidents from seven of the thirteen South American countries met in Argentina to create the Banco del Sur, a development bank originally advocated by Venezuela's President Hugo Chávez as a substitute for international financial institutions like the International Monetary Fund (IMF) and the World Bank. However, as the Banco del Sur is still on the drawing board and its purpose still debated, the only relatively fixed points are the countries which have agreed to be members: the leftists Bolivia, Ecuador and Venezuela, and the moderate left-leaning Mercosur countries, Argentina, Brazil, Paraguay and Uruguay. The question at hand is whether the newborn Banco del Sur will be able to live up to the challenges of running a successful sub-regional development bank while still making a coherent and strong ideological statement.

A fast answer is that currently it cannot. Although the international agreement launching the Banco del Sur was signed on December 9, 2007 and the charter was planned to be finished within 60 days, the last meeting on April 25, 2008 was far from conclusive. The agreement specified an authorized capital of $20 billion and a subscribed capital tranche of $7 billion that would be complemented in later rounds. Argentina, Brazil and Venezuela are expected to join with capital investments of $2 billion each, Ecuador and Uruguay with $400 million each and Bolivia and Paraguay with $100 million each; at most, a maximum of 10% of the subscribed capital can be in local currency. However, these values still need to be approved by the legislative process in each of the countries and signed by their respective presidents.

The Bottom Line

The discussion about the voting power of each country was postponed to the subsequent meeting, and for which a date has not been set. Brazil's Minister of Finance Guido Mantega has projected that the Banco del Sur may begin operations before the end of the year, much later than the initial projections. The evident disorganization currently surrounding the creation of the Banco del Sur raises the question of whether South America even needs a sub-regional development bank, and if so, what must the Banco del Sur do to become this bank.

Figures from the IMF show that capital inflows to the region have increased since the early 1990s, with drops by the end of the decade and early 2000s followed by a later recovery; that is, the trend is rather positive. However, the increases in capital inflows have been concentrated in countries with a per capita income sharply higher than the region's average, as expected, with Brazil and Chile, being more targeted than others like Ecuador and Paraguay. Additionally, foreign direct investment (FDI) has been concentrated in just a few sectors in these favored countries, mainly privatization and investment in natural resources (oil, natural gas and mining.) Furthermore, financing for development requires long maturity periods for the investment to blossom. Yet, a number of South American economies still have volatile exchange rates and underdeveloped financial systems, which tends to compromise expansion of long-term credit mechanisms in the national currency.

Economic Differences Among South American Countries

There exists great variation in the development status of South American countries. Some would greatly benefit from a sub-regional development bank, such as Bolivia, Ecuador, Paraguay and Uruguay. Other members, like Argentina, which has been showing strong growth since the 2001 crisis and is not suffering from dearth of foreign financial resources, and Brazil and Venezuela, with current account surpluses, do not depend on such resources to attract capital inflows.

Evidently, these countries could bear the highest costs for jump starting the bank. Therefore, a sub-regional development bank seems feasible as does the possibility of having the bank financing desirable, but less profitable social projects, as well as infrastructure projects through both loans from their own resources along with A/B loans. Solid regional development institutions can leverage financial resources by selling loan participations to commercial banks. However, the possibility of this bank ensuring that capital flows are less concentrated, more regular, and at levels high enough to spur domestic savings and investment across the member countries is not clear at the moment. It is not certain that this bank would have the ability to mobilize enough resources from either international capital markets or its own members to carry anti-cyclical financing.

Currently, the Moody's credit rating for the bank's planned main subscribers is fairly mediocre: for Argentina and Brazil a B1 and for Venezuela a B2. This suggests that it may take some time before the Banco del Sur itself can reach a high credit rating before it becomes functional and efficient. Until then, the Banco del Sur's resources will depend on its members' willingness to go through a series of subscription rounds and continuous increases in the authorized capital. Now that the birth of its operations is being formulated, COHA is persuaded that the Banco del Sur should listen to Arvid Lakauskas's suggestion that "the most sensible approach [to finance development] is to design policies that can help to improve the profile of inflows... such as FDI, while limiting short-term flows." By improving the quality of its portfolio over time, the Banco del Sur can raise its credit rating, which in turn would improve its access to the capital markets, and thus its ability to leverage capital to its members.

Overall, a successful Banco del Sur will require the member countries to leave rhetoric aside and rally behind a more grounded vision for the bank's future. The Banco del Sur has real potential to foster development, but must resolve the outstanding issues. Answering questions as to voting shares, the range of loans offered, the profile of projects the bank will fund, and the necessary steps to achieve a high-quality portfolio and credit rating, will likely prove to be no cake walk.

Source: COHA

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