The Inter-American Development Bank's Board of Executive Directors today approved the inclusion of a local currency conversion clause for pending disbursements of a US$300 million loan to Mexico to support decentralization and strengthen state and municipal governments.
This is the first time the IDB offers such an option in a loan. Recent research suggests that by lending in local currency multilateral institutions can help borrowing countries avoid exposure to currency fluctuations and foster the development of financial markets. Lessons learned from this experience may shape future IDB operations.
"This pioneering instrument is being watched closely by many Latin American and Caribbean countries that view it as a potential tool to expand and deepen their own capital markets," IDB President Enrique V. Iglesias said after the vote.
The local currency conversion clause will be added to a loan approved in 2001for the first phase of Mexico's FORTEM program. This nine-year initiative supports decentralization by helping states and municipalities modernize their administration and improve their financial standing.
As an incentive for Mexican subnational governments to undertake reforms and adopt best practices such as transparency in budgeting and spending, the program offers financing for investments in infrastructure and social projects.
The option will allow the IDB to make disbursements in Mexican pesos to the BANOBRAS federal development bank. In turn, BANOBRAS will be able to offer subnational governments long-term, fixed-rate loans in local currency.
BANOBRAS expects that the state of Jalisco, a committed participant in FORTEM, will be the first beneficiary of the currency conversion clause. The state has used the decentralization program to strengthen its administration practices such as budgeting, investment planning, accounting and transparency.
Through its commitment to FORTEM Jalisco has improved its management and achieved a solid financial performance, obtaining higher credit ratings and setting an example for other states.