The Overseas Private Investment Corporation: Underwriting the ‘New’ Rules of the Game

Chapter 1: The Overseas Private Investment Corporation: Underwriting the ‘New’ Rules of the Game The concept of government guarantees to protect foreign investors against non- commercial or political risks has a long lineage, having been used extensively by the British to fund the construction of Indian railways from the mid-19th century onward.1 In the modern era, the first publicly backed investment guarantee program was established by the United States (U.S.) as part of the Marshall Plan for European reconstruction (1948).2 The basic idea was simple enough. By agreeing to indemnify U.S. foreign investors against losses arising from the inability to convert local currency revenues into U.S. dollars, the government sought to encourage the flow of private investment capital and expertise as a supplement to public aid expenditures. Later, during the 1950s, the suite of compensable risks would be expanded to include the illegal ‘taking’ of foreign owned property (expropriation and confiscation), while the focus of the program shifted from Europe to ‘friendly developing countries’. Initial corporate concerns regarding government interference in private investment decision-making, however, meant that the volume of insurance issued would remain low until the early 1960s, wherein demand rose rapidly. Faced with rising demand from an ever increasing array of U.S. multinational investors and a record number of insurance claims, but burdened with limited resources the guaranty program was in 1971 transferred to an independent agency operating as a wholly U.S. government- owned statutory corporation, the Overseas Private Investment Corporation (OPIC). Its mission: ‘to mobilize and facilitate the participation of U.S. private capital and skills in the economic and social development of less developed countries and areas’.3 1 See W.J. McPherson, ‘Investment in Indian Railways, 1845-1875’, The Economic History Review, New Series, Vol. 8, No. 2, 1955, pp. 177-186. See also D. C. M. Platt, Business Imperialism, 1840- 1930 (Oxford: Clarendon Press, 1977). 2 Alan C. Brennglass, The Overseas Private Investment Corporation: A Study in Political Risk (New York: Praeger, 1983). 3 Today, OPIC’s operations are overseen by a fifteen member Board, eight of whom are drawn from the private sector, with the remaining seven members drawn from the federal government. The President appoints all Board members for three-year terms, and the Senate must approve each appointment. The following government agencies and departments are represented on OPIC’s Board: Department of State, Department of Commerce, Department of Treasury, Department of Labor, the Office of the U.S. Trade Representative and the Agency for International Development (USAID). The board meets four times a year and their approval is required for all project finance investments and major insurance contracts. Theodore H. Moran, Reforming OPIC for the 21st Century (Washington D.C: International Institute for Economics, 2003). See also www.OPIC.gov 1 Today, the agency pursues this mission by insuring U.S. investors against political risks including: expropriation, nationalization, confiscation, currency inconvertibility, war, terrorism, sabotage and political violence for periods of up to twenty years.4 The agency also provides direct loans through its ‘Direct Loan Fund’, as well as loan guarantees for commercial lenders. Finally, OPIC also operates investment funds, which provide investment capital to private equity fund managers for the purpose of portfolio investment in less developed countries (LDCs). More technically, the economic rationale underpinning the provision of investment insurance is two-fold. First, the provision of insurance is intended to stimulate additional FDI as a supplement to the foreign-aid program, though the empirical evidence in support of such claims is scant at best.5 More particularly, it is claimed that obtaining political risk insurance (PRI) serves to reduce the average ‘cost of capital’ as well as conferring additional capital raising capacities due to the market signaling function, thereby, enabling marginal projects to proceed.6 Beyond this, OPIC advocacy and mediation provides U.S. foreign investors with an ‘umbrella of protection’ backed by the United States government. In this manner, OPIC claims to have created 264,000 jobs in the U.S. and $69 billion in exports since the program’s inception. While externally, OPIC insured investments are claimed to have supported 3,100 projects in LDCs, generating more than $11 billion in host government revenues and 680,000 jobs. Finally, OPIC-supported 4 For definitions of Expropriation in OPIC Contracts See Appendix C: ‘OPIC Expropriation Cover’. 5 The Multilateral Guarantee Agency (MIGA) claim MIGA insured investments generate an investment exposure ratio (IER) of 6.73. In this manner, MIGA estimate that the $7.145 billion of insurance issued by the agency since 1989 has generated FDI equivalent to $36 billion. The IER, using a sample of 52 MIGA insured investments, was calculated by dividing the total amount of investment facilitated by the net exposure to political risks. See Gerald T. West, and, Ethel I. Tarazona, Investment-insurance and Developmental Impact: Evaluating MIGA’s Experience (Washington: The International Bank for Reconstruction and Development, 2001). Anecdotal evidence collected by OPIC supports the assertion. For instance, ‘The manager of Newbridge Andean Partners Fund, has estimated that OPIC’s initial $100 million loan stimulated $137 million in new investments, $74.7 million in equity coninvestments, and $330 million in vendor financing, for a total of $542 million flowing from OPIC’s original commitment.’ See Theodore H. Moran, Reforming OPIC for the 21st Century (2003), p. 94. The problem, however, as noted by Moran, is that ‘MIGA’s approach contains some fundamental problems’ as it does not adjust for country risk-premiums. The result is that contrary to logic, the method frames MIGA insurance as ‘most effective’ where its services were least needed.’ See Theodore H. Moran, Reforming OPIC for the 21st Century (2003), p. 45. 6 Referring specifically to debt-financed investments (commercial bank loans etc), it is held that because PRI serves to transfer a portion of the investor’s risk-suite to a third party, then the lender’s credit risk profile is reduced so as to reduce the minimum loan-loss reserves held by the debt-provider, which in turn lowers average the cost of capital. 2 investment funds have invested $1.9 billion in 216 firms in 40 developing countries. Which in turn are claimed to have created an additional 45,000 jobs and $695 million in host state tax revenues.7 In issuing insurance and providing loans and loan guarantees OPIC is required to follow standard risk-management practices so as to ensure that premium income plus its statutory reserves are capable of meeting any claims paid plus operating expenses. For this reason, Elizabeth Kessler contends that OPIC, in following the reserves principle and the law of large numbers, functions much the same private insurers.8 It does so, through limiting its exposure to any single country or investor to a maximum of ten percent of its total exposure or liabilities. Apart from these basic principles of insurance, the agency like any other type of insurance provider must confront two classic insurance phenomena, adverse-selection and moral hazard (asymmetric information problems). Adverse-selection refers to the risk that for any given pool of investors, it is more likely that those projects with higher risk profiles will seek out insurance while those with a low expectation of loss will opt out of the insurance pool or self-insure. The agency attempts to counter this by charging different premiums depending on the country in which the project is located, the risks covered and finally, the investment type. The second problem, moral hazard, arises when the insured changes their behavior, due to the presence of insurance, so as to make losses more probable. The agency attempts to minimize this by limiting indemnity to 90 percent of total exposures as well as monitoring investments to ensure investors ‘act in good faith.’9 This thesis is concerned to understand the role of the United States investment insurer, OPIC, in the international property rights regime. Specifically, its role in underwriting the ‘rules of the game’— where rules are understood to ‘permit, prescribe or prohibit certain actions’—through the provision of investment insurance and financing on 7 See Theodore H. Moran, Reforming OPIC for the 21st Century (2003), p. 93. In assessing the developmental impact of a project, the following are examined: foreign exchange benefits (project imports and capital outflows); net annual taxes, initial local expenditures, and local employment effects for five years after the commencement of operations. 8 Elizabeth Kessler, ‘Political Risk Insurance and the Overseas Private Investment Corporation: What Happened to the Private Sector?’ New York Law School Journal of International and Comparative Law 13, 2 (1992), 203-227, p. 206. 9 Elizabeth Kessler, Political Risk Insurance (1992), p. 209. 3 behalf of U.S. foreign infrastructure investors in the developing world.10 Second, the thesis seeks to explain the evolution of U.S. anti-expropriation policy viewed through the lens of the OPIC administered insurance program. The aim, to understand the policy drivers underpinning the agency’s contemporary role in the settlement of investor-state

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