2013 was an important year for the global education agenda. Whether it was Malala speaking up for the rights of every child to an education, or the recognition that not educating a child is significantly more costly for developing countries than doing so, we were reminded how important education is for the world. But we also saw the emergence of new trends in the education space, and amongst them innovative financing, the international development's new darling in these hard economic times. And loan buy-downs, though they may not sound very exciting, may be the next prominent financial instrument in this realm.
What is a loan buy-down?
A loan buy-down is a transaction in which a third-party pays down part of a loan, by softening its terms, or reducing the principal outstanding, for the borrowing country on behalf of the lending organization.
By reducing the financial burden of the loan, the third-party donor releases the borrowing country from all, or some of its future repayment obligations. By establishing triggers against which the performance of the loan is measured and bought down, buy-downs promote results-based financing. This can lead to quantifiable reforms that otherwise might not have been achieved. Buy-downs have the capacity to encourage lending for education, health and other social sectors from reluctant donor countries, and can stimulate results if the triggers qualifying the buy-down are appropriately specified. Loan buy-downs could, indeed, help to get measurable impact, hence addressing one of the main criticisms of international aid. They can also encourage countries to borrow money for projects whose outcomes only bear fruit over the long-run, and may not be as politically attractive like investing in long-term teacher development.
The power of innovative financing
The education sector still lags behind other sectors in harnessing the power of innovative financing for development. Loan buy-downs are no exception.
The few examples of buy-downs so far have mainly been for health, for example the polio eradication program in Nigeria and Pakistan. In 2003, the World Bank, Gates Foundation, Rotary International and the UN Foundation came together to establish the Partnership for Polio Eradication Project (PPEP). The World Bank provided upfront, long-term, zero-interest loans for the purchase of oral polio vaccine in Nigeria and Pakistan. Rotary International, Gates Foundation, and the UN Foundation covered all service and commitment charges associated with the loans. The PPEP will buy-down the World Bank loans when the eradication programs pass an independent performance audit at the end of the project. The indicators that the audit will measure are whether the vaccines arrive on time for the immunization campaign, and if the immunization coverage of the oral polio vaccine is at least 80%. The World Bank will then cancel the credit and release the recipients from any future liability. This is a prime example of how a buy-down program can concentrate global efforts on a single issue, and produce a beneficial arrangement for all parties involved.
Reversing the dwindling aid to education
Buy-downs also have the potential to mitigate another troubling trend in international development: dwindling aid to education. The graph below highlights this disconcerting trajectory.
As the figure shows, from 2010 to 2011, aid for basic education low-income countries declined from $1.8 billion to $1.4 billion. Of the 11 major bilateral donors to basic education, seven reduced aid to basic education from 2010 to 2011 – Canada by 21%, France by 25%, Japan by 30%, Spain by 31%, Netherlands by 36%, Norway by 4% and the United States by 13%. The decision of the Netherlands to phase out its education programs was a particularly hard hit as the Netherlands had been a key supporter of basic education in the past.
Donors may also make it harder for borrowing countries to pay back the aid funds they owe, although this is not limited to loans for education. According to the Development Assistance Committee (DAC), France, Germany and the European Investment Bank are seeking to have the DAC count unsubsidized loans as Official Development Aid (ODA) in order to meet their ODA targets. This means a reversal in the trend of the past few decades toward grant financing of aid, and in particular of aid for basic education.
Keeping the education sector 'competitive'
If this reversal is realized in the near future, why should education, a public good that is arguably crucial for a society's continued development, fall behind in its pursuit of non-grant based aid?
Buy-downs can help keep the education sector 'competitive' as compared to other sectors. It could also prove to be a promising mechanism to crowd in extra resources for education, for which capital-strapped countries may not be willing to borrow otherwise.
The devil is in the details
Although buy-downs could leverage greater aid for education, details are yet to be worked out and there is not enough experience. There are also many unanswered questions. Which countries would be willing to borrow or lend for such a venture? What kinds of triggers could be specified to mobilize the buy-down funds? How would it be decided if these triggers have been met or not? Considering these questions and more, Results for Development Institute (R4D) released a new paper for the Global Partnership for Education which is interested in assessing the feasibility of buy-downs to reap more resources for global education. R4D's report analyzes the buy-down model as it has been applied to different projects, and considers key design aspects that could be applied to the education sector – such as selecting countries with large unmet needs in education, or the type of triggers to link buy-downs to results. As a next step, the report proposes a pilot to examine further how an effective buy-down would be designed.
As we forge into 2014 and look ahead to 2015 as a watershed period for international development, buy-downs may prove to be the comeback that education.