Review of the Partial Risk Guarantee of the Asian Development Bank - RECOMMENDATION FOR CHANGES TO ADB’s PRG PROGRAM

Table of Contents

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I. Introduction

II. An Overview of the Political Risk Insurance (PRI) Market

III. Review of ADB's Partial Risk Guarantee (PRG) Program

IV. Recommendation for Changes to ADB's PRG

A. Redefining the Coverage of the PRG Instrument

B. Defining the Fee Structure

C. Covering Interest

D. Introducing a PRG Prudential Limit

E. Introducing a Coguarantee Program and a Collaboration Program

F. Improving the Product Name

G. Improving Communications with the Market and Potential Users

H. Creating a PRG Focus Group

I. The Use of ADB’s Financing Instruments and Staff Implications

J. Summary of Proposed Changes to the PRG

V. Potential Benefits of the Proposed PRJ Program

VI. Conclusion

Review of the Partial Risk Guarantee of the Asian Development Bank : IV. Recommendation for Changes to ADB's PRG

C. Covering Interest

57. Under the existing policy, PRGs may cover part or all of the debt service.³⁰ The text of the 1995 review, however, appears to indicate a preference for covering principal and base interest only (i.e., excluding the credit spread). Prevailing market practice in the PRI industry is to cover the full interest rate that applies to a guaranteed loan (i.e., base interest plus the credit spread).³¹ It is therefore recommended that ADB continue to have the option to cover both base interest and credit spread of the underlying guaranteed loan.

58. However, in situations where the loan default is due to a political risk event and the default is permanent in nature, and ADB has not exercised its buyout option (para. 31) under the guarantee, the PRG will only cover principal and base interest.³²

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R81-95: Review of the ADB’s Guarantee Operations, 4 April, paragraph 68(vii).
Typically, interest rates are the sum of a base or risk free rate (generally equal to the London interbank offered rate, or LIBOR) and a credit spread or margin that compensates the lender for the project-specific risks assumed under the loan.
The project-specific PRG instrument would define the circumstances that would constitute a permanent default. As an example, for BOO/BOT type projects, termination of the project documents by the project developer following a political event would be deemed as a permanent default under ADB’s guarantee. The reduction in spread cover following a permanent political event is justified on the basis that from the date of termination of the project, the guaranteed lender is no longer subject to any commercial risk, and only takes ADB’s credit risk, for which base interest is an appropriate level of remuneration.

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B. Defining the Fee Structure

D. Introducing a PRG Prudential Limit

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C. Covering Interest