Andrew Nette, ACFOA Policy Officer

The Asian Development Bank (ADB) is the largest of the world’s regional multilateral development banks and arguably the most powerful development institution operating in Asia and the Pacific. Over the last decade the ADB has greatly increased the use of conditionalities across all aspects of its loan operations.

On paper at least, many of these conditionalities seek to promote principles such as greater national ownership, wider participation and the allocation of an increased proportion of the ADB’s lending to social sector operations. More controversial, has been the increasing use of conditionality to promote macroeco-nomic, legal and other broader policy changes, a trend that is having far-reaching impacts in its Developing Member Countries (DMCs).

Given the Australian Government’s significant influence in the ADB, both in terms of funding and policy, a number of Australian NGOs have made monitoring and influencing ADB practices and policies a key focus of their work on multilateral institutions. Among NGO criticisms are: the way the ADB defines poverty and poverty reduction; its lack of accountability; the impact of the Bank’s activities on growing debt levels in many Asian countries; specific ADB problem projects; and the ADB’s increasing use of conditionality.

Less money, more power: policy influence is the priority

While the ADB claims that its increasing use of conditionality is a response to implementation problems and poor project success rates in the Bank’s operations, it is also the result of a number of other interconnected factors. For the first 20 years after its establishment in 1966, the ADB’s operations followed what might loosely be called the Japanese model. This emphasised project financing – mainly loans to agriculture and large-scale infrastructure projects, such as roads and hydropower dams – and the encouragement of export-oriented industries and a strong regulatory role for the state.

In the early 1990s, the ADB moved more in line with the approach advocated by the World Bank and the IMF. This stressed the central importance of private sector development and foreign capital, a reduced role for the state, and lending for structural adjustment and policy objectives as opposed to individual projects. Loan conditionalities were included to pressure DMC governments to open up and liberalise their economies. The ADB thus became a key conduit in Asia for the ‘neo-liberal’ policies of deregulation, privatisation and an economic growth-centred approach to fighting poverty. The ADB is very up-front with its view that just as important as loans are the conditions attached to them, especially in terms of influencing DMC government policy.

This approach is facilitated by the decline in official overseas development assistance, both in absolute terms and as a proportion of global capital flows, and the lack of avenues poor countries have to access global capital markets or other means of financing development.

In the area of infrastructure, for example, Asian governments, particularly those in so-called emerging markets, do not have the funds to undertake even a fraction of the energy, transport, telecommunications, urban and tourism infrastructure needs identified by themselves and foreign donors as preconditions for economic growth. At the same time, the private sector remains reluctant to invest in infrastructure in many of these nations because of commercial and political risks.

In response, the ADB has moved from being mainly a project funder to becoming more of a facilitator or ‘catalyst’ for private sector investment in DMCs, in turn giving the ADB further opportunity to attach conditions to loans and use technical assistance to force policy change. This new direction is set out most clearly in the ADB’s Private Sector Development Strategy, updated in March 2000, which argues that a strong and dynamic private sector is crucial to long-term economic growth and is a pre-condition for poverty reduction. It argues in favour of ‘creating the enabling environment for domestic and private foreign investors and shifting the role of government from owner-producer to facilitator-regulator’¹. This is also the theory underlying much of the Poverty Reduction Strategy adopted by the ADB in November 1999², which focuses on ‘pro-poor sustainable economic growth, social development and good governance.

Hard loan conditionality increases

The increased use of conditionality is most apparent in loans made under the Bank’s Ordinary Capital Resources (OCR). These are hard loans made on non-concessional terms to DMCs that have reached some level of economic development and they account for approximately 84% of Bank loans. Conditions attached to OCR loans most commonly include:

• The development of new legal mechanisms and regulatory and institutional frameworks for the development of markets, competition and pricing
• The privatisation of state-owned operations
• The introduction of new policies and laws to protect specific investments, particularly infrastructure
• The liberalisation of trade and investment laws
• The dismantling of state subsidies

The use of conditionality by the ADB gained momentum in the period immediately after the Asia regional financial crisis in 1997, when it participated to the tune of over US$8 billion in IMF and World Bank bail-outs of the Indonesian, Thai and South Korean economies.

For example, included in the ADB’s loans to Thailand were projects aimed at policy reform in the financial, labour, health, social welfare and education sectors. In 1999, the ADB and the Japan Bank for International Cooperation (JBIC) approved a US$600 million Agriculture Sector Program Loan. Dispersal of this loan was conditional on a number of far-reaching policy changes, including introducing fees on water use for small-scale farmers and raising interest rates for credit extension programmes.

Similarly, in exchange for a US$46 billion bail-out package for Indonesia’s economy in the wake of the crisis, the IMF, World Bank and ADB mandated a comprehensive restructuring of Indonesia’s power sector. In March 1999, the ADB and JBIC each approved US$400 million in loans for energy sector reform, aimed at establishing a competitive market in Java and Bali, and calling for changing the legal and regulatory framework, adjusting power tariffs and increasing foreign private sector participation. The reform programme also called for the adoption of a new electricity law prepared with the support of ADB-funded consultants. The ADB has pushed for the privatisation of the Indonesian state-owned power utility, Perusahaan Listrik Negara (PLN). PLN was hard-hit by the crisis as a declining Indonesian rupiah made servicing contracts negotiated in foreign currency more difficult and increased the utility’s debt levels. Significant losses have also been alleged as a result of the corruption involving negotiations of private power purchase agreements under the Soeharto regime.

In addition to influencing the policy process of DMCs through attaching upfront conditions to loans, the ADB employs a range of more subtle or indirect conditionalities. The ADB now provides ‘investment advice’ to governments on how to attract private sector funds into projects and assists DMCs to formulate policies and regulations and strengthen institutions that will facilitate foreign capital flows and private sector development. In particular, the ADB has made significant efforts in the area of sub-regional cooperation in Asia and the Pacific, facilitating trade and investment in designated growth triangles and quadrangles. The best-known of these is the Greater Mekong Sub-Region Initiative, which includes Thailand, Laos, Vietnam, Cambodia, Burma and southern China. These zones bring together bureaucrats from host governments into forums in which the ADB acts as a self-appointed ‘honest broker’ to facilitate economic cooperation among governments in sectors as diverse as transport, power or public sector administration. These growth zones act as conduits for ADB supplied research and technical assistance to the private sector and member govern-ments, to identify attractive investment projects and prepare feasibility and impact studies.

Soft loans made performance-based

The increasing use of conditionality is also evident in loans made under the ADB’s soft loan arm, the Asian Development Fund (ADF).

The eighth replenishment of the ADF, covering the period 2001-2004, saw a renewed debate between donors and the Bank around the ADB’s focus. Among the outcomes of ADF 8 was the adoption of a rigorous system of performance-based lending. According to the ADB, performance-based lending is predicated on the assumption that ‘aid works best in reducing poverty in countries with sound policies and institutions.³ Poor policies, poor governance and weak institutions restrict the effectiveness of poverty reduction efforts. ‘Good’ policies must be in place in recipient countries if aid is to work effectively to support economic growth.

Under this system, all countries seeking ADF funding will be measured against a set of criteria linked to such factors as governance, economic management, gender focus, environmental protection and accountabil-ity. Country allocations will be formulated based on how they have performed against these criteria and presented to the ADB’s Board for approval. In addition, donors recommended that the ADB systematically link the quality of governance of all DMCs to ADF lending levels. ‘Support to countries with poor governance (which occurs when a borrower is not pursuing policies conducive to pro-poor sustainable economic growth, social development and good governance) should be scaled back to non-lending services or stopped entirely if necessary’.⁴ ‘Support for countries with weak governance (when a borrower has poor policies but is making sustained efforts to improve them) should mainly target strengthening of institutional capacity and basic human needs.’ ⁵

Among the factors to be taken into account under the definition of governance are:

• ‘Receptiveness to policy dialogue with the ADB and donors and willingness to undertake necessary reforms’. ⁶
• Efforts at domestic resource mobilisation and public expenditure management.
• Procedures governing the preparation of state budgets.
• Effectiveness in fighting corruption.
• ‘Trends in non-productive government expenditures and spending on social sector programs’. ⁷
• Participation in the development process and public access to information.
• ‘Non-economic’ factors, such as democratisation, human rights, adherence to core labour standards, gender and the environment.

Australian NGOs ambivalent

Australia is the ADB’s fifth largest overall shareholder and the third largest ADF shareholder, having contrib-uted some A$1.35 billion to the ADF as of June 1999, with A$561 million outstanding. The 2000/01 aid budget saw Australia commit a further A$120 million to the Fund, 13% of the country’s total aid budget.

Australia is broadly in agreement with much of the ADB’s increased use of conditionality. In his opening address to the first replenishment meeting for ADF 8 in October 1999, Australian Foreign Minister Alexander Downer emphasised the need for the ADB to take full account of the crucial issue of good governance and also encouraged it to consider the performance of developing countries when making loans.⁸ This has included strengthening the use of conditionality in the ADB’s social, environmental and poverty reduction activities.

To an extent, the Australian Government has balanced this with recognition of the need for greater accountability in the ADB, and has taken a lead in attempts to reform the ADB’s internal governance so that it is more transparent to NGOs and civil society in donor and recipient countries. Despite broadly supporting the ADB’s activities, Australia has also shown a preparedness to dialogue closely with NGOs and critique the ADB’s operations, particularly in relation to the adverse social and environmental impacts of its projects. It has also demonstrated an awareness of some inconsistencies between the ADB’s operations and activities undertaken under its bilateral aid programme.

For Australian NGOs, tackling the issue of conditionality in the ADB’s operations is complex. NGOs clearly oppose some forms of conditionality. For example, in their criticisms of structural adjustment policies undertaken by international financial institutions, many NGOs are clear that conditionality should not undermine local and national democratic decisions. At the same time, NGOs have mixed views on other conditionalities, particularly ‘poverty-focused’ or ‘social’ conditionalities aimed at increasing lending for poverty reduction or securing greater commitment from DMC governments to accept so-called ‘pro-poor’ policy reforms.

Thus, in the debate around debt and the Heavily Indebted Poor Countries Initiative, Northern NGOs, including those in Australia, clearly support attaching some conditions to debt reduction to ensure funds go towards anti-poverty measures. This has involved NGOs having to walk a fine line: supporting conditionality as a way to garner mainstream public support for debt reduction, but condemning use of some conditions by the World Bank and IMF, especially in poverty reduction strategy papers.

The introduction of performance-based lending by the ADB is partly a response to persistent criticism by NGOs and donors that few ADB projects have been designed specifically to address poverty reduction. A report to donors at the beginning of the recent ADF replenishment talks stated that only 18% of the total171 project loans made under ADF 6 directly targeted poverty, only 3% (1.5% by value) targeted women and 10% the environment. Of the 53 projects targeted at the loosely defined ‘social infrastructure’, only four directly targeted poverty alleviation.⁹ While it is too early to see how much substance there is behind the ADB’s claims it is changing, many NGOs have cautiously welcomed shifts such as performance-based ADF lending.

ADB’s own performance lacking

The ADB’s use of conditionality can be critiqued on a number of levels. By its own standards, it would appear that the increased use of conditionality has so far met with few positive results.

Among problems identified with the proliferation of conditionalities by a 1999 internal review is ‘goal congestion’, as the ADB has tried to integrate the various objectives donor governments have attached over the years. The review noted an average of 32 conditionalities per loan, causing confusion and a blurring of priorities. ¹⁰

Such conditions, the report observed, alienate client governments and have led to the to the undermin-ing of ownership of ADB programmes by recipient governments. It also noted a tendency on the ADB’s part to compensate for perceived lack of commitment, weak administration and technical support by increasing the detail and number of conditions in loan and adjustment operations.

Nor does it appear that the proliferation of conditionalities has led to more effectiveness in ADB operations, which continue to be marked by relatively high failure rates. One recent assessment of publicly available ADB documentation relating to activities in Indonesia, ¹¹ the ADB’s largest client country, estimated that at least 70% of ADB projects in that country will fail to produce lasting economic or social benefits for the Indonesian people. These included projects in the education, agriculture, health and credit sectors.

A 2000 report by the Bank’s Operations Evaluations Office analysed 21 projects and sector loans and five programme loans. Of these half were ‘less than successful’ or ‘unsuccessful’. Successful projects were mainly in the area of infrastructure, with high failure rates recorded in activities targeted at the agriculture, forestry and social infrastructure sectors.¹²

The poor success rates attributed to much of the ADB’s activities are the result of many factors, including lack of capacity or expertise on the part of DMC governments to implement them, insufficient finance or external shocks that divert government’s attention away from the reform process.

Another important reason is lack of local ownership and the fact that increasing ADB conditionality is often merely a substitute for the much harder task of getting recipient support for the institution’s policies, a point recognised by the ADB itself in a 1999 review of ADF performance which stated: ‘The borrowers’ ownership of and commitment to the project are the most critical in determining project outcome.’ ¹³

On a more fundamental level, there are two key problems with the ADB’s increasing use of conditionality.

The first is that the proliferation of conditionalities has seen the ADB’s operations suffer overreach, as they stray into areas outside its mandate or expertise – or, at worst, bypass or undermine national democratic processes and the rule of law, sometimes sabotaging national democratic and social welfare gains. There has also been criticism of the ADB’s use of sub-regional cooperation, which many claim has served to move vital development decisions even further away from the lives of those they affect, a problem reinforced by the ADB’s own highly centralised and relatively unaccountable structure and practices.

The second problem is the connection between conditionalities and the institution’s flawed analysis of poverty and what is needed to tackle it. Its Private Sector Development Strategy makes it clear that the ADB views markets as virtually the only source of assets and opportunities for people living in poverty, and private sector economic growth as the major vehicle to eliminate poverty, a view reiterated in the Poverty Reduction Strategy. ADB conditionality is geared towards nurturing markets to reach their full potential by the removal of market distorting interventions such as credit subsidies, pricing controls, state ownership, import-export restrictions and overvalued exchange rates.

While there is nothing wrong in strengthening the private sector, particularly the local private sector in DMCs, of concern is the automatic assumption of the beneficial link between private sector development and poverty reduction. These efforts need to be balanced and informed by community input and ownership and, where necessary, government regulation to ensure that markets benefit the whole community, particularly those living in poverty.

The ADB provides insufficient detail as to how this reliance on markets will encourage greater transparency in the its operations, including those with the private sector, or how people living in poverty will benefit from reforms that will result in them having to access services at market prices.

On the ground, this has led to serious opposition to various ADB policies. Reforms to Thailand’s agriculture sector have met huge resistance from farmers, the public, and even some sections of the Thai Ministry of Agriculture. In addition to criticising the lack of transparency accompanying the formulation of the loan, Thai NGOs and farmers’ groups argue that the introduc-tion of market-based water use rights will discriminate unfairly against small-scale farmers, still a large part of Thailand’s agricultural sector, in favour of industry and large-scale agribusiness. It is also a major development issue in terms of food security for rural Thailand, given the degree to which small-scale agriculture acts as a social cushion in times of economic crisis.

The ADB’s activities in Indonesia’s power sector have generated broad opposition. While critics agree that PLN’s existing obligations are beyond its economic capacities and that reforms need to be made, they have raised a plethora of accountability, human rights and equity issues. These include the prospect of large-scale lay-offs, increased power prices, and concerns that without public sector involvement there will be little incentive for the maintenance of power infrastructure in rural areas.

Proposed changes to Indonesia’s power sector are part of a wider programme of power sector reform throughout Asia, including in India and the Philippines, which critics charge has led to escalating energy costs for consumers, and increased debt burdens for government, to the benefit of private sector interests.

As one paper on the World Bank and IMF’s use of conditionality argued, there is a need for NGOs not just to critique the international financial institutions’ use of conditionality, but to suggest alternatives.¹⁴ It suggested three basic principles that should underlie an NGO approach:

• Conditionality should work for those living in poverty.
• Conditions must be genuinely democratic
• Conditions should be the product of partnership, not of coercion.¹⁵

The ADB’s poverty reduction will come to little without fundamental shifts in how it defines poverty and poverty reduction. This means promoting not just private sector economic activity but activities that respond to the needs of the most disadvantaged sectors of society. There is little chance of people in poverty being able to better voice their opinions on issues that affect their lives and those of their children, when so many of the Bank’s projects and operations contradict the institution’s own definition of good governance.

If these principles are accepted, then rather than applying more conditionality, donors should push the ADB to become a more accountable and transparent institution. This includes giving information to impover-ished communities directly affected by the ADB’s activities and ensuring that projects only go ahead with the community’s prior informed consent. To this end, internationally recognised human rights standards should be incorporated into the ADB’s policies and practices.

Until these basic steps are taken, the ADB’s use of conditionality will continue to be part of the problem instead of part of the solution.

Notes

¹ This article is based on a paper originally delivered at the Conference on Official Development Aid in Asia, organised by the Reality of Aid Network, Asia and the Asia Pacific Research Network, Manila, Philippines, 18-20 June 2001. The author would like to acknowledge the editorial assistance in the preparation of this article of Jim Redden, ACFOA Policy Director.

² Asian Development Bank, Private Sector Development Strategy, Manila, March 2000, p 1.

³ Asian Development Bank, Fighting Poverty in Asia and the Pacific: The Poverty Reduction Strategy of the Asian Development Bank, Manila, October 1999, p1.

⁴ Asian Development Bank, ADF VIII Donor’s Report: Fighting Poverty in Asia, Manila, September 2000 p 17.

⁵ Ibid., p 18.

⁶ Op Cit.

⁷ Op Cit.

⁸ Op Cit.

⁹ The Hon Alexander Downer, Foreign Minister of Australia, Opening address to ADF VIII donors meeting, October 1999, Brisbane.

¹⁰ Asian Development Bank, Report on the results and Impacts of ADF Operations, Manila, March 2000.

¹¹ Asian Development Bank, Review of ADB’s Program Lending Policies, Manila, November 1999, p 15.

¹² Environmental Defence Fund, Evaluating the ADB in Indonesia: The Operation was a Success but the Patient Died, Washington, May 2001.

¹³ Asian Development Bank, Annual Report 2000, pp 47-48.

¹⁴ Asian Development Bank, Report on the results and Impacts of ADF Operations, Manila, March 2000, p 3.

¹⁵ Angela Wood and Mathew Lockward, The Perestroika of Aid? New Perspectives on Conditionality, London, March 1999.