How Emerging Markets are Leveraging Project Finance for Growth

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Emerging markets use limited-recourse loans and specific legal frameworks to fund large-scale infrastructure, energy, and industrial projects, resulting in a separate legal company with cash flows and assets as the principal repayment source. This technique enables the building of required infrastructure and industrial assets, which would otherwise be prohibitively expensive for a single sponsor, hence boosting economic growth. Focusing on long-term, large-scale initiatives helps emerging nations attract international investment, raise national GDP, and achieve sustainable development goals.

The term “emerging markets” refers to an economy that is experiencing significant economic growth and shares some, but not all, of the features of a developed economy. Emerging markets are countries that are shifting from “developing” to “developed” status.

Some common characteristics of emerging markets are illustrated below:

1. Market volatility

Market volatility stems from political instability, external price movements, and/or supply-demand shocks due to natural calamities. It exposes investors to the risk of fluctuations in exchange rates, as well as market performance.

2. Growth and investment potential

Emerging markets are often attractive to foreign investors due to the high return on investment they can provide. In the transition from being an agriculture-based economy to a developed economy, countries often require a large influx of capital from foreign sources due to a shortage of domestic capital.

Using their competitive advantage, such countries focus on exporting low-cost goods to richer nations, which boosts GDP growth, stock prices, and returns for investors.

3. High rates of economic growth

Governments of emerging markets tend to implement policies that favor industrialization and rapid economic growth. Such policies lead to lower unemployment, higher disposable income per capita, higher investments, and better infrastructure. On the other hand, developed countries, such as the USA, Germany, and Japan, experience low rates of economic growth due to early industrialization.

4. Income per capita

Emerging markets usually achieve a low-middle income per capita relative to other countries, due to their dependence on agricultural activities. As the economy pursues industrialization and manufacturing activities, income per capita increases with GDP. Lower average incomes also function as incentives for higher economic growth.

How Emerging Markets are Leveraging Project Finance

Mechanisms for Leveraging Project Finance

Targeted Investment in Key Sectors: Project finance funds large-scale projects essential for economic growth, such as energy, mining, and infrastructure, which are often too costly for sponsors to finance alone.
Attracting International and Domestic Capital: By offering structured finance and engaging in market development, emerging markets attract international and domestic investors to fund projects that promote economic sustainability.
Leveraging State Activity: Governments can issue sovereign bonds and invest in state-owned enterprises to foster more robust local capital markets, which in turn supports greater private sector participation in project finance.
Promoting Digital and Sustainable Infrastructure: Emerging markets are increasingly focusing on “smart” infrastructure projects and renewable energy, utilizing digital tools for efficiency and attracting investment into sustainable development.

Support from Development Partners and Policymakers

Multilateral Development Banks (MDBs): Organizations like the World Bank provide essential support, helping to build the frameworks needed to integrate climate and development considerations into capital markets.
Policy Initiatives: Policymakers are implementing reforms to improve transparency, reduce corruption, and strengthen corporate governance, creating a more stable and attractive environment for investors.
Regional Market Integration: The OECD supports regional collaborations to develop domestic capital markets and integrate them into global financial systems, providing policy guidance tailored to specific regional needs.

Benefits for Emerging Economies

Bridging Funding Gaps: Project finance helps emerging markets fill critical funding gaps for essential infrastructure and industrial development.
Economic Growth and Job Creation: By enabling large-scale projects, project finance stimulates economic activity, creates jobs, and meets the growing demand for services from expanding middle-class populations.
Enhanced Financial Inclusion and Capacity: Efforts in financial literacy and education help citizens and businesses navigate complex financial markets, and governments can use support programs to catalyze private investment in key sectors.

Top 5 Emerging Markets

Brazil, Russia, India, China, and South Africa are the world’s largest emerging markets. In 2009, the leaders of Brazil, Russia, India, and China convened to form “BRIC,” an organization aimed at improving political relations and trade among the world’s largest rising markets. South Africa joined the “BRIC” organization in 2010, which was subsequently renamed “BRICS.”

1. Brazil

In relative terms, Brazil’s GDP expanded at a 7.5% rate in the early 2010s. However, due to political instability and economic sanctions, growth slowed and turned negative in 2016 (-3.5%). Brazil also had significant advances in income levels and poverty reduction from 2003 to 2014, but progress has been slow since 2015 due to decreasing economic activity.

Political uncertainty and reduced government spending have had a significant impact on Brazil’s economy. However, the country’s future seems promising. The domestic economy expanded by 0.6% in 2019 and is predicted to continue to develop due to infrastructure upgrades, foreign investments, and reliance on agricultural commodities such as soybeans and coffee.

2. Russia

Russia’s GDP grew exponentially between 1999 and 2008, driven mostly by oil exports and rising oil prices. The country’s economic growth has been enhanced by the transition from communism to capitalism, which began in 1991, thanks to economic reforms and an export-oriented trade policy.

However, since 2014, Russia’s economy has suffered as a result of political tensions and trade sanctions imposed by the United States, Canada, Japan, and the European Union, as well as volatility in oil prices, which account for about 52% of Russian exports. The Russian economy grew at a rate of 1.7% in 2019 and is expected to grow faster if geopolitical tensions with trade partners like the US, Canada, Japan, and the EU are reduced.

3. India

India established itself as an emerging market following trade liberalization and other significant economic reforms in 1991. The Indian economy has been developing gradually and at quite high rates. It has averaged 7.1% over the last decade, with occasional swings due to political instability and economic changes.

Essentially, India’s long-term economic success can be credited to the rise of its industrial and service sectors, which are fueled by exports and foreign investment. India is also experiencing increases in capital and labor productivity as a result of technical breakthroughs and educational reform. India, like China, is currently one of the world’s largest emerging markets.

4. China

Since 1978, when trade liberalization and economic reforms were implemented, the Chinese economy has grown at an average pace of 10% each year. China’s economic growth has been driven by government spending, the expansion of its manufacturing sector, and exports (particularly electronic equipment).

However, the country’s income per capita remains low. Although only 3.3% of the Chinese population lives in poverty, 30% live on less than US$5.50 a day. Nonetheless, since the Chinese government concentrates on expanding GDP through spending, disposable incomes are expected to rise, resulting in sustained economic development.

5. South Africa

South Africa joined the BRICS alliance in 2010, after witnessing -3% GDP growth in 2009 following the 2008 Global Financial Crisis. Following the financial crisis, the South African government implemented a series of initiatives to increase GDP through government spending and consumption. Economic growth surged from 2010 to 2012, but slowed in 2012 to 2016, before rising again in 2017.

Mining commodities account for the majority of South African exports. Therefore, export volumes depend on commodity prices, which are highly variable. Fluctuations in export quantities explain some of the volatility in GDP growth over the past few years.

Although South Africa’s GDP per capita has grown throughout time, so has the unemployment rate (29% as of 2019). High levels of unemployment and criminality have hampered the economy’s development and investment potential, and these challenges must be addressed by legislative changes.