Diaspora Bonds As a New Funding Vehicle for Developing Countries

1
Diaspora BondsAs a New Funding Vehicle for
Developing Countries

• Suhas Ketkar
• Vanderbilt University
• Dilip Ratha
• The World Bank

Privatization of Development Finance Conference
at NYU, December 4 and 5, 2009
2
Main messages

• Israel and India have used diaspora bonds to
  raise nearly 40 billion
• . . . Often in times of crisis
• . . . Often at a discount
• There is scope for other countries with large
  diaspora abroad to issue diaspora bonds for
  financing development

3
Diaspora Bonds Introduction

• Definition Bonds issued by a country to its own
  Diaspora to tap into their assets in the adopted
  developed countries
• Examples State of Israel bonds, RIBs and IMDs
  from India, also bonds issued by Lebanon and Sri
  Lanka
• Distinct from FCDs but similar to Islamic bonds
  placed in intl capital markets

4
Diaspora Bonds Agenda

• Rationale why would countries issue and
  investors buy Diaspora bonds?
• Israeli and Indian track-record significant
  differences and regulatory issues
• Minimum conditions for the issuance of Diaspora
  bonds and potential issuers

5
Attraction for issuing countries

• Patriotic discount why not seek charity?
• Stable source of finance, esp. in bad times
• Support to sovereign credit rating
• Israel SP believes such support to be
  important but not decisive. Moodys believes
  that it is more relevant now that the economic
  house has been put in order
• India Did not prevent downgrading in 1998

6
Attraction for investors

• Patriotism
• Risk management home bias
• Risk management Diaspora investors are likely
  to view the risk of receiving debt service in
  local currency with much less trepidation
• Desire to do good in the country of origin

7
Diaspora Bonds Israeli experience

• DCI established in 1951 to raise funds from
  Jewish Diaspora
• Since then, Israel has raised over 26 bn via
  this stable source of finance
• ..receiving significant patriotic discount 4
  coupon until 1990 regardless of US interest rates
• Patriotic discount has declined of late as (1)
  Jewish Diaspora with less direct links to the
  Holocaust is making investment decisions based on
  total returns and (2) secondary market in
  Israeli government bonds has emerged

8
Israel Diaspora Bond Sales
9
Israel Bond Sales by Type
Notes
Fixed rate
Floating rate
10
Discount on Israel Bonds
11
Diaspora Bonds Indian experience

• Issued by SBI with 5-y bullet maturity minimum
  2000
• -- India Development Bonds (1991) 1.6 bn
• -- Resurgent India Bonds (1998) 4.2 bn
• -- India Millennium Deposits (2000) 5.5 bn
• -- Investors received 7.75 on RIBs vs.
• 7.2 on BB U.S. corporate bonds
• -- Investors received 8.5 on IMDs vs. 8.9
• on BB U.S. Corporate bonds

12
Diaspora Bonds Indian experience

• SBI limited sales to investors of Indian origin.
  Why?
• -- Marketing gimmick
• -- Indian Diaspora to show greater forbearance
• -- SBI reason KYC

13
Diaspora Bonds Indian experience

• SBI decided to forego SEC registration on the
  ground that RIBs/IMDs were bank CDs and hence
  were subject to U.S. banking rather than
  securities laws
• RIBs were sold to U.S. retail investors
• IMDs were not sold in the U.S. despite the word
  deposit in the name

14
Diaspora Bonds Indian experience

• Deterrents to SEC registration include
• -- High costs (but 500K not material)
• -- Stringent disclosure requirements (but
• no problem for SBI)
• -- Long lead time of up to 3 months
• -- Plaintiff-friendly U.S. court system
• -- India rejected U.S. courts as well as
• U.S. laws

15
Diaspora Bonds Indian experience

• In addition to class action mechanisms to
  aggregate individual claims not prevalent in
  other countries, U.S. procedures including
  rules of discovery, pleading requirements,
  contingent fees, and the absence of loser pays
  cost rule are far more favorable to plaintiffs
  than those of foreign courts. Roberta Romano
  (1998)

16
Diaspora Bonds Indian experience

• While SEC registration is not optional, the
  Indian case raises an interesting issue of giving
  investors the choice of law and forum
• Make such choice another attribute of the
  security to be priced in the market
• Can be supported on efficiency grounds
• Unlikely in short run given recent market
  failures
• But market pressure may eventually come into play

17
Diaspora Bonds Israel vs. India
Israel India
Annual issuance since 1951 Opportunistic issuance in 1991, 1998 and 2000
Development oriented borrowings Balance of payments support
Large though declining patriotic discount Small patriotic discount, if any
Fixed, floating rate bonds and notes Fixed rate bonds
Maturities from 1 to 20 years with bullet repayment Five year with bullet maturity
Direct distribution by DCI SBI distribution in conjunction with int'l banks
Targeted towards but not limited to diaspora Limited to diaspora
SEC registered No SEC registration
Non-negotiable Non-negotiable
Non-volatile Non-volatile
18
Diaspora Bonds Potential

• Minimum conditions for issuing diaspora bonds
• -- Absence of civil strife
• -- Minimum governability
• -- Ability to meet SEC registration
• requirements
• -- Sizable first generation diaspora

19
Diaspora Bonds Potential
Source Ratha and Shaw, 2007, South-South
Migration and Remittances
20
Diaspora Bonds Potential
21
Diaspora Bonds Potential
22
Conclusions

• Diaspora bonds have been used by Israel India
  with success
• A number of other countries are potential
  candidates for issuing diaspora bonds
• Ethiopia, Ghana, Grenada, Jamaica, Liberia,
  Morocco, Nepal, Philippines, Rwanda, Sierra Leone
  and Sri Lanka are exploring the possibility of
  issuing diaspora bonds at present.
• SEC registration required in the short run