In February 2017, European Commission, EDFI, the OECD, Convergence, and
TCX hosted members of the development community and private sector at the
European Commission for one of the largest workshops dedicated to identifying
and advancing best-practice foreign exchange (FX) risk solutions. FX risk is one of
the most significant barriers to sustainable development in developing countries.
More than 90% of debt financing to developing countries is denominated in
foreign currency, causing the most vulnerable and least-equipped borrowers to
bear the risk of debt crises in times of local currency depreciation.

The morning sessions of the workshop focused on the current state of FX risk in
developing countries, how to deepen domestic financial intermediation in local
currency, and ways to increase cross-border flows in local currency and hedged
currency. Currently, developing countries face significant systemic risk due to
large scale currency mismatches in the financial and public sector. Efforts in the
development community have tried to deepen domestic financial intermediation
in local currency, but there is still a need for systemic change in developing
countries, by improving policy frameworks and addressing regulatory barriers.

The afternoon sessions of the workshop focused on barriers to scaling local
currency debt and hedged equity investment. Barriers to scaling local currency
debt and hedged FX debt include lack of awareness among development
practitioners around the importance of the issue, dependence on enabling local
macroeconomic frameworks, and the need for creativity in illiquid or otherwise
constrained markets. Barriers to scaling hedged international equity investment
include the availability of hedging products in the required geographies and
tenors, the cost and collateral requirements for these products, and the delivery
risk associated with unknown exit timing.

The workshop concluded with a consensus around three necessary actions. First,
FX risk needs to shift from the most vulnerable borrowers to well-capitalized
organizations that can best bear and manage the risk. Second, blended finance
solutions have the potential to reduce the FX risk for developing countries and
attract the investment dollars required to achieve the Sustainable Development
Goals (SDGs). Third, more work is required to understand how to drive down
the cost of covering FX risk and to scale proven solutions that accelerate
investment needed during the SDG implementation period.

The workshop participants are committed to advancing best-practice solutions to
reduce FX risk in developing countries and development finance. The workshop
organizers – European Commission, OECD, EDFI, TCX and Convergence – will
be coordinating efforts to maximize the impact of blended finance solutions to
this problem.

FX Risk in Development – Managing Currency Risk Through Blended Finance Solutions

FX Risk in Development – Managing Currency Risk Through Blended Finance Solutions

Authored by Convergence