Revisions to the OECD Arrangement regarding down payments – good news for emerging market participants?

For those unfamiliar with the OECD Arrangement, it is referred to as a "gentlemen's agreement" on the OECD website, and it places limitations on the financing terms and conditions to be applied in respect of financings supported by export credit agencies from the OECD Arrangement's participants (Australia, Canada, the European Union, Japan, Korea, New Zealand, Norway, Switzerland, Turkey, the United Kingdom and the United States). Put simply, the OECD Arrangement is the non-binding, but generally adhered to 'rules of the game' for export credit agency supported financings.

Prior to its revision, the general position under the OECD Arrangement was that a purchaser of goods and services would be required to make a downpayment of at least 15 per cent. of the export contract value, with the remaining 85 per cent. being eligible for export credit agency supported financing. As a response to what the OECD referred to as a "market failure caused by the ongoing COVID-19 crisis", the OECD Arrangement was revised so that a downpayment of only 5 per cent. of the export contract value would be required for sovereign borrowers in emerging markets, provided that the transaction was guaranteed by a ministry of finance or central bank.

The revision to the OECD Arrangement became effective on 5 November 2021, and is temporary. For a transaction to benefit from the relaxation in the downpayment requirement, an application for supported financing must be submitted to the relevant export credit agency prior to 4 November 2022, and the relevant export credit agency must have made a final commitment to the transaction within a further 18 months.

Several months on from the revision to the OECD Arrangement becoming effective, there's cause for cautious optimism in terms of the liquidity related benefits a lower downpayment could yield for emerging market sovereign borrowers (although recent macro-economic events have made this even more challenging). It has long been a challenge in sub-Saharan African (as well as many other emerging markets) for certain sovereign borrowers to source 15 per cent. of an export contract's value in respect of large government projects, either out of cash or from commercial lending sources. Advocates of the revision to the OECD Arrangement have argued that a 5 per cent. downpayment is more achievable for a sovereign emerging market borrower, but yet remains a sufficient risk mitigant for export credit agencies involved in the transaction. The revision also means that 95 per cent. rather than 85 per cent. of the export contract's value can be covered by export credit supported financing, which typically has better terms (e.g., a longer tenor and/or a lower interest rate) compared to its unsupported, commercial lending equivalent.

It's important to add that not all market participants are in favour of the revision to the OECD Arrangement. Given the revision only became effective on 5 November 2021 in response to the COVID-19 crisis and emerging markets had been living with COVID-19 for almost two years by this point, some critics believe the temporary change is 'too little, too late'. In addition, certain commercial lenders initially argued that adequate market capacity remains in order to lend 15 per cent. on an uncovered basis for the originally required downpayment on competitive terms. From their perspective, the revision of the OECD Arrangement may crowd out what is a burgeoning market for downpayment financing, which may prove harmful in the long term once the revision to the OECD Arrangement is no longer in force. Nevertheless, recent increases in interest rates and commodity and energy prices have made the financing landscape even more challenging for borrowers in recent weeks, especially for countries who do not export such commodities (which includes many of the lower income countries in sub-Saharan Africa).

For now, it's too early to tell the long term impact of the revision to the OECD Arrangement, but at least in the short term it offers a potential liquidity boost to sovereign borrowers in emerging markets committing to vital infrastructure projects and seeking to rebuild, which is especially welcome given current macro-economic headwinds which are not caused solely by the pandemic. It remains to be seen whether this revision will only be a temporary measure, or if it may ultimately lead to a permanent revision to the OECD Arrangement in one form or another.