Affordable Housing Institute : US

Paul D. Wolfowitz, read the neat card on Holmes’ salver, Worldly Philosopher.  “Sir,” asked the Great Detective over his pince-nez, “how may I help you?”

 

Our guest was distinguished

 

“Long have I admired your treatises on the hundred and seventeen types of tobacco,” began our guest, twisting the brim of his brushed black silk top hat.  “I have the honor to administer a trust operated by a small philanthropic society,”

 

“You do yourself too little honor,” murmured Holmes.

 

“whose funds, raised by subscription, are deployed throughout the world to aid the suffering and encourage the enterprising.  My predecessor has placed me in a most untenable situation with an African potentate.  Our society, in concert with certain private investors, funded a major pipeline and refinery to extract the potential from a vast oil field that for decades had lain unused while its owners suffered.”

 

The Exxon-led consortium was willing to build the 665-mile pipeline from landlocked Chad to the sea only with the World Bank’s backing, said Rashad Kaldany, director of oil, gas and mining for the bank and its private investment agency, the International Finance Corporation. With Chad’s history of civil war, ethnic strife and corruption, its oil lay untapped for decades because no one was willing to put capital at risk here.

 

“The potentate, who is both profligate and corrupt, had no capital to develop these rich natural resources, and was only too happy to sign appropriate covenants assuring that a portion of the royalties from his venture would be set aside to build schools, orphanages, and affordable homes.”

 

In 2000, the bank approved the project and lent Chad $37 million for its stake in the pipeline, while its finance agency lent the companies building the pipeline $100 million. Their support was conditioned on Chad’s commitment to adopting a law requiring that most of the oil revenue go to poverty alleviation.

 

“To secure his pledge, a portion of the revenues were to be automatically deposited in City banks of unimpeachable character, who would act as trustees for the nation’s poor.”

 

The royalties were to be deposited in an offshore account, and an independent oversight committee was to vet, approve and monitor all spending.

 

“You seem to have taken every reasonable precaution,” commented Holmes.  “I take it the pipeline was built, and now the potentate is having second thoughts?”

 

NDJAMENA, Chad, Feb. 11 — Students from the Institute of Mongo have everything they need to learn: desks, computers, professors, notebooks and inquisitive minds.

 

The only thing missing is the school itself. Their country’s newfound oil wealth is supposed to build it in their hometown, about 275 miles east of here, but after three years it is still not ready. So they study in borrowed classrooms here in the dusty capital.

 

“Has had, Mr. Holmes.  Total abrogation of his pledges.  But how did you know?”

 

“Tut, sir,” Holmes held up his hand at the philosopher’s surprise, “were these things not so you would scarcely have troubled yourself to consult me.”

 

“As you can see, we have disbursed all the funds.”

 

“Yes,” our guest replied.  “The potentate has announced that he intends to use the money to war with his neighbors.”

 

A $4.2 billion oil pipeline has generated $399 million for Chad since mid-2004, but the spending of the money has been seriously marred by mismanagement, graft and, most recently, the government’s decision that a hefty share can be used to fight a rebellion.

 

“And even before this latest outrage, money was crudely stolen.”

 

The oversight group officially charged with monitoring the oil spending laid out a damning catalog of malfeasance and bungling last May, from overspending on office equipment to bungling or abandoning entire public works projects.

 

In the town of Moissala, a water tower was approved, and an advance of $360,000 paid to the builder. But when monitors checked its progress, they found no water tower, and no one in the local government had ever heard of the project.

 

Many of the wells that were supposed to be dug in rural areas were still unfinished, while others were dug, but not deeply enough. The builders filled them with water from a cistern to try to fool the inspectors, said Therese Mekombe, vice president of the oversight panel.

 

Holmes paused for a moment, then took down one of his immense leather-covered notebooks.  “I see,” he said, placing an ivory forefinger at an entry in his unintelligible hand.

 

“This is a record of his blog posts.”

 

“You have a particularly severe situation that I call the ‘economic hostage problem.’  You have capitalized a public-private venture with a double bottom line — a social purpose (relieving poverty) and an economic imperative (paying back your loans and the private equity investment). 

 

“It has been made worse because the operator has no hard equity invested.  I take it the potentate is a thief?”

 

“Of that there can be no doubt.”

 

Chad tied with Bangladesh for the worst corruption rating among nations in a 2005 survey by Transparency International, an organization that monitors corruption worldwide. Allowing the Deby government more access to unmonitored oil revenue, bank officials fear, would simply lead to more waste.

 

“We have taken the basic steps,” said our visitor. 

 

In recent weeks, Chad seriously weakened a law that dedicated most of its oil revenue to reducing poverty and reneged on its deal with the World Bank. In response, the bank suspended all its loans to the country.

 

“I read of your controversial appointment,” said Holmes, “and told my friend Dr. Watson that I thought you were a great man for the job.”

 

Our guest inclined his head modestly.  “You are too kind, sir.  However, this is a great crisis.  I have refused further aid to the orphanage until it is under new management and we have discovered what has been stolen.  And I have taken such other decisions as seemed prudent.”

 

Especially since the government has yet to satisfactorily explain how it has spent the money thus far, said Paul D. Wolfowitz (who became president of the bank last summer), he was obliged to counter Chad’s “breach” of the pipeline deal.

 

Under the actions announced yesterday, the bank will freeze about $124 million that was due to be disbursed on projects in Chad over several years, and it will also halt new loans and grants.

 

“Have you reserved a few more severe remedies?” Holmes asked sharply.  “It is as well to have further remedies, so as to give defaulters a reason to settle.”

 

The bank also had the right to demand accelerated repayment of $41 million that Chad still owes on the pipeline loan, but Wolfowitz did not invoke that penalty.

 

“Yes, and I have sought to empower reasonable alternatives to this scoundrel, in hopes of a change in the parties in power.”

 

Wolfowitz emphasized that “this is not the end of dialogue or the end of negotiations,” and that “our actions can be reversed anytime we reach an agreement with Chad.”

 

He voiced sympathy for Deby’s complaints that the country has serious security problems from the inflow of refugees from neighboring Sudan, which is riven by civil strife.

 

“You have done the right thing, sir.  You must refuse further aid to the orphanage until it is under new management.  Subsidizing kleptocracy simply props up dictatorship.”

 

“But the children, Mr. Holmes!  The children will suffer.   The slums of Chad are truly horrible:”

 

Open sewers line a street in Ndjamena, Chad, and trash is everywhere. Chad weakened a law that devoted most of its oil money to cutting poverty.

 

“I know,” Holmes commented, “for I too have visited them.”

 

“And the orphanage place may become a den of iniquity, a haven for thieves and brigands.”

 

But the bank usually refrains from cutting off loans to countries except in extreme circumstances because the poor in those countries would presumably bear the brunt of the pain.

 

Moreover, Chad presents serious geopolitical concerns; a collapse of the government could cause the country to join some of its neighbors as a failed state and haven for terrorists, a matter about which Wolfowitz, a former deputy secretary of defense, is keenly aware.

 

“Yes, this is the economic hostage problem,” the detective commented.  “You financed a worthy scheme with pay-before-performance capitalization and incentive structures.  Now your enforcement conundrum is made worse because you are not dealing simply with a capricious and spiteful individual who had breached his pledge to provide you valuable service, but rather with economic hostages.  If you continue to fund — if you ignore the sponsor’s breach — in the short term, you will benefit those you have sworn to help.  But” — he held up one admonishing finger — “you are trustee of all the children, not just in this one orphanage but also those in the adjacent jungles, whose tribal chiefs are no doubt an observant herd studying your behavior here.  Let us therefore review the remedies” — he tapped his leather notebook — “to see if any avail.”

Economic hostage problem: seven structuring remedies

 

            1.         Stage payments of capital.  Disburse capital only in increments, each tied to a particular performance objective, both to minimize cash exposure and to maximize value of the collateral.  The typical construction loan with its draw schedule is a good example.

 

            2.         Privatize performance-risk-taking using soft equity.  If government pays after performance, then the sponsor must sell the government’s pledge to a private party.  This places a private party, not government, in the oversight role … and private parties are usually much more effective at enforcement.

 

“We’re the asset management committee and we wanna talk to you ’bout your collateral.”

 

            3.         Appoint or approve the property managers, and keep them independent from the sponsor.  Ideally, not only will fund administration be handled privately, so will property operations, from inception.

 

            4.         Have a vigilant on-site observer.  There is no substitute for round-the-clock surveillance, such as via clerk-of-the-works or supervisory architect.

 

“Nice doggie, wanna property inspection report?”

 

            5.         Have enforceable quick-take provisions.  Even if the capital must cede initial control to the sponsor, it should have a rapid-response quick-take control assumption mechanism (akin to the driving instructor’s circuit breaker).  Lenders use mortgagee in possession as a quick-take assumption of control.

 

“Do that again and I’m taking the wheel.”

 

            6.         Claw funds back from the sponsor, not the property.  In appropriated programs, this is impossible because the money went into the building.  It works beautifully in soft-equity schemes such as tax credits, and is a principal benefit of such an approach. 

 

            7.         Assure the venture has remaining embedded equity, so that if the capital takes control of the asset, it can readily find another sponsor to step into the control role.  For this reason, few if any lenders allow refinancing above (say) 85% loan-to-value, to preserve equity in the property itself.

 

Seven useful principles

 

“Those seven precepts are very helpful, Mr. Holmes,” the visitor said dryly after reviewing the list, and we followed them assiduously.  But we are cursed with too much value, and we have proved unable so far successfully to bind the sovereign.” 

 

“Yes, that is the fundamental weakness of all the above,” Holmes agreed.  “They work only in the context of a greater enforcement agency that has sway over both parties to the transactions.  Would that there were such a supra-national body, universally respected, whose resolutions were always respected — but there is not.”

 

Not even in our age

 

“Others less scrupulous are always willing to step in, as we discovered half a century ago.”

 

Gamel Abdel Nasser’s gambit to nationalize the Suez Canal was trounced by the 1956 British/ French/ Israeli paratroop Suez Canal seizure, Eisenhower’s order for them to cease and desist, the World Bank’s refusal to fund the Aswan High Dam, and Nasser’s happy acceptance of Soviet aid to build it.

 

“Yes,” said Holmes, “the economic hostage problem is particularly acute when you are facing sovereign risk.  Some might say one should do no business with corrupt autocrats at all.”

 

Critics say the bank moved too hastily to move the project to completion before this unstable, corrupt and autocratically-governed country was ready for it.

 

“After-the-fact criticism is easy,” countered our guest with a touch of asperity.  “Changing Africa is hard.  So is designing corruption-resistant financial structures.”

 

Though aware of the risks, bank managers said they felt that other investors with no stake in poverty reduction would eventually build the pipeline anyway.

 

Mr. Kaldany, the bank’s International Finance Corporation official, pointed out that another oil project just over the border in Sudan had been undertaken by a consortium led by China with no controls on how the government spends the money.

 

 

“I am sorry to say I can see no means of helping you, sir, beyond what you have already done,” Holmes concluded.  “This is a matter for governments and multi-governmental bodies, not a consulting detective.  I would encourage a global boycott of further capital from socially-minded investors.”

 

The bank is one of Chad’s major sources of support, but the government has received about $300 million annually in recent years in various forms of aid from donors including the U.S. and French governments, the European Union, the African Development Bank and the International Monetary Fund.  

 

Wolfowitz declined to speculate on how other donors may react.  “We’re not offering them any recommendations one way or another,” he said, although he is asking them to prod the Chadian government to take the situation seriously and engage in negotiations.

 

“What then must we do?” our downcast guest asked, resettling his top hat with a resolute air.  “Would you have us refuse aid in all situations of doubt?”

 

BILLY: It’s from Luke, chapter three, verse ten. What then must we do? Tolstoy asked the same question. He wrote a book with that title. He got so upset about the poverty in Moscow that he went one night into the poorest section and just gave away all his money. You could do that now. Five American dollars would be a fortune to one of these people.

GUY: Wouldn’t do any good, just be a drop in the ocean.

 

 

BILLY: Ahh, that’s the same conclusion Tolstoy came to. I disagree.

GUY: Oh, what’s your solution?

BILLY: Well, I support the view that you just don’t think about the major issues. You do whatever you can about the misery that’s in front of you. Add your light to the sum of light. You think that’s naive, don’t you?

 

Tolstoy gave away most of his money, and that didn’t work

 

“It’s not clear at all how to get your hands around it,” Wolfowitz said. “But I think to stand back and say the whole thing is a dirty business and we in the World Bank don’t want to have anything to do with it is very shortsighted.”

 

“Indeed,” said Holmes, “it is my view that the most efficacious strategy is to use all the tools, and keep one’s fingers crossed.”

 

As flawed as the reality of Chad’s experiment has been, even some of its fiercest critics say they are glad the World Bank is here.

 

“Without the World Bank, we would be in an even bigger disaster,” said Boukinebe Garka, a labor union leader.  “Someone else would have built the pipeline, and then we would be in the same situation as Angola or Sudan.  At least now we have some control, even if it is not perfect or even very good.  It is a start.”

 

“And perhaps we should quote the ultimate wizard.”

 

But that is not for us to decide.  All we have to decide is what to do with the time that is given to us. There are other forces at work than the will of evil … and that is an encouraging thought.

 

 

UPDATE (20-Apr-06): “Watson,” said Holmes, reviewing his clippings, “it seems the philosopher took our advice, and continues to refuse to fund the scoundrels.”

 

The oil royalties have been frozen for five months in a dispute with the World Bank after Chad changed an oil revenue law which earmarked a share of oil revenues for social spending for future generations.

 

“This has left the exploiters with no alternative but to escalate their threats even as their bluffs are repeatedly called.  Now the matter approaches a crisis.”

 

“Will the restructuring talks come to anything?”

 

 

“Sometimes, Watson, it has to get worse before it can get better.”