International Development Committee - Minutes of EvidenceHC 334-iii

House of COMMONS

Oral EVIDENCE

TAKEN BEFORE the

International Development Committee

The Future of UK Development co-operation Phase 1: Development Finance

Tuesday 3 September 2013

Simon Howarth, Philip Schluter and Caroline Ashley

Diana Noble, Holger Rothenbusch and Edward Farquharson

Evidence heard in Public Questions 113 - 198

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Oral Evidence

Taken before the International Development Committee

on Tuesday 3 September 2013

Members present:

Sir Malcolm Bruce (Chair)

Hugh Bayley

Fiona Bruce

Pauline Latham

Jeremy Lefroy

Michael McCann

Fiona O’Donnell

Chris White

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Examination of Witnesses

Witnesses: Simon Howarth, Technical Director, Mott MacDonald, Philip Schluter, Managing Director, Schluter Ltd, and Caroline Ashley, Director, Ashley Insight Ltd, gave evidence.

Q113 Chair Good morning and welcome, and can I give you a bit of a warning? Because this is a rather short session of Parliament, Members are somewhat divided in their loyalties, so we are somewhat pressed for time and people will be coming and going. We do want to hear from you, but please can we try to keep it crisp, so that we can get to all the things we would like to discuss? First of all, thank you very much for coming in, and perhaps you could first introduce yourselves, just for the record.

Philip Schluter: My name is Philip Schluter. I now own and run a family business called Schluter Ltd. We were founded in 1858. We are coffee traders, working exclusively in sourcing coffees in Africa, and we have a worldwide market that we supply into.

Caroline Ashley: My name is Caroline Ashley, from Ashley Insight. I work on a number of donorfunded projects and programmes that engage with the private sector.

Simon Howarth: I am Simon Howarth, Technical Director in the International Development Division of Mott MacDonald, which is a large consulting firm.

Q114 Chair Thank you very much. The context of this is an inquiry into the changing role of development agencies, and particularly interaction with the private sector, perhaps the possibility of moving away from purely grants to loans, both to the public and the private sector. You obviously are all engaged in the private sector, so that is what we are wanting to explore. You have just done it very briefly in your summary, so perhaps if I ask you to incorporate what you do into the next question, it might get us moving along more quickly.

The question really is: how do you think the Department for International Development could best promote private business and interact with organisations like yourselves? Should they focus on any particular types of business, or is there just a generic, "We can promote private business and its mechanisms", or is it sectoral targets? Perhaps we can work on that. Who wants to go with that first?

Philip Schluter: I will happily go first. I think I have submitted something short and written. From where I sit, I am a very small player in a very large field. One of the frustrations we find, and I think people in our sector find, is accessing appropriate levels of funding which are often relatively small amounts, both for investment in infrastructure but also for working capital. Most of our supply chain are small operators, exporters around the East African and West African zones, and their biggest need is access to small amounts-$10,000, $20,000, up to $50,000 working capital loans, which are almost impossible to access in the current environment.

Q115 Chair That raises a good point. Is DFID capable of doing that, or would it be better for them to find companies like yours with whom they can work? How would it better be done?

Philip Schluter: It is quite easily done if you have very clear criteria for how funding is meant to be used, and a clear reporting mechanism. You could then lend it to companies like ours, who are doing it already and would very happily give very clear transparency and tracking on how funding is used and the impact it is having in the countries in which it is being used.

Caroline Ashley: You asked how best to promote the private sector, and I would probably start first with why. There are very good reasons for a donor organisation to support the private sector, but there are different objectives. Some of them are to do with faster growth and more jobs, and there there are lots of types of private sector that you can go for: labourintensive, investment, SMEs. However, there are also reasons around solutions to poverty, innovation, directly reaching poor people and basic services, what you might call the "better" rather than just the "bigger". If you want to invest in that kind of private sector, it can be small, it can be startup, it can be social enterprise, but it can also be multinational. It is more the fact that it is combining commercial return and social return; it is a different type of private sector, and it is not the mainstream. It is really busy, it is vibrant, it is growing, but it is definitely not the mainstream.

Those are the types of private sector that I would want to flag on the radar; it is not the only one, but I think it is incredibly important, with very high additionality and comparative advantage for DFID, because other people are not doing so much of it. In terms of the instruments, they certainly need finance. We work with about 150 businesses across two programmes, and they are all inclusive businesses. They need finance, but finance is definitely not the only instrument they need. There is an awful lot of technical advice needed to get them to the point where they are ready for finance; there is partnership brokering; there is incubation; there is a raft of things that you need, not just writing cheques.

Q116 Chair I am just wondering whether I can just add another question in before I come to you, Simon Howarth. The impression one gets is that DFID is used to dealing with big organisations and multinationals, and sets thresholds that make it difficult for it to deal with smaller organisations. I suppose the added question is: do you think they could, or should, adjust to be capable of doing that, or does the nature of an organisation like DFID mean that all they can really do is hand it out to intermediates who might do it, whether that is CDC or organisations like yourselves? Even CDC has a very high threshold as well. In other words, is it realistic for an organisation like DFID to reach down to that kind of level?

Simon Howarth: On that last point, it is difficult for DFID, because of the limitations on administrative budgets and the number of contracts they can award, or the number of organisations they can work with, but there are ways around that: working with large organisations in partnership through framework agreements and so on. I think that is possible. On the first question, I come to that from a slightly different perspective, because although I work in the private sector I work mainly on official aid projects, so I am under contract to DFID and other organisations.

Q117 Chair We will have some questions about that later anyway.

Simon Howarth: One of the things we try to do through that is provoke the private sector involvement in a lot of activities internationally. In my case, that is mainly to do with private sector management of water resources, particularly for agriculture. There it is not finance that is the critical constraint, but how to do it. It is the technical ideas that are lacking, the institutional framework, regulations and so on. For that, a lot of support is needed to test new ideas and to get that up and running. Finance will become an issue, but at the moment it is not the constraint; it is the ideas that are a problem.

Q118 Jeremy Lefroy: I will first just declare my interest that I have known Phil for a very long time and worked with Schluter for 25plus years. In a recent speech, the DFID Permanent Secretary said that DFID planned to do a lot more in supporting the key role of the private sector in promoting economic development. What I would like to know first is where you see the finance gap for businesses in developing countries. Phil, you have already identified working capital of $10,000 to £50,000 and so on, but is there more to it than that? Open to anybody.

Caroline Ashley: Yes. I completely agree about the working capital and the small size. I very much agree with what Chris West said about this enormous playing field to be covered, from the startup being bankable, being able to get some concessional money on the way to commercial. I think there is one set of business that can generate a return; it will never be a fully market return but it generates such positive public goods and externalities that it needs some kind of impact investment or some blended finance. There is a big need for incubation, startup, venture capital to get companies on the way.

Philip Schluter: There is a lot of expertise that lies both within the private sector itself and within local banks in the developing countries that they are working with. When I look at the commodities sector, the risks are fairly high and there is a quite difficult risk matrix to handle, particularly for an outside consultant coming in. Therefore maybe to be able to provide funds that could give local guarantees to local banks, who could then lend with the knowledge they have of the sector they are working in, would free up some liquidity withincountry.

Q119 Chair That is just a good sensible model, isn’t it? As long as there is capacity, what you do is strengthen the banks to do their job. As we know, in this country they have almost failed to do it, and in a lot of developing countries they are dysfunctional. It is strengthening that mechanism.

Philip Schluter: Yes. It could be done through the private sector, giving guarantees through the private sector. In terms of whether it is feasible for DFID to do it, I obviously do not know the budget of DFID and how it is divided up in staff time and so on. From where I sit, to allocate more money to staff time, to spend the time to give out smaller amounts of money would give you bigger returns in the end, but also recognise that the recipients have quite a high staff time to track and report the funds they receive. That has quite a high cost for the recipient.

Q120 Jeremy Lefroy: If I could just move on, another thing the Permanent Secretary said was that one of the ways in which DFID was encouraging other nonODA-Overseas Development Assistance-sources of development finance was by sharing risk with private investors to demonstrate that investments can be commercially viable. This seems to me a sensible approach, but is it effective? Can that be done? We are talking here more in terms of not just loans but equity involvement, and the advantage of doing that would be that as well as sharing risks, there would be some kind of reward for the taxpayer as well as the individual business, whereas if you are just making concessional loans, if it does badly the taxpayer loses out, whereas through an equitybased approach the taxpayer would gain some of the upside, which could be reinvested in development.

Simon Howarth: That is good in principle. The difficulty comes when you are dealing with meeting basic service needs. If the MDGs are the target and they are what DFID is aiming to meet, then private sector involvement in poverty alleviation is very difficult to achieve.

Q121 Jeremy Lefroy: We are talking here more in terms that economic growth is poverty alleviation in itself, and therefore that an increase in private sector activity is a good in that it will generate tax revenues, which will help alleviate poverty. It is not talking necessarily about them being directly involved in the areas like health or education or water.

Simon Howarth: Yes, I agree with that, but it is the question of how you get from the growth to the poverty alleviation that is the tricky bit. That is an area where DFID should be paying attention.

Philip Schluter: I am from a very narrowsector, so I apologise if my answers are often related to coffee. Within the coffee sector we are an extremely small player, but we have over 600,000 smallholder farmers listed by name, and pretty much every certification scheme we have that requires transparency at a farm level has an aspect of health care and access to education and sanitation as part of the supply chain certification, so you are reaching the Development Goals simply through the private sector having a more transparent supply chain. There are ways to reach millions of, in this case, smallholder producers across Africa and achieve those targets through very small investments in the private sector.

Caroline Ashley: If I can just add, sharing risk with the private sector obviously makes perfect sense, because they perceive risk as high, so it is a suboptimal investment. The question is how you then allocate the practicality of doing it. It is really difficult to work out where to best put the money, and where it would have happened anyway, and where it should happen. I think it is about having really clear development criteria, and for those I would come back to, "Is it going to translate into poverty reduction?" Because if it is just for investment, there is loads of it out there; how would you ever choose?

Q122 Jeremy Lefroy: Do you have any good examples of where it has worked, and perhaps where it has not?

Caroline Ashley: On an equity investment process?

Q123 Jeremy Lefroy: Risksharing and particularly engaging with perhaps smaller private enterprise-not necessarily just smaller ones, but any clear examples for us.

Caroline Ashley: Yes. We are working with a number of businesses. One is developing a different educational approach for Zambian state and community schools, which is not rote learning but using technology to be more interactive. The entrepreneur has put in a massive investment, but it is really hard going, a very slow slog, so DFID is helping to help it come to fruition, sharing risk. We have some multinationals investing in LPG stoves for the mass market in Nigeria-again, a massive investment, a much bigger investment from the company than any donor would do, but it is helping to bring down the risk and help the company achieve these years of investment.

We have a small Indian company investing in toilets in slums in India, trying to make a private model work. It is very, very difficult, but it is helping to bring down the risk of that. They are all ongoing. I think they are on the way, but I cannot say they have reached it yet.

Q124 Jeremy Lefroy: Those are incredibly helpful examples. Maybe if you could supply us with more information outside, that would help.

Caroline Ashley: Sure.

Q125 Jeremy Lefroy: Just finally, how have you managed to reduce the risk of those, to enable them to happen? What specific instruments have you used to do that?

Caroline Ashley: In the business innovation facility in which I work, we do not provide grants to the companies, although we think grants can be useful. We provide technical assistance that helps them to develop a business plan that is more robust, because the main risk is that you do whatever you can do on whatever shoestrings you have, and then it bumbles along and then it dips. This is about getting a more sustainable business model that will work. Interestingly, however, because it is DFID money, it reduces risk in other ways, because of the credibility and it helps them with their board and their investors, and to access other money. There is a real added value to the fact that it is DFID money.

Q126 Chris White: Small businesses need finance to be made available in small amounts, as I am sure you know. This makes everything more administratively expensive. How do you think this could be managed better?

Philip Schluter: You need to see how much reporting you need and is sensible. I went to a finance conference in Geneva not long ago, in the private sector, with banks talking about how they could make banking finance more accessible to small companies. Wells Fargo stood up and said that they realised that 60% to 80% of the US economy was mom and pop small family businesses that could not access finance because the average form was 16 pages long, and they had to give guarantees. It took them on average six months to have a reply.

Wells Fargo as a bank decided to make the form half a page long, have a reply by computer instantly and did not take guarantees, because they found that in 90% of cases, when they went to call in the guarantee it was no longer there anyway. They increased their interest rate to factor in the default rate they expected to get, and that is how Wells Fargo grew to be one of the largest banks in the US. If you were to take that sort of model you would have to say you would have to make the reporting and forms easier and less onerous. It would make them less onerous for DFID also, and the private sector could work out exactly what key reporting requirements you have.

Q127 Chris White: As with so much of life.

Philip Schluter: There is probably a lot of admin that is there because somebody put it in place, but it actually need not be there. We threw out a huge file in our office once that everybody filled in, and when we went to ask if anyone ever looked at it, nobody had for six months. You can often find that there is a lot of paperwork being done that noone actually ever looks at.

Caroline Ashley: Firstly, you do have to accept that there is a higher admin cost to smaller and more innovative private sector engagement; there just is. However, it is perfectly easy to streamline how it is done. I work in a model where it is a DFID programme. It is not a separate institution owned by DFID, but it is farmed out to private firms that coordinate it, but very much reporting to DFID on a weekly basis. It is very different from the CDC model.

It is run by consultants, in this case it is PricewaterhouseCoopers on the Business Innovation Facility, who are very much used to working with the private sector, so they have certain streamlined processes around due diligence, risk and all that, which I think they are more used to than civil servants. To be honest, over a few years, if you are used to doing these small grants you streamline procedures, and there can be more pressure to do that. I am guilty of designing forms for small businesses and innovative businesses to report to DFID, and I think you have to tailormake it to some extent and not try to get it off the shelf, so it is useful for the business.

Q128 Chris White: Are you finding this a harder process, or an easy process?

Caroline Ashley: Hard.

Simon Howarth: It needs to be an iterative process, and refined as you progress.

Q129 Chris White: Just a final bit: what do you think donors can do to support SMEs, particularly in the infrastructure sector?

Simon Howarth: I would go back to the technical assistance. With the sort of small companies that I have worked with overseas, it is their technical capacity that is the limiting factor. I do not generally see finance being a constraint, but it is their procedures and their technical capacity that are limiting, and that is where assistance should be given.

Q130 Chair We have all seen the wonders of Chinese roads in Africa. It is nice to travel on them, but it is a pity that it is not developing the capacity to build roads by Africans, and their own contractors and so on. Is there more that organisations like DFID could do, or is that really a matter for the Governments of the countries concerned?

Simon Howarth: I think DFID could do a lot, yes, on building capacity of contractors. It is something they do a certain amount, but I think it is very important, and more could be done, and local consultants as well to design the roads.

Fiona ODonnell: Can I just apologise? I am going to have to leave after this question, but I may be able to come back. Can I first of all say that absolutely economic growth should be about poverty reduction, but it is not always? Also, poverty reduction should not be the only measure that we need to look at: environment impact, health impact, etc. I think of a project DFID is funding in Malawi for people to become agents for CocaCola. That may alleviate the poverty of the agent, but what does it do for access to clean water and to the health in promoting sugary drinks? What I am meant to ask you about is: Philip, you provided some evidence about how concessional funding distorts the market in Africa in coffee. This is to all of you: do you think that DFID should give concessional funding, how can it ensure that it is equitable, and what could they do better to ensure that these distortions do not happen?

Philip Schluter: I would say it will always be messy, unfortunately. If you fund one project you will probably always find another project that wished it was funded. I confess I have spent a couple of hours looking at the DFID website on the way down, and seeing quite a few projects and funds available that I did not know existed. I think that is part of it: making more widely publicised what funds are available, so that more people within a sector can have access to them. Maybe going through trade associations, which are related to the sector that the funds are targeted at, would mean there is a fairly wide availability of those funds. Then you can probably get them spread more widely over the recipient community.

There will always be a danger that a funded project is competing with a nonfunded project that was perfectly viable before the funded project came and competed with it. Looking at the coffee in East Africa, there are huge areas that are completely uncovered and untapped, and could do with assistance. It is about making sure that when target funding goes in it does not just set up in an area where there is already a lot of work going on, but targets areas that are not receiving any.

Caroline Ashley: There are definitely times when grant allocations from Governments or donors cause problems for private sector provision. Sometimes that is a good thing, because, hey, somebody may get a free education; that is not a problem. Sometimes it is a bad thing, because people are not being given vouchers to buy something; they are being given the wrong thing, where a market system might work better. You have to take that case by case. Leaving that aside, there are three times when concessional finance can be useful.

One is when the private sector venture can generate a commercial return, though below a market one, but generates real public good. There, it will in the long-term need concessional finance, but it will be totally sustainable if it has it: impact investment, eat your heart out.

The second one is on the way to market commercial finance, but it needs this venture philanthropy, this concessional finance in that journey for a few years. The case for that is clearly made, that there is a transition when you need concessional finance. The problem is identifying what the trajectory of this business is: is it that business that will get there if I provide this?

The third one, slightly similar, is when other commercial finance will come in, but because it is an instable country, because political risk is deemed as high, they need someone to take a lead and to take a risk. Maybe the slightly concessional finance is willing to bear a bit more of a risk, but the rest of the investors will then come in on a commercial basis, and I think all three of those can have high development impact, if used correctly.

Simon Howarth: I don’t think I have anything to add to that. I agree with that absolutely.

Q131 Mr McCann: This Committee has expressed concern in the past about DFID’s ability to bulk up their work in private sector investment areas. The one that springs to mind would be our concerns about the India programme and their refocus on the private sector. Do you think that DFID has the right skills and staff to work effectively with the private sector?

Caroline Ashley: I have a lot of admiration for the way DFID has innovated in this space, and I do think it is ahead of other donors. In terms of leadership, thinking, creativity, DFID has certainly had a very good approach. The daytoday engagement with the private sector takes a set of skills, or a blend of skills, working on development with clear development objectives and working with the private sector on due diligence, risk, contracting and everything. Whichever way you do it, you will need that blend, whether you put development people into a PwC or a CDC or whatever, or you put people with private expertise into a Civil Service Department; it does not matter. You will need that contrary mix of skills, and that is where the best productivity comes, but it is crafting the best way to do it.

DFID has obviously increased private sector expertise, but I still think if DFID wanted to bring everything inhouse and not do it through contractors, it would obviously need to bring in more, because at the minute a lot of it is controlled by DFID, but done through contractors.

Simon Howarth: DFID has taken quite a lot of new staff on in this area, including secondees from the private sector, to strengthen its capacity.

Q132 Mr McCann: You have touched upon it already: is there any way they can improve that interaction with the private sector, or would it be the normal, traditional routes, which would be secondments in and out of DFID to the private sector? Is there anything else you can think of that would be helpful?

Simon Howarth: I think there probably is scope for much closer interaction. It is probably quite difficult for a private company to interact on a daily basis with DFID. If there was a more free exchange of ideas, that would probably help.

Caroline Ashley: I am a development person working with people with private sector expertise, and the people I am working with, I do not see them being mainstream DFID civil servants. They could go and do this private sector work in DFID, but you could not then move them on to running education departments in Uganda, or whatever. Because I would not see them as generic civil servants, some kind of secondment system seems to be the way if you are looking to bring it inhouse, rather than contracted out.

Q133 Chair That just raises a fundamental question: is this an area where an organisation like DFID can effectively expand without causing all the problems the questions are addressing? Is it inherently in the DNA, or can it be built into the DNA of an organisation like DFID that is comfortable in those interactions?

Caroline Ashley: Yes.

Q134 Chair You think it is. That is a fundamental question; I am glad to hear it. So we are not completely wasting our time.

Caroline Ashley: It is about partnership, and I think DFID is up for that.

Q135 Pauline Latham: This is particularly a question to Caroline Ashley. How should DFID measure and assess the impact of its private sector investment? You have cautioned against an excessive focus on jobs in impact monitoring, arguing instead for a less tangible measure that recognised enhanced livelihoods. But isn’t employment a proven way to empower people to pull themselves out of poverty?

Caroline Ashley: Employment is great and it is one very good measure. If you are investing in the private sector to generate growth and jobs, then that is great. But if you only use jobs as your measure, you will then exclude a lot of partnership with the private sector that is very innovative and very important for a lot of poor people, but is not directly employing them. There is a lot of innovation going into working with farmers down the supply chain, where they get better access to finance, to seeds and to markets. They increase their productivity, they increase their security, they increase their investment. It is not really measurable in jobs; certainly the company doing the innovation is not employing them. That is really important and certainly fits with the coffee chain examples.

Then there is a host of others doing some of the things I talked about before: mobile apps for farmers, improved stoves, education, health, sewage, sanitation, toilets. They employ maybe 13 people, maybe 300 people, but they do not increase the jobs very much. However, they might reach half a million people, and for those half a million who get access to something that we take for granted and they cannot, it is really important. That is why I would argue against just having jobs.

Q136 Pauline Latham: So it is not that you are against jobs as one of the criteria, but you are looking at other things as well.

Caroline Ashley: Yes.

Q137 Pauline Latham: Where would microfinance sit with that? If you are looking at letting women, say, have access to microfinance and therefore buying, I don’t know, some goats or a cow, would you count that as a job, or would you count that as, "It is just helping the whole family"?

Caroline Ashley: Different programmes and different evaluators have different ways of defining a job and whether it is a fulltime equivalent, and whether it is direct or indirect. The easiest thing to count is the number of people at the base of the pyramid, the lowincome people reached. That is the easy one that hopefully all of us can do. Then I would qualify it on how they benefit, and in that case it is how many are making some productive investment for their livelihood. You can call that a job if you want to, but I am really interested in how many women get a productive investment out of it that helps them.

Q138 Pauline Latham: Does anybody else have a comment on that?

Simon Howarth: One thing I would be cautious about is, if you are dealing with a situation of smallholder farmers, you might find a small company coming in, renting land, growing commercial crops on that land and employing some of the farmers, but actually some of the others are dispossessed as a result of it. So, from an employment point of view, it might look good, but from a poverty point of view, it might not be so positive.

Q139 Pauline Latham: Obviously, Phil, you have experience from the coffee sector.

Philip Schluter: Most of our supply chains are subsistence farmers who are not employed at all, but you can monitor their increased revenue through the certification schemes and the agronomy that is done with them. That also is difficult to track. Commodity prices are highly volatile. Ours has just dropped to 40% of where it was 18 months ago. There is some very good work going on with smallholder farmers that will give them maybe 30% higher income than they would otherwise have had in the same market, but their actual incomes have dropped by 50% due to the world market in the last 18 months. Again, we need some knowledge of how to measure that impact, but you can increase revenues for smallholder farmers by 30% with very little investment.

Q140 Pauline Latham: Do you think DFID gets that?

Philip Schluter: I have to say, I have had very little interaction with DFID as a whole. I understand they do do some work. We are working with similar organisations in other European countries, some of which do get it and some of which are learning very fast-as I understand DFID is-that it is not so difficult to do once you start doing some projects and see the impact, but you do need a great deal of flexibility in how you do your monitoring and how you assess the impact you have had. I see DFID has a desire to work in unstable and conflict zones. We are working in Goma in DR Congo with smallholder farmers there on a project where we have only managed to achieve half our targets over the last two years. But, in the circumstances we have been working on, that has not been bad.

Pauline Latham: Pretty good, yes.

Philip Schluter: It is having flexibility to recognise those sorts of things.

Q141 Pauline Latham: Did you want to comment on that?

Caroline Ashley: Different staff at programme level get it, but you need flexible, projectspecific indicators. Of course, DFID also needs a few simple indicators to agree with Treasury and to report to people like you. It is the old tension between the specific and the universal. That is where the tension is.

Q142 Hugh Bayley: Is it not important to remember that the use of British aid in private sector projects has, at the very least, a chequered history? I remember when John Major was Prime Minister, there was the scandal of the Pergau Dam, where £850 million of British aid-British taxpayers’ money-was used to fund a hydroelectric scheme, which the then Permanent Secretary of ODA, Sir Tim Lankester, called "a very bad buy" in development terms. Later, it was found that actually the money was a bribe to the Malaysian Government to buy British Aerospace jets. I was introducing a private Members’ Bill at the time to require British aid to be used for poverty alleviation, which was met with howls of derision on the Government side. "How on earth will we support British business if you limit aid to poor people? They won’t buy Land Rovers," they said. So how can DFID, if it goes down this road-which it says it will; which it is-ensure that private sector support remains compatible with its primary objective of relieving poverty in poor countries?

Simon Howarth: The Pergau Dam was a case of very badly appraised budget and I do not think that that sort of project would be approved under-

Chair: To be fair, Hugh, your Government introduced the International Development Act to change the basis.

Simon Howarth: The private sector has environmental principles now that would have ensured that the Pergau Dam was not implemented or was implemented in a much better way than it was at that time.

Q143 Hugh Bayley: But the fact remains that the Pergau Dam was not a way of relieving poverty in a middle income country: Malaysia. It was a way of driving poor people off the land and allowing big farmers to make money.

Simon Howarth: Yes, but you have to have environmental and social safeguards in any project like that. Since that time, there has been the World Commission on Dams, which has recommended wholesale changes in the way that such large water infrastructure is implemented. That has been taken on board by the World Bank and all the major donors, and also by private sector investors, so the Equator Principles apply.

Caroline Ashley: I remember Pergau well; I worked here at the time. I think you are right: there are safeguards now, but it is also a cultural thing about how aid is managed and how we hype it. I have three suggestions. One is to avoid hype about aid and the private sector. I do feel there is too much hype at the minute and, to be honest, that leaves it very open to critics, but it also means that people get a bit carried away with it.

Secondly, related to that, it is still important for development people to be very honest about the negative impacts of the private sector, and not just welcome the areas for collaboration, but be really clear where it is bad for development. They need to ensure that aid money is also spent on minimising negatives and dealing with transparency and sustainability initiatives-all the things that are ironing out some of the problematic elements of private sector engagement in developing countries. That is still needed.

The third, which I think is really what you were implying in your question, is being very, very clear on the objectives of private sector engagement, and seeing the private sector as a means to something, whether it is jobs or whether it is reduced indoor air pollution or whatever. I have been horrified in my work at how, in our team, we really thought we knew exactly what we were doing and why we were doing it and everyone got it, and two and a half years into our programme, we started getting questions that suggested people just did not get why we were working with the kind of companies we were working with. We went back to the drawing board and started trying to explain to people more simply the logic of what we were doing. We have been guilty of not explaining the logic well enough, but I think every DFID engagement, every donor engagement with the private sector, has to be very clear on its logic chain and explain that much more than in other sectors.

Philip Schluter: I would say you have that tension in every wellmeaning organisation that is looking to improve lives and develop things. You need to be very clear on the objectives, be they social, environmental, economic; they are the three pillars we see in every single certification scheme we work with, although they may vary slightly on how they measure them. You need to make sure that you have very clear objectives that are measurable built into any project that you want to do with the private sector.

If you look at Fairtrade, they have just split between the US, who think they should support anyone who will meet the criteria that they have laid out, and the Europeans, who believe they will only work with the poorest of the poor, who they consider to be smallholder coffee farmers. Within an organisation like that, which is extremely ethical and clear, there is still a tension between whom they are willing to work with. But if you have very clear goals and targets-and your private sector need to lay out before you, before they get any funding, how they are going to report on them and meet them-then you will avoid-

Q144 Hugh Bayley: Is it not important to go further than that and say that goals and targets have to be about poverty alleviation? If it is a target about job creation or about growth, you can provide huge benefits for a middleincome stratum without helping the poorest people, who surely should be the focus of our aid. How do you differentiate between what we support from UKTI through, I don’t know, export credits or something like that, because it is good mutually for growth in the UK, and growth in India, shall we say, and what you support through DFID to alleviate rural poverty in India?

Philip Schluter: I would say there is a big danger there. We need a growing middle class in the countries I work with in East Africa because, without one, all the value added is added by international companies who come in and have that ability and infrastructure to fill that gap, provide the finance, buy the coffee from smallholder farmers, process, add the value and take the value outside the country. Unless you can build up a middle class with the finance and ability to do that within the country, your actual economic growth within the country is completely stunted, because it all goes outside. Now, they need to prove that they are working with the poorest and alleviating poverty, but to leave them out of your equation of whom you are willing to work with is an error. It is not difficult to define criteria for poverty alleviation that are easily reportable.

Caroline Ashley: You might have touched upon on the most challenging aspects of future development, particularly of engagement with the private sector, which is defining who is poor. Your 600,000 smallholders quite possibly fall below one of the international poverty lines-1.25 or 2.5-but a lot of private sector engagement will engage with people who are above that poverty line but still below middle class. It is a big strategic decision. Are they people that taxpayer money should be spent on helping? They really do lack necessities. Those international poverty lines are so low. I think it is worth some aid reaching them, but they might not fall below that 2.5 or 1.25. It is a really unresolved issue.

Simon Howarth: I think there needs to be a really well-defined theory of change, so that you understand how you are going to get to these very poor people, however they are defined. We have to decide who you are targeting, but you have to make sure, whatever you do, if it is aimed at a higher level, that it will feed down to poverty alleviation at the bottom.

Q145 Chair: The point we are exploring is, first of all, those countries that have succeeded in lifting most of their people out of poverty have done so by expanding their private sector. Now, the point is it may or may not be because of aid engagement. What we are looking at is whether or not aid engagement can help that process constructively. The other issue we are looking at is the fact that there are a lot of poor people in middleincome countries-and it may be the point you are making-and to what extent we can engage with them and help those countries, if they cannot help themselves, lift those people out of poverty. I think Hugh Bayley’s point is the centre of gravity of the Committee; it is also the legal basis on which we are operating. The fundamental focus of UK aid and development is to lift people out of poverty. It is propoor, but it is becoming more complicated, and I think that is really what we are trying to tease out.

Q146 Jeremy Lefroy: Just going back to this question of jobs, I understand what Caroline was saying about the need to be cautious of an excessive focus on jobs, but the fact remains that, as one of my colleagues has said, jobs or having work-let’s not confine it to formal sector jobs-is probably the single best way of enabling someone to get out of poverty. We are seeing increasing rates of workless people around the world, including in the developed world and particularly among young people. I just wondered how you felt that the British development programme, in its target of tackling global poverty, can be more focused on the creation of effectively remunerated work, because that seems to me probably the single greatest challenge that we face.

Caroline Ashley: I agree with your problem statement. Our Nigeria country manager is adamant that 16 to 30-year-olds are completely excluded, and it is the biggest problem that Nigeria faces. They do not want to necessarily stay in agriculture. I am sure many of your coffee farmers are trying to invest in education so their kids do not coffee farm, which is a problem for coffee farmers, but not necessarily for them. It does bring you back to small and medium enterprise and getting the financial system and markets working for those young people, many of whom have some education, to try to get access to credit and access to something in the local economy. It is not easily solved. It is not my area of expertise, but it definitely does not just rest on agriculture.

Q147 Jeremy Lefroy: This is bringing us back to access to finance and access to credit.

Simon Howarth: I still think that subsistence agriculture will remain essential for a lot of people. I am working in Western China at the moment, which is not a country that DFID is interested in at the moment, but there are a huge number of very poor people there, and it is very difficult to reach them. A lot of them are able to move out of poverty by migrating, and then the local economy relies on remittances, but this does leave some people very disadvantaged still. It is still a major challenge for the Chinese Government, with all its resources, to alleviate poverty in the remoter parts of the country.

Q148 Chair: You all seem to be saying that you think there is scope for an organisation like DFID to do more to help this propoor private sector development and you think DFID is capable of doing it. Do you have any view as to whether that is best done through the currently existing structure-private sector partners-and then through intermediaries, whether it is yourselves or other agencies? Or is it the case that DFID should actually move into the business of providing finance, if that is what it is, in the form of, say, a development bank? Do you have any views as to whether either of those options are or are not a good idea?

Simon Howarth: It is rather outside my area of expertise, but I would have thought DFID should remain one step removed from it. I think it would be slightly uncomfortable moving in that direction.

Caroline Ashley: I think DFID should try to do what other donors do not do: have greater additionality. I think other donors do development banks.

Chair: They do.

Caroline Ashley: DFID has got CDC. Obviously, CDC could move into other spaces, but the effort of setting up a whole new development bank that is somehow different from CDC seems an enormous investment, so I imagine you would need to be really convinced that there was a space for it and it was worth it.

Philip Schluter: I think there are a growing number of people who are filling that gap and doing it quite effectively with good expertise in the market, who could do with more concessionary finance that they can then pass on. It is just a matter of setting up a good reporting mechanism whereby they can report back to DFID, but I would think that understanding that sector and spending some staff time doing that will pay greater dividends than trying to do it yourselves. But I am, again, not a great expert on it.

Q149 Chair: Is there anything else you want to share with us? I can say, obviously, after this session, if you reflect on the exchanges and you have any additional thoughts, please feel free to communicate them to us. You are not required to, but I don’t want you to leave thinking, "Oh, I should have told the Committee." If not, can I thank all three of you for the different perspective you have brought to us? I hope you can see from the exchanges what we are trying to tease through in terms of how things would change.

I don’t think it is out of order, but we had an interesting session with the President of the World Bank and did ask him what he thought about DFID moving into having a development bank. I expected him to say, "I think the world’s got plenty of development banks. It doesn’t need another one and we’re quite a good one in the World Bank." But he said quite the opposite. He actually said, "I can’t think of any organisation better equipped to do that, and we’re going to need all the support we can get."

So, to my surprise, he was quite positive about it. But you have also hit on the fact that it is not something you can do overnight and, in any case, you probably need a mix of instruments. It is not as if providing loans inhouse and developing a development bank are mutually exclusive. You can do one without the other, or you could do them in tandem, I suppose. That is really what we are trying to explore. If you have any further thoughts on reflection, we would obviously be very happy to hear them.

Caroline Ashley: In response to that, I would say the key thing is not just to think about finance. Finance is needed, loans are needed, but there is so much else that particularly DFID can do, because it understands the issues: brokering, innovation, partnership, technical support.

Chair: Well, obviously you put some of that in writing. If you have any further thoughts, please feel free to communicate.

Q150 Jeremy Lefroy: There was just one thing I wanted to mention that came out of DFID’s response to our report on global food security, in which I thought DFID did not get it because one of their answers was that they did not believe that agricultural extension, for instance, was of any great importance. Given the history of this-and I understand it is a very chequered history-I thought that was a pretty sweeping statement, so I was rather concerned to hear DFID say something like that.

I wondered if, perhaps, any of you could comment on that, given that the biggest area of creation, of improvement, of maintenance of employment and jobs around the world is in agriculture, particularly smallscale agriculture. Would not agricultural extension be something that was fairly logical in terms of training? You just talked about that and now DFID seem to be saying, "Actually, we don’t think that’s particularly important, certainly not as provided by Government-maybe the private sector, but not as provided by Government", which was contrary to our views as the Committee.

Philip Schluter: I would guess there is a fairly large correlation between countries that have managed to bring the bulk of their population out of poverty and the yields they get on their major crops. If I look at our sector, very basic agronomy help on a smallholder section-coffee-can double yields within a year. Yield is a bigger determinant of income than the world coffee price, which can double or treble overnight. Therefore, basic extension services in agriculture have a huge, huge impact on poverty alleviation. To leave those aside would negate some of your major aims.

Caroline Ashley: In the projects we work with, we definitely see agricultural extension as important, and the weaknesses in state provision of extension are causing problems and leading to private sector actors stepping in to fill those gaps.

Simon Howarth: Agricultural extension has had a very chequered history; it is certainly true. The most successful extension has been done by the private sector, but I think that does leave out some people again, and there are ways of improving agricultural extension. The FAO Farmer Field School approach is very effective, and that sort of approach should be encouraged.

Q151 Chair: That is something the Committee will continue to take an interest in, and if we did not, Mr Lefroy would make sure that we did. You made a very important point that raising agricultural productivity is a key way of getting people out of poverty. Thank you very much indeed; it is much appreciated. It has been a very useful session.

Examination of Witnesses

Witnesses: Diana Noble, Chief Executive Officer, CDC, Holger Rothenbusch, Managing Director, CDC, and Edward Farquharson, Executive Director, PIDG Programme Management Unit, gave evidence.

Q152 Chair: Good morning. Thank you very much for coming in to see us. In the case of CDC, thank you for coming in again. I think you were all sitting in on the previous evidence session, so you will have some idea of the context. Again, just for the record, I wondered if you could formally introduce yourselves.

Edward Farquharson: I am Edward Farquharson and I am the Executive Director of the Programme Management Unit of the PIDG-the Private Infrastructure Development Group.

Diana Noble: I am Diana Noble. I am the CEO of CDC and have been since November 2011.

Holger Rothenbusch: I am Holger Rothenbusch. I am Managing Director at CDC, responsible for debt and structured finance.

Q153 Chair: Thank you very much. In the context of the inquiry we are doing-the future of UK development cooperation, the role of loans and finance in particular and the engagement with the private sector-you would absolutely expect us to want to talk to CDC about their role, and indeed PIDG, which has developed a remarkable track record in many ways. First of all, just to put the thing in context, as we expand the engagement of the private sector, could you just tell us what you think at the moment are your key instruments, both for PIDG and for CDC? What do you think they have delivered so far? Then we will explore how they might or might not change. Perhaps start with PIDG first.

Edward Farquharson: We focus obviously on infrastructure-that is our core area-and we do that by providing longterm finance to projects that have what we call reached financial close; in other words, they now need the money to build the infrastructure. But we also provide finance and support at the very early stages of project development. In a sense, we were designed to try and support those blockages that are stopping infrastructure projects going forward with private sector investment throughout what we call the project development cycle.

We measure the impact of what we do quite closely. One of our key metrics is the amount of private sector investment that we can attract with the public money that we use to put into those projects. To date, that is about $28 billion. So, for the $1.5 billion that goes into the projects that PIDG facilities supply, there is $28 billion of cofinancing that it has attracted with it into getting those projects going. But it is not just private finance that we measure. We also measure jobs. We also measure the fiscal impact for Governments and, finally, we also measure the number of people who actually benefit from new or improved infrastructure. I am happy to go into the statistics on that.

Q154 Chair: Are you continuing to attract new donors as contributors?

Edward Farquharson: Interesting you should ask that, because we are in discussion with one at the moment. But it is a question we treat very carefully, because one of the reasons why PIDG works quite well is that there is a strong alignment of purpose and approach amongst our members, so we would not just go out and try to get any member.

Q155 Chair: CDC?

Diana Noble: CDC’s goal is to reduce poverty across all of Africa and South Asia, and we are one of the tools that DFID uses to achieve this. More specifically, our mission is to support the building of businesses to create jobs and make a lasting difference to people’s lives in some of the world’s poorest places. We have made big changes since I joined, and if the Chairman feels there is time later, I would be happy to update the Committee more fully because it is now 15 months since I was last in front of you, and there has been much progress.

So I will limit my comments to three points. Firstly, we have refocused ourselves on development impact and our targets and compensation are all aligned around those. I can talk much more about it, but, in essence, we want to be a DFI with a capital "D". We have also moved away from a narrow provision of capital to private equity funds, and we now provide all forms of capital directly and indirectly. I have brought with me today Holger Rothenbusch, who heads the new debt and structured finance team at CDC. His experience is particularly relevant to today’s discussion because he joined us from DEG, and so can talk with experience about the German model of running a DFI, which is DEG, alongside a development bank.

Chair: We have already taken evidence from them as well.

Diana Noble: The third point I want to make is: one of the most exciting things about our new strategy is the ability it gives us to work more closely with DFID. Of course, DFID themselves are assessing their strategy for the private sector and we have to wait for this to conclude, but we are already exploring opportunities to collaborate for the benefit of those living in poverty across Africa and South Asia. Having said all of this, CDC of course is not designed to solve all development challenges; we are just one important part of DFID’s strategy to harness the power of the private sector to alleviate poverty.

Chair: We would like to hear more about the changes, but that is precisely the question I am going to ask Pauline Latham to come in on.

Q156 Pauline Latham: You touched on the fact that you have changed since our report in 2011. Can you tell us exactly how you have changed, and how your operating model has changed? Obviously, we said that CDC should do more to reduce poverty, especially in the world’s poorest countries. Can you explain how you have adapted to that challenge?

Diana Noble: Yes, of course. Let me start with activity levels since last year. Activity levels are running at a very encouraging level. We have been extremely busy this year, and we are actually ahead of where we expected to be. During 2012, we made nine new commitments, or investments, for $232 million and this year we are expected to be over 30 for over $1.1 billion. Clearly, we are not at the end of the year yet, but that is where we are expected to be.

This growth is driven by the two teams we started from scratch last year: one to invest equity directly in businesses, and the other to provide debt and structured finance. But, of course, just making investments does not fully realise our mission. We have to make the right investments, and those that maximise the prospect of achieving development impact while making a reasonable return. Then, over time, we need to achieve that impact, measure it, show it and get our money back for the return.

The last two, obviously, will take years to achieve, but what we can do is demonstrate that the investments we are making are well matched to our mission, which is to create jobs especially in the hardest places. With the help of Stefan Dercon-DFID’s Chief Economist-and some other economists and academics, we have created an ex-ante tool that helps direct our capital to those opportunities that have the greatest chance of creating jobs and also incentivises us to invest in the harder places rather than the easier places.

That means we actually now turn down lots of opportunities that we see to invest where we do not believe that the impact will be sufficiently high. This tool is also linked to our long–term compensation, so we are all aligned with genuinely achieving impact with our capital. Already, this increased activity, focused on Africa and South Asia and away from the rest of the world, is shifting our portfolio. At the beginning of last year, 46% of our portfolio was outside of our new focus geography, and only 36% was held in Africa. By March of this year, Africa had gone to 48% and historic geographies had shrunk to 29%. We expect that trend to continue in future.

I will just give a couple of examples of things we are doing. We have invested $32 million in Indorama, which is a Nigerian fertiliser production facility that turns flared gas into fertiliser in the Niger Delta. That will bring, we hope, in time, improved agriculture yields in Nigeria and self-sufficiency in fertiliser production in a country that currently imports 95% of its needs.

We have invested $17.5 million in Rainbow, a children’s health care chain in South India. It is a centre for excellence in paediatric training and development and we expect it to create as many as 3,000 jobs and raise standards nationwide. We also invested last year $32 million in ETG, an African agri-business company with operations all across the continent. It connects hundreds of thousands of smallholder farmers to the international market through its network of distribution and processing centres.

We have got a number of other direct investments in the pipeline including a green energy infrastructure business in India, a power generation and distribution company in West Africa and a farming operation in DRC. All these deals are just examples of the type of challenging, commercially sound but job-creating opportunities that we want to be known for under our new strategy.

Q157 Pauline Latham: That is very encouraging. You said that you are often invited to invest in areas that you do not feel will have a big enough impact. Is somebody filling that gap; is there an organisation taking on those less risk-averse opportunities?

Diana Noble: Yes. In some cases we say no, because we actually think that the private sector is perfectly capable of funding something. We sit around the table with every single investment and say, "Is this developmental enough? Is this something that someone else’s capital could do better than us? Is it something that we are genuinely bringing value to? And, of course, ultimately, is it going to be commercially sound so we protect our balance sheet?" We ask ourselves those hard questions on every single investment.

Q158 Chair: In our report on the organisation, which I think has led to some of these changes, there are a couple of things we ask for. One is more direct investment of a smaller scale. I wondered if you could give us an indication of how far down your direct investments are. The other thing we suggested was splitting the organisation, as you will recall, which I think the Government did not do, because we also thought you should take more risk. The counter-argument was, "Well, of course, if you were taking too much risk, you wouldn’t attract other investors." You have given us a very impressive list but, given that you are going towards difficult areas and presumably taking more risks, what impact does that have?

Diana Noble: Of course. Let me answer the first question on small finance. Our strategy is designed to get appropriately priced capital to all levels of African and South Asian countries, or economies, to small-to micro, actually-medium and large enterprises. SMEs are incredibly important in our strategy. We know it is one of the areas that we can be most additional, and 460 of the 1,250 companies we support today are SMEs, which is quite a big proportion. But we also do not think they are the only way to create employment or balanced economies. We support microenterprises through our microfinance strategy. We support financial institutions, because local banks are very well placed to assess and lend to their networks of small businesses. We support medium and large businesses and we finance the construction of essential infrastructure. All these things are badly needed in the regions.

That is on the small side. On taking more risk, I believe that, with the changes, we have taken on board the need to take more risk across all our strategies, but we have also started a new approach to think about getting capital into the really very hard places. So we have a frontier strategy and we have hired a very small team to start looking at some of the very hardest countries. They are starting with North Nigeria, South Sudan, Myanmar and Nepal, and they have taken a look at what approaches have and have not worked before in very hard places. We expect, over time, to increase the amount of capital that goes to these places because of a proactive strategy, although, of course, this will take time.

Q159 Hugh Bayley: You talk about doing partnerships with local banks in Africa. Certainly, generally speaking, I got the impression that local banks are not good partners for small and mediumsized enterprises. They are very reluctant to lend. If they do lend, they are very inflexible in terms of conditions, and the interest rates they charge are extremely high. Can you give us a couple of examples of where you have made a partnership, and what difference your partnership has made to the availability or attractiveness of finance to small business?

Diana Noble: Of course. I might pass this question to Holger because this is his area.

Holger Rothenbusch: One of the examples, which happens to be one of the oldest investments of CDC in a different guise, is a company called DFCU Bank in Uganda. It was cofounded by CDC in 1964, together with the Ugandan Government, so it has gone through different incarnations. During the last years, it was very much operating as a commercial bank. Over the last 10 years, CDC owned 60% of the bank and we, earlier this year, sold 45% of that 60% stake, partly to Norfund, our partners from Norway, and partly to Rabobank.

Through doing that, we have achieved several things: we have introduced a technical partner with Rabobank of the Netherlands, which is one of the biggest banks, among others, and is very strongly focused on agri-business, which in particular in East Africa and Uganda is a very important sector. Rabobank is going to support the bank in terms of designing products that are designed to enter into the rural areas to provide agri loans to local farmers more appropriately than could have been done so far.

We are also in conversations with the bank at this point in time to provide debt funding to the bank, in order to be able to continue serving their main customer segment, which is SMEs. If you look at most African banking sectors, it is such that you have stateowned banks that are very much financing state-owned business and are largely subscribing to T-Bills and such things, so they are not very effective in lending locally. Then you have the international banks, most of which are indeed focused on either international corporates or local blue chips or, then again, invest in T–Bills. They do treasury; they do cash management services; they do not take risk.

Then you have the midsized, local, private banks. That is where lending really takes place because the other segments are pretty much dominated by these other segments, so they really have to go to these markets. DFCU is a very good case in point. DFCU is the biggest provider of SME finance in Uganda and, through the continued support by people like CDC with the new lines of credit that we now make available, it will continue to be in a position to do so.

Q160 Jeremy Lefroy: Could I just have one followup on CDC? One of the other things we mentioned in our report was recruitment and remuneration of CDC. We said that we did not think it was necessary to pay extremely large salaries to attract the best people. We thought that the work CDC was doing was sufficient to do that. I wondered if you had made any progress on that.

Diana Noble: Yes. One of the first things I did when I arrived was to completely overhaul the remuneration framework. We make it very explicit: if you are the kind of person for whom personal financial gain is your prime motivation, CDC is not a great place for you. That is not a value statement; people have to earn money at different times of their lives. But if what you are really interested in is using your skills and your investment skills to achieve impact in the countries where we work, we are a great place.

Obviously, it has taken a lot of effort to shift it from where it was to where it is now, and we did not keep all the people that I inherited, but we have made great steps in rebuilding the team around the new remuneration framework. I inherited 45 people at the end of 2011; 30 of those are still with us. We recruited 30 new people last year and expect to recruit a further 45 people this year. These are the people who are responsible for the increases in our activity levels that I was talking about. We expect to continue to grow next year, probably a bit more slowly. Even at these numbers, CDC is the most effective of the large European DFIs. Proparco, for example, has the same size balance sheet and has nearly 200 people. We are still working at a level well under that. We should be at 100 by the end of the year.

Q161 Jeremy Lefroy: Thank you. If I can just move on to PIDG, when we spoke during our infrastructure inquiry, we recommended that DFID should increase its funding to the PIDG. We saw it as an effective tool, and particularly thought that it should be extended to the agricultural sector, where infrastructure need is particularly acute. Could you perhaps update us on that?

Edward Farquharson: Yes. In agriculture, it is a small part of our portfolio; it represents about 2.5% of our total investments to date. What we have done following the strategic review that we conducted with our members last year is to decide that agriculture is a frontier sector that we do need to concentrate on. What we have just completed in the last month is an extensive scoping review to see how we should engage with or do more in the agricultural sector. That is not to say that we are not already doing stuff there, but we are looking at how we can do a lot more. That is actually being debated amongst the donors as we speak.

The interesting findings from that report were that, when we look at Asia and Africa, there are very different approaches that need to be taken. For example, we have discovered that the need in Asia is very much around value chain investment. It is not at the primary agricultural level; it is at investing in things like logistics, markets, storage. That is a strategy of our InfraCo Asia facility, so they are going to continue doing that, and they are already looking at a number of projects in that sector.

With Africa, the situation is a bit different and a bit more complicated because the primary need for infrastructure is really at the farm level. What that means is that one has to assess not just infrastructure risks but actually farming risks. That brings with it a load of questions about being very close to understanding what those risks are. The other issue that has come out from that, interestingly, is that the type of input-the type of finance-needed in that sector in Africa is really incremental equity or patient equity finance, which is a rather different product from, say, the project financing that we use for say largerscale power projects in many parts of PIDG.

We are now debating with ourselves what is the best way to take this forward; how can we make sure that the boards are equipped with the right sort of skills? At the same time, we have taken on board AgDevCo, which is a specialist provider of finance to smaller agricultural businesses in Africa. That is now what we call an affiliate of PIDG and, through the PIDG Trust, DFID have put some additional finance into AgDevCo. So it is a work in progress; there is more to be done.

Q162 Jeremy Lefroy: Just to answer the question about DFID increasing its funding of PIDG, have they done that?

Edward Farquharson: Yes, they have very much so. They approved a business case for a multiyear core funding programme of £477 million for PIDG.

Q163 Jeremy Lefroy: How many years is that?

Edward Farquharson: That goes through to 20142015-so 2011/12 through to 2014-15-and they have so far disbursed to PIDG about £230 million of that £477 million. It is obviously programmed to come in over a number of years. They have also built into that a contestability mechanism that means that, if you do not perform as a facility, you get a reduction in the amount of funding they are anticipating providing the facility.

Q164 Jeremy Lefroy: As I understand it, PIDG has a revolving finance element, in that PIDG is there to, if you like, sell the ideas-the project-on for a fee, which it can then reinvest. There must come a time therefore, when PIDG has sufficient money from DFID in it, because it has been getting money back from the projects that it has been working on, that it does not need further DFID funding, provided it is at the kind of expanded level we had envisaged. When do you think that will happen?

Edward Farquharson: One has to disaggregate PIDG into its different facilities. You are quite right that two of the facilities are exactly doing that: they are taking early stage risk, developing projects and then seeking to sell them on. But it is not the only activity that we are involved in. I would say that, in terms of that particular activity, we are still quite a long way from that becoming a self-financing, sustainable model given the early stage risks that are involved in developing up projects. We are just getting to the stage now where we are beginning to sell some of those projects and get an idea about how much money we are getting back from the money that has been invested.

But your point is very well made because, in the other facilities, particularly the financing facilities that are lending senior debt to projects, those projects have been around for some time. So EAIF, our first financing facility that began in 2002, is seeing repayments from its loans and it is recycling those in new loans to new projects. But given the scale of the problem-we estimate there is probably about $13 billion per annum of private sector remunerable funding requirements, so to speak, in our markets-there is a lot more that can be done using the PIDG model to address that.

Q165 Jeremy Lefroy: Finally, does PIDG-or through its affiliates-ever take equity stakes rather than just make loans, so that if the project happens to be very successful in the long term, it can actually make a lot of money back? Also, supplementary to that, is PIDG working with CDC, because obviously there are certain investments, particularly if you go more into agriculture and infrastructure, that are precisely the kind of investments we think CDC should be making?

Edward Farquharson: Yes. Certainly on that last point, we, in fact, are cofinancing the fertiliser plant project in Nigeria, so we would like to do a lot more. Our facilities seek to cofinance with other players and, as CDC moves more into direct investment, we will be seeing much, much more of that.

I think your earlier question was about equity.

Jeremy Lefroy: Yes.

Edward Farquharson: We do make equity type investments and those are made by our project development companies-InfraCo Africa and InfraCo Asia-because equity, as opposed to debt, is the only way in which you can structure that sort of early stage funding into those sorts of projects. You cannot lend to projects that basically do not yet exist-they are a concept on paper. You are quite right: taking early stage risk requires the right financial instrument and that is equity. So potentially, yes, we will-in fact, we have sold on a number of those investments where we have made more than we invested, and we will recycle that into developing new projects.

The other facilities-for example, the Emerging Africa Infrastructure Fund-does not provide equity; it provides senior debt, so it will not be doing that. But what we are doing is looking at where we can push the frontier of that sort of activity by making mezzanine finance, where you will have what we call an equity kicker, so you do take very high risks, but if things go really well, you can get a higher return as a result of that.

Q166 Jeremy Lefroy: Would it just be possible perhaps for this Committee to have a list of projects in the last two or three years financed by PIDG and the financials together with them, so that we can see the kind of work that has been done?

Edward Farquharson: Absolutely, yes. In fact, we publish all our projects on our website on our project charts, so that information is publicly available.

Jeremy Lefroy: It is all there.

Edward Farquharson: If there are any questions around that, I would be very happy to amplify those.

Q167 Mr McCann: Can I ask a broad question? What type of assistance is most helpful to the private sector in developing countries, in your opinion?

Diana Noble: We have seen a lot of evidence in the short time that I have been at CDC for the need for finance across the spectrum. One of the things I have been very surprised at is how quickly our new teams have been really overwhelmed with opportunities to look at. But then, of course, the statistics show how much there is a need for finance, again, across the spectrum of different types of companies.

The World Bank did a study that says that between a third and a half of all businesses, large as well as small, say access to finance is the major obstacle in subSaharan Africa and South Asia, and access to long-term finance at reasonable rates remains a particular problem. The difficulty that small companies have raising finance is no surprise. More of a surprise is the fact that a third of large African companies also struggle. But I do also agree with the comments made on the previous panel that the need is not just for money: it is for support; it is for human capital; it is for a broad array of things as well. To limit ourselves just to the need for capital is a bit short-sighted.

Q168 Mr McCann: But what would be the most popular? Would grants, loans, equity or technical assistance be top of the hit parade in terms of what the private sector is looking for in these areas?

Diana Noble: There is a need for all. The important thing is to target the right things at the right things, and to be genuinely marketled. One of the issues is that you have a spectrum of need here with different instruments for different things, and actually they are relatively close to each other and you can get confused about the different needs of the different things. I am sure that we will come to talk about it, but if you set up different institutions, providing capital at rates very close to each other into the same market, that is a recipe for confusion.

Q169 Mr McCann: Should DFID offer a broader range of bilateral financial instruments, including concessional loans, and should in your opinion concessional loans be offered to both the private sector and the public sector?

Diana Noble: I will not talk about the public sector; I will limit my comments to the private sector because that is all that CDC does. As I said, determining exactly what is concessional and what isn’t is not an exact science, and it can be very difficult to prove. It is a grey scale without a clear dividing line. We at CDC cover the whole spectrum, and a great deal of what we do is concessional in some sense. We provide capital to support market segments that other people find very difficult because the risks of failure are so high, such as supporting SME funds in hard countries and providing longterm debt for building manufacturing plants, for example, on terms that are different from those that commercial banks will provide.

Our equity can be more patient than fully commercial equity. But, of course, we have the whole portfolio to manage responsibly and so some of what we do also supports the development of fullyfledged, efficiently-working markets that efficiently price and allocate capital. It is a difficult balance. We want, as an organisation, to be additional and to provide concessional finance and we think it is a good thing. But, on the other hand, we do not want UK taxpayers’ money to be used purely to enhance the returns of those in the private sector. That is the hard balance we live with every day, and it is not the balance that everyone offering concessional finance deals with very well.

Edward Farquharson: I agree with those comments, added to which I would say that one of the requirements is the need for local currency funding. Very often, our projects in particular generate revenue in local currency, so they do not want to be exposed to the mismatch between hard currency and local currency exchange rates. As a result of that, one of our facilities, GuarantCo, provides guarantees to enable local financial institutions and local investors to invest local money in projects, so that that exchange risk issue is taken away from the project.

I certainly go along with the points made about them obviously looking for longer tenors of finance because, if one thinks about it, a longer tenor of finance means that you can spread the cost of the project over a longer period of time, which makes it more affordable, particularly to poorer people. At the other extreme-extreme versions of concessionality-quite often, or sometimes, these projects need support in terms of capital subsidy or in terms of outputbased performance payments. So there are these other tools that can be used to make projects affordable to the citizen, as well as obviously taking greater risks than the private sector alone is able or willing to take to make these projects happen.

Q170 Mr McCann: My final question would be: could DFID attract new investors in developing countries if, for example, they were prepared to absorb some of the risk by offering guarantees? What is your opinion on that?

Edward Farquharson: Following on from the comments made in the last session, they could, but it is a question really of how they do it and how best to do that. In a sense, in the infrastructure space, that is what they are using PIDG to do. Obviously you need to assess the credit risks and, of course, manage the portfolios afterwards once you have made guarantees available to projects; sometimes they get into trouble and so one needs credit skills to manage those sorts of situations. Using a specialist delivery vehicle like PIDG or CDC or whatever is the way to use DFID money to do that, rather than perhaps directly doing it with their own personnel.

Diana Noble: In theory, offering guarantees to the private sector to allow them to do more is a great idea. You do have to be careful about two things. You have to be careful that you are offering it into a market that clearly would not function without that guarantee, otherwise obviously you are just boosting people’s returns. There is great demand for it; I can guarantee you that. Secondly, concessional finance must help to create that market within a reasonably definable time frame, and the concession must have an exit strategy that is ideally underpinned with a sunset clause or something like that, which is explicit to all parties and applied in a disciplined way, so that if that functioning market is not happening in time, the money is withdrawn. Otherwise you support that for ever and then you are wasting taxpayers’ money.

Q171 Hugh Bayley: I see that you are providing some nonconcessional loans. Is there not a danger that you will crowd out private finance and distort markets? Can you explain what sort of project you would provide non-concessional finance for? What is in it for you and what is in it for the borrower?

Diana Noble: As I say, exactly defining what is concessional and what is not is not an exact science and, in a way, everything that we do has some concessionality around it. As I say, for everything we do, we sit around the table and say, "Is this better done by someone else?" or "What value-added are we bringing?"

Q172 Hugh Bayley: Can you give an example?

Diana Noble: Yes, I will give you an example. There is an investment we are about to make in India-I cannot mention it obviously because we have not made it yet-in a business that is creating the ability to link the manufacturers of apparel and goods with the market. It is effectively an ecommerce business, but it is a very early stage one that has huge losses and huge risks. If it is successful, the job creation, both in manufacturing and in delivery, will be enormous and gamechanging. This is something where some financial people will take the risk, so you could look at it and say, "This is a financial investment."

We made the decision to get involved with it not only because of the jobcreating ability, but because we have a particular emphasis on high quality jobs. We went to the company and said, "We want you to improve the quality of jobs down your supply chain, and we want to work with you to do that." Now they could have said, "We are a commercial company. We don’t really mind. We just want to make the most money we can." But they actually said, "Yes, we do want CDC. We’re really interested in doing that and we will work together with you to do this." There is going to be a lot of work and a lot of effort to do it. So you could look at that investment and say that is concessional. I would say that it is hugely developmental, even though, from a capital-only view point, it is reasonably commercial.

Q173 Hugh Bayley: Earlier, when describing some of your projects, you went through a sort of gas to fertiliser project in Nigeria. I got that. But you also described what sounded to me like a paediatric training project in India, and I was rather surprised that that was something that a very well-endowed state like the Government of India was not doing itself.

Diana Noble: This is private sector, so this is not a Governmentfunded hospital. This is an entrepreneur-backed one, so it is an entrepreneur who has got it to a relatively early stage; he only has one site at the moment. He wants to take this centre of excellence and grow it over the next 10 years. He wants a partner who is not going to rush for the exit in three years, as a private equity group would do, and who is not going to say, "We don’t really care about quality of care; we want the returns to be very high." They came to CDC and said, ‘You’re a really good partner for us in expanding this hospital across Southern India and treating mothers and children across India, but doing it in a high quality and patient capital way. That is why it is a really good fit for us. They want patient capital and there is not a lot of patient capital in India at the moment, where money is flooding out of and not into India.

Q174 Hugh Bayley: Where is the propoor dimension then? How is it improving the welfare of the children of landless peasants?

Diana Noble: The jobcreation opportunity in hospitals covers the whole spectrum. Of course, you have highly trained doctors and nurses, but it goes right down the spectrum. The plan is to create 3,000 jobs. One of the things that our ex-ante tool does that I explained earlier is direct our capital to sectors that we think are more jobcreating rather than less jobcreating. Over time, you should see that if we had invested just in a basket across GDP equally, we would have created a certain amount of employment, but with this tool we will create much more. We think the need for jobs is so great in our countries that focusing on our priority sectors like manufacturing, agribusiness, infrastructure and including health and education, which can have the same effect too, is going to be hugely developmental in time.

Q175 Hugh Bayley: Can I ask a wider question of both institutions? If DFID were to start to manage concessional loans without setting up a separate institution to do it, what skills would it need and what sort of people would it need to recruit to manage programmes of that kind?

Diana Noble: It is an obvious comment that running a development bank is very different from running an aid and government advice programme, which DFID is extremely good at.

Q176 Hugh Bayley: I am a bit slow. Why is it so very different? Please explain.

Diana Noble: It is hard to offer genuinely concessional finance strategically, which is what you have to do, and also to achieve the impact you are looking for over the long term and not lose your shirt. The margin for error is very low. If you lend at 0%, you clearly have a zero margin for error on failure. Everything has to get its money back for you not to lose your shirt. If you lend at 1%, you can take on a 10% failure rate. The write-down rates for banks in Europe over the past decade will have been a lot higher than 10% or 20%, so this is challenging stuff and you need high quality strategic and commercial skills to precisely execute strategy.

Edward Farquharson: Following on from that, we find that you can divide it down even further. If one looks at infrastructure, say, the skills needed for providing finance at the very early stage of a project’s life are actually very different and distinct from the skills needed to make senior debt loans to projects. What is telling us is that there is a high degree of specialism going on across the project lifecycle in our sector. To have that in one institution, even if it is a private sector institution, would be quite challenging, so it comes to this point about specialism.

The only other point I would make about that is that we often talk about making loans and making investments. It is also about getting them back and, therefore, the skills needed to manage those portfolios and negotiate the issues where they arise during the life of the assets are equally important.

Q177 Chair: I want to ask a question and I want to ask it starkly. What we are looking at is how the development model is changing away from providing grants to governments and agencies for the poorest people in the poorest countries, which in the last 15 years has been the fundamental DFID model and it is very simple. We now find that more and more of the poorest people are not in the poorest countries. To take India as an example, we are ending our grant aid relationship, but there are still 400 million poor people, so we are exploring what different kinds of relationships we have. That is the context in which we are asking the question, "Should the UK have a development bank?" That is the question.

Before you answer that, the second thing to say is we get that you do not set up a development bank next week and have it operational. We accept that, if you are going to move away from grants to loans you are going to have to have some kind of loan window which you can manage more simply and more quickly. The evidence we have had is that those countries that set up that kind of loan operation ultimately transformed it into a development bank. The question is: should we be thinking about a UK development bank and, if so, what is the transition? If not, how would the mechanism work that still provides-if I can quote India as a shorthand-for a relationship with India that is moving away from a traditional grant aid relationship? That was a question for both ends.

Diana Noble: Maybe I can make some comments about things to think about. It might be helpful for Holger to talk about the evolving relationship in Germany between the different institutions, because that has been instructive. This is clearly a question for DFID, and I don’t know where they want to take their private sector development strategy. I do think a development bank could be an important part, but not obviously at the expense of retaining a significant aid budget. There will always be areas of public sector good that can only be funded through grants.

Thoughts on execution are very important, because execution is actually the key. It is so important to do it well, because otherwise you are wasting money that otherwise could support girls’ education or vaccination. These are programmes that DFID do incredibly well at the moment. I do think strategic focus matters. If a pool of money is clearly directed at a specific market failure, like PIDG or MIGA, which is another great example, then it can work very well. I think a scattergun doanything mandate could do more harm than good.

The second point I would make is on pace. It really takes time-and we are living this at the moment-to scale up teams and strategies. The history of CDC shows that the biggest disasters happened when CDC rushed into a market too quickly, without really understanding what worked at small scale and before accelerating investment over time. One of the big challenges will be to resist the temptation to give a new team a big pot of money and incent them to spend it quickly.

The last thing is about the need for cooperation. I do not think it is for me to answer who should do this, but regardless of who does, we at CDC would be extremely cooperative, constructive and helpful. If it is outside CDC, though, it would be very important to have absolute clarity of mission between the two organisations to avoid confusing the market and creating unhealthy competition between teams. This comes back to strategic focus. I do not think it really works to have two organisations offering differently priced capital to the same clients.

Q178 Chair: Is that an argument for saying that, if we did go down that avenue, we should develop it within CDC, which is an existing institution? I appreciate you have to keep clear lines of demarcation so you do not confuse the product, but you do have quite a lot of expertise.

Diana Noble: It still could happen outside CDC, but there would need to be a huge amount of cooperation and clarity between the institutions.

Q179 Chair: If the view was to set up a separate institution, you could live with that as long as it worked cooperatively.

Diana Noble: Of course.

Q180 Chair: From a PIDG point of view, is it relevant to you? Would it matter either way that DFID is developing loans and potentially a financial institution like a bank, going more than a year or two ahead, obviously?

Edward Farquharson: Yes. The point about being very clear about its mission is important. For example, in a middle income country like India, you could be asking two questions. You could be asking the question about, "Should we be solving the problem about cyclicality and the constant availability of very long-term finance for infrastructure projects, which particularly matter to us?" You see very successful examples in the world like the European Investment Bank operating within Europe doing that. We saw that in 2008 and 2009, how they stepped into the breach to ensure that there was a continued flow of long-term finance. You could see that sort of issue in a country like India. Indeed, India does have institutions like IIFCL and so on. There are a lot of acronyms, but there are institutions focused on trying to mobilise long-term finance within the domestic market.

Then you could look at the other area, and that is that it is perhaps not so much a focus on providing stable long-term finance but about doing difficult projects in difficult sectors in difficult parts of India. Indeed, a focus that we have in India is on the eight poorest DFID states, so we do not do anything outside of those states. In which case, that institution would have more skill sets around making these very difficult economic decisions about concessionality, and less about only financial structuring how you catalyse long-term bond financing or private sector debt financing.

Q181 Chair: Both of you are talking about either private sector funding or mixed funding like joint ventures. Part of the idea is that we stop giving grant aid to India, but we continue to work in a development cooperative fashion and provide technical assistance. When the programmes prove workable you can then offer a long-term loan to help deliver those projects either to the Indian Government or a provincial government, which would be a role that a bank could perform. Is that model-

Edward Farquharson: I suppose the point I would make is one of leverage. To make sure that that money goes as far as it possibly can we would have to think very carefully about the capital structure and the most efficient way in which it can catalyse other sources of long-term funding.

Q182 Chair: That is terribly helpful. Thank you very much. We have an open mind. This is a long-term review and we are really genuinely trying to get different views. You probably heard from a previous panel that some people think we should not even go there and DFID should just stick to what it has, but I keep coming back to places like India and thinking, "Well, that leaves us with no relationship with India". CDC has a relationship, but DFID would not.

Diana Noble: We do.

Q183 Jeremy Lefroy: I wanted to come on now to how overseas development assistance is calculated and the impact that has. It has obviously become even more of an issue, given the Government’s continued intention to fulfil the target of 0.7% of GNI as ODA. I always point out the problem back in 2006 when, as a result of successful investment by CDC in Celtel and the money coming back, British ODA fell quite substantially. You have the problem of a success by CDC resulting in something that might give a future Government a problem because by the timing of that sale of an investment-perhaps a particularly large one-you suddenly end up falling below 0.7% and breaking the law because the last thing you want to do is suddenly reinvest that money immediately in order to make up the 0.7% again. We will go on to talk about loans afterwards, which is another area of contention, but I would like to first ask how would you see that being tackled in the definition of ODA? Do you think net equity changes in CDC should be taken out of the definition of ODA because this is actually an incentive to make bad investments quickly when you have succeeded?

Diana Noble: Yes, you are absolutely right. This is a difficult topic, and we in the UK are not alone in asking questions on how this should work in a world where capital is being provided in different forms than grants. I do understand the Government is going through a process of assuring that its own development flows are correctly scored with the OECD DAC classification system at the moment.

I think you are right to quote the Celtel example. Developmentally that was fantastic. Huge employment was created, not just in direct jobs but in the whole ecosystem in Africa, and mobile phones have been transformative for the lives of the poor in many profound ways. It was not an easy investment; it took a long time and there were many bumps along the way. Ultimately it made this fantastic financial return, but yet when CDC sold it, it crystallised the gain as negative aid for ODA. I look at that and I wonder why a great developmental story should penalise DFID as our shareholder. It is perverse. Conversations are going on outside this room; I do not know where they will end up, but it is not helpful in the relationship between CDC and DFID to have that kind of perverse incentive.

Q184 Jeremy Lefroy: The other area is concessional loans, where the definition of concessional loans is indeed contentious. The provision of concessional loans by certain countries has, to some extent-provided the value of those concessional loans is increasing year-on-year-been one way of meeting an ODA target or going towards meeting an ODA target without actually affecting the Government’s national budget, because it is able to raise funds on the market in order to make those concessional loans. How would you see a true definition of concessional loans in terms of ODA and how would you see these kinds of loans that are coming from funds raised on the market rather than out of the Government’s budget as being treated in ODA?

Holger Rothenbusch: That is the model that France and Germany in particular have applied. They do generate quite a significant amount of ODA. In terms of the structure, it is compliant with the current calculation of ODA. If the use of funds in terms of the projects that are being financed is appropriate, I personally think in principle that is something that can be done. It does lead to increased indebtedness of Government ultimately because, obviously, the funds that are being raised in the market have to be repaid. That is ultimately increasing debt, but as long as the definition is such, by structuring loans such that budget funds are used to reduce the prices or reduce the interest rate on those loans, it can lead to ODA.

Q185 Jeremy Lefroy: In the end, do you not think it is going to create an unsustainable bubble in debt? If you look at the Japanese example where they have something like $100 billion outstanding, it is great in terms of the concessional lending that they have done, but at some point if that debt is repaid or the increase in debt does not go on year on year and the repayments therefore come and push that down, it will have a very substantial effect on ODA as far as Japan is concerned and, indeed, Germany and France. Then the task of reaching the 0.7%, which they all committed to, is made absolutely impossible. Is that not a bubble?

Holger Rothenbusch: I would agree. Ultimately, that is a political question that would need to be answered: what is the key objective you want to achieve? Is the 0.7% target so important or is managing debt levels more important?

Q186 Jeremy Lefroy: What we are saying at the moment is that potentially the 0.7% target, which all parties in this country subscribe to, encourages countries to game the way in which they do their international development because, particularly at a time when countries’ budgets are under such pressure, the temptation of saying "Well, it’s not coming out of my Government’s budget; it’s actually money that I’ve raised on the market" is very great. In the end, that is going to lead to the 0.7% target becoming almost meaningless because you have more than two completely different sources of finance being included in the same target. Therefore, Britain, by religiously sticking to 0.7%, with all the potential problems that perhaps the CDC might cause if it is successful in the future-which we hope it is-is doing it in one way and other countries are doing it in a completely different way.

Holger Rothenbusch: Yes, I would agree.

Q187 Jeremy Lefroy: Is there any solution to that? Should we change the definition of ODA as a result and exclude concessional finance? Should we just say the 0.7% has to be nothing to do with equity and concessional finance, but only grants, or only, in concessional finance, that little bit of it that you can identify as effectively a grant?

Holger Rothenbusch: My personal view is that is one possibility to do. Quite honestly, I wonder to which extent the notion around volumes of capital being deployed in certain countries or to certain countries is so relevant over the next five to 10 years’ time. We have touched on before here that it is not only capital that is required. It is also supportive technical assistance; it is the effectiveness of the intervention that is being pursued by the different entities rather than the amount of dollars, pounds or euros that you can ultimately put on your scorecard. I would definitely say that there is a bigger conversation to be had rather than a fixation on a specific number, which will always lead to some gaming one way or the other. As soon as you set up new rules, you will have a new game that will be designed to circumvent that one. There is a qualitative debate to be had rather than a quantitative one.

Q188 Chair: The previous panel were of the view that DFID could provide private sector loans effectively; it has the capacity, but it would require some cultural change. I do not think this is a question that need detain us very long, but, firstly, do you agree? Also, what would need to be done to manage that, given that by definition you are talking about a larger number of smaller transactions, and also to do it in a way that did cause adverse competition, which is what you have mentioned in the evidence? What would be required to ensure that it did not provide unfair competition and that it was manageable within the Department, assuming you agree with the previous panel that they thought it was possible that DFID could do that?

Diana Noble: I would just go back to the comments I made that the team would need to have a really clear strategic focus and be able to be market led so it can really understand how it is providing the funds. It would need to have a commercial core to it so that it could apply those funds with real discipline, accepting that it is trying to limit the failure rate as well as get money out of the door. It would be very helpful not to have volume targets in the early days as well and to accept that this would take some time, because there is cultural change required; hiring teams and bedding those teams down takes time. Those are the key points.

Edward Farquharson: We are grappling with a sort of similar sort of problem in the establishment of Green Africa Power, which is going to provide longterm patient equity to renewable projects in Africa. It has to make sure in its judgment that it is supplying capital to those projects that really need it and ones that cannot turn to the private sector alone to do. The point I would draw from that is, in that thinking, it would be important to have both public and private sector or commercial skills so that, when you are making that judgment about whether applying finance is additional or not, that one is fully au fait with the conditions in the market to make that judgment. Is one just subsidising the private sector or is one actually addressing the market failure? It will require that skill as well.

Q189 Chair: Presumably from a management point of view, you would need agencies. You would not be able to do it all in-house. Indeed, you do not do it all in-house.

Diana Noble: That is right. You can obviously do more if you build relationships with people who have that knowledge already, and you can go faster too. In that key decision of buy or build, I would buy quite a lot before I build.

Q190 Jeremy Lefroy: Some NGOs have argued that reintroducing bilateral concessional loans could impose an unsustainable debt burden on developing countries. We all remember, 15 years ago, the campaigns to relieve them of that. Diana, I realise that you talked about any future venture into this area needing to be patient and long term, but what would you say to their argument that that might make it a bad thing to reintroduce such concessional loans?

Diana Noble: If I am not wrong, they are talking about the public sector.

Jeremy Lefroy: Yes. It will be in the public sector.

Diana Noble: I am not sure I am well qualified to talk about that part of the market. It is an enormous market and I have heard their concerns, but I do not think I can address them.

Edward Farquharson: My one comment on that would be it highlights the importance of investing in productive enterprises rather than destructive enterprises. Businesses that contribute to economic growth are obviously going to help a country maintain its position when it comes to debt sustainability, because I think one found that one of the causes of the debt crisis in the past has been poor investment in the wrong sorts of enterprises and activities. Therefore, the selection of businesses that one wishes to support is obviously very important to avoid that.

Diana Noble: If I can just supplement that point, in the private sector the skills that are required here are to look at something that inherently does not make money today-it is uncommercial today, because otherwise it does not need concessional finance-but be able to think about what your money can do and what can be created in five to 10 years. That is a pretty high skill, to be able to judge whether your money is going to the right things and not the wrong things. I would definitely advocate thinking very carefully about the skills on the team that are necessary to deliver this plan.

Q191 Chair: I have one slightly contentious question about transparency. There are two issues, one of which you would expect. I was just interested to note that the International Aid Transparency Index scored DFID "good" at 91.3% and CDC "poor" at 22.5%. How do you react to that? Before you do, we and other people have put the second question, which is obviously the use of so-called tax havens in your management policy. We have had this discussion before, but has it developed?

Diana Noble: Let me start on the transparency point. We very clearly seek to be as open and transparent as possible, subject to the confines of commercial confidentiality and the Data Protection Act. As a result, we publish information on the businesses, our capital supports, the fund managers we work with and the funds investing our capital. We publish a range of corporate data, including data on staff remuneration and operating costs. We have made considerable steps forward on this in the past few years. We have also become a signatory to the IATI, International Aid Transparency Initiative, in 2011; we were the first bilateral DFI to do it, and we started publishing data to the registry. We are continuing to work closely with IATI to ensure that it is able to capture data that is relevant both for institutions providing capital to the private sector and to public sector entities.

On the specific Publish What You Fund index rating, there were some fundamental problems with the report, from our point of view. We scored lower than other organisations surveyed by the Aid Transparency Index, and in part that reflects the difficulty of using what is a donororiented questionnaire to assess CDC’s private sector investment operations. Let me give you an example: we were marked down for not including budgets for which countries and which sectors, or the forward-planning budgets of where our capital is going to go.

Chair: Because you do not operate like that.

Diana Noble: We simply do not operate like that and nor should we operate like that. That would not be a prudent way to go. That is only one of a number of examples. The DFI peer group they selected for comparison to us includes IFC, IADB, EBRD, EIB, KfW and Korea’s EDCF. A lot of these are organisations with considerably different funding models, governance arrangements, products, clients, resources and scale to us. Not one of the bilateral European DFIs that we consider to be our closest peers was included in the survey. We have discussed this all at length with Publish What You Fund, and they told us earlier this year that we will not be included in the index for 2013, but we are going to work with them to develop a parallel methodology that takes account of DFIs’ different operating constraints.

Q192 Chair: So you hope your rating will improve on that after that discussion.

Diana Noble: We hope that we will be accurately represented by them, but according to what we do. This is not about changing things just for us; we would like to change it for the other DFIs as well.

Q193 Chair: Tax havens?

Diana Noble: Would you like to answer that one first and then come back to me?

Edward Farquharson: From a DFID perspective on tax havens, we have an operating policy that requires all PIDG participants to take account of the classification of tax jurisdictions, and in fact we are just about to release our operating policy on that. One of the practical challenges around that is that publication of what tax havens are not acceptable is a politically difficult thing for some of the Governments to actually issue. The practical problem it presents for us is giving guidance to our facilities as to what they should avoid. Nevertheless, we have developed a mechanism that is likely to classify the areas where we are very happy and, if they want to stray from that, then that needs to be taken up with the funding donors. It is not a significant issue for us because our facilities are aware about the sensitivity of it, but they do work with the private sector and the private sector operates through some of these jurisdictions.

Diana Noble: From CDC’s perspective, our mission statement is to support the building of businesses throughout Africa and South Asia. That forms the tax basis for these countries as they graduate from aid. We require that all businesses pay the taxes that are required for them in the countries where they operate. In 2012, that resulted in £2.6 billion of taxes to local governments, up from £2.2 billion the year before. We have made a decision as we start investing directly not to do any of our direct investments through tax havens, unless there is a really strong reason and we are investing with someone whose mind we cannot change. Primarily, our intention, when we invest directly, is to invest directly.

On the funds model, we welcome the decision taken by the G8 recently to develop a truly global model for multilateral and bilateral automatic tax information exchange. We and DFID are looking for opportunities to support countries on the implementation of that new global standard. Once that standard has been adopted, we will only invest through those countries that have implemented or are working towards the implementation of that standard, so I think this is a big step forward. As our 100% shareholder, DFID will monitor the implementation of this policy on the part of HMG. In time, we would like our funds business to invest not through offshore centres, but the countries we invest in are simply not ready for it.

We have examples-and we will share them with the Committee in writing if you are interested-of funds where DFIs have tried manfully to set up those funds in African countries. There is one particular example where an SME fund was attempted to be set up in Mozambique, and after two years of to-ing and fro-ing with the authorities they gave up. Not a penny went to SMEs in those countries because the authorities were not really ready with all the mechanisms to set funds up. When you go through offshore centres, they are, so there is a really strong reason why we continue doing what we do.

Q194 Chair: I think we would appreciate examples, because members of the Committee quite often get asked what they feel about it.

Diana Noble: Yes, of course. We can provide those, and they are quite powerful, actually.

Q195 Jeremy Lefroy: Just on that, I have been working with an organisation I set up with colleagues called Equity for Africa, which was a charity and is now a social impact fund. It has encountered the same problem of the mechanisms to do this. One approach we have taken is to work with the authorities locally to try and help them to get the legislation in place so they can have those locally rather than all needing to go through offshore facilities. Do you do that? Do you work with the local governments and say, "We would like to set up an investment fund locally in your country. At the moment the legal framework is not there; can we work with you to get that framework in place, which would be of benefit to you and to other investors who want to come in?" rather than just saying, "There’s nothing here so we’d better go elsewhere"?

Diana Noble: No, I think that is right. Work does need to be put in. It is actually probably more suited to DFID and its advisory teams who are closer to Governments on regulation and legislative areas than us. We would very much welcome that.

Q196 Jeremy Lefroy: CDC has a lot of skills and expertise in this area.

Diana Noble: Of course. We would support them, help them and tell them what we needed, but the actual heavy lifting in terms of the advice and guidance would be more suitably within DFID.

Q197 Chair: We are in an era where everybody wants to know the impact of the development expenditure. The Government has set up the Independent Commission for Aid Impact. I have just noticed that, generally speaking, CDC tends to talk in terms of financial returns, although I accept that it is changing, and jobs is obviously a focus. PIDG is talking about leverage and so forth. These are all perfectly valid things, but do you think more could be done to focus-it needs to be a slightly broader base than that-to say what the development impact was? Do you think the tools could be improved and made a little bit more sophisticated to measure that?

Diana Noble: Yes, definitely. This is work in progress for us. I described earlier how we now direct capital towards opportunities that we believe will have more impact over time, especially job creation, and we have a robust tool to support that. Now, we are working on how to measure the actual impact of our investments in a way that communicates clearly what our capital is achieving, but also in a way that helps us to be smarter, based on actual learning of what works and what does not work. We have recently hired a Director of Development Impact, which is the first time that CDC has had someone with this title, to design this for us. This is work in progress, and we hope early next year we will be able to make this more public.

That is not to say we do nothing now in terms of measuring what we do. We actually do a lot. Since 2008, we have evaluated the performance of all our fund investments after five years and 10 years. Half of those we do ourselves and half of those we use external consultants. This evaluation uses a framework based on the IFC’s highly respected DOTS, which is the Development Outcome Tracking System, and those evaluations are scrutinised by the board’s development committee, and the outcomes are also reviewed by DFID. The exercise that the new director is undertaking will inevitably have its focus on job creation. That is not just crude numbers, but we hope job quality as well; not just direct jobs, but also indirect jobs in the supply chain and what IFC call "induced jobs", which are jobs created in time as a result of new infrastructure that you put in place, for example.

He is working alongside the other DFIs and IFIs in this endeavour, because we are a strong believer in the harmonisation of indicators. That is firstly so that we do not drive management teams that are doing really hard jobs in really difficult places crazy with different measures that are trying to achieve the same thing, but secondly so that we can genuinely share our performance data, which I think would be to the benefit of all. We are aiming to have something in place early next year, and we are happy to share it.

Q198 Chair: Thank you. Does PIDG have something similar?

Edward Farquharson: Our development impact tool is something we are actually very proud of, because we have been operating it for quite a number of years now. We have four quantitative indicators: we have talked about leverage, but we measure jobs, we measure fiscal impact and in fact we measure the amount of taxes that our projects are going to be paying as part of that. We also measure the number of people that have access to new or improved infrastructure.

In terms of where we are going next with this, Diana mentioned indicator harmonisation. It is really important that we do not create a burden on recipients of support having to report in different ways to different donors, so we are part of the harmonisation group working with DFIs to try and harmonise that as much as we can. We have recently taken further steps to report on the gender impact of our projects. When we look at the number of people who get new or improved infrastructure and the number of jobs, we are now disaggregating that into men, women, boys and girls so that we can report on that. We are also reporting on climate change impact. We have developed a tool with the IFC that enables us to classify all of our projects in terms of the impact that each one of those will have on climate. We have recently concluded a study on job impact. It used as a case study a 13MW hydropower project in Uganda, where we looked at what the indirect impact of our investment was on jobs and the induced impact of investment, not just direct, but the secondary effects. We have recently published that and we are going to take it further.

Chair: That is very helpful, and we look forward to hearing more of those developments. Everybody needs to know, effectively, what the money delivered in terms of development. I agree with you that, as long as it is done in a way that is consistent and not so complicated that it is meaningless, that is a very helpful focus. The other point that was made, of course, is it is not just about jobs; it may be about improved livelihoods or incomes. I do not know if that is something you would build into it. Clearly, you may not create jobs, but you may lift people out of poverty because their income levels go up. I think most of us would regard that as a legitimate measure of impact. Can I thank you very much? As I explained at the beginning, this short return of Parliament is giving us a bit of pressure, so colleagues have been in and out, but I think it has been a very helpful session.

Jeremy Lefroy: I just want to go back to something from the previous panel, because I think I was probably being a bit unfair to DFID about agricultural extension services and their attitude towards it. Having re-read their reply, they are still very sceptical about public-funded extension services, and I would have a slight issue with that. But they are much more open to agricultural extension services in general, so I do not want to give the impression that DFID is totally anti them.

Chair: The impression I have had, when we have discussed this with DFID before, is that they are worried about the amount of people involved. They do not want to feel as though it is their responsibility. I suspect that is part of it. We can exchange our views with them, but thank you for putting that on the record. Thank you for coming in. As I said, this is a longterm report. Some of the Committee is off to Washington and Brazil this week and next week, both to discuss these issues with the World Bank and what they think about how DFID can develop, and also to look at what donors and indeed the Brazilian Government and other agencies are doing, just because DFID has no engagement of any significance in Brazil, and yet lots of ideas seem to be coming out of it. Just to give you a flavour, these are the kinds of threads we are drawing together. Again, as I said to the other panel, if on reflection there are any thoughts you can add, other than the things you have said you can send to us, please feel free to get in touch afterwards. I will be very happy to hear from you. Thank you very much indeed for coming in.

Prepared 24th September 2013