The private sector is present in most crisis situations that hit fragile countries. To act in an effective manner in such circumstances, development professionals need to juggle between different time horizons (i.e., short, medium and long-term), different-sized businesses (SMEs mostly) and varying degrees of formality. The only constant in all of these situations is the high level of risk involved.

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This article is an excerpt from Issue 27 : Vulnerabilities and crises

Both the extent and the number of crises appears to be on the rise: the number of natural disasters has more than trebled in the past 30 years while violence in various different forms made 2014 and 2015 the bloodiest years on record since the end of the Cold War. Conscious of the related challenges, the international community has doubled the aid provided to countries in fragile situations: $65 billion were earmarked in 2014 for providing public goods, rebuilding social support structures and for institutional capacity building. In such circumstances, providing support for the private sector has frequently been assigned a lower priority due to a misunderstanding of the role and needs of the stakeholders involved and a general feeling of powerlessness faced with the complexity of the processes at work.

Private sector support policies need to become part and parcel of both preventive and curative crisis management.

And yet, the private sector is intimately bound up with processes that culminate in fragile states or, conversely, help countries to emerge from crises. It can be a catalyst for social cohesion and wealth creation or – in the absence of regulation – start to engage in predatory behaviour that triggers “destructive destruction” that is far removed from Schumpeter’s “gale of creative destruction.” As new forms of vulnerability emerge and spread, private sector support policies need to become part and parcel of both preventive and curative crisis management. However, deploying effective private sector development and support in fragile countries in the wake of a crisis first requires a very good understanding of the specific dynamics of these environments as well as the roles and needs of the various different actors.

Post-crisis: a smaller and more informal private sector

In the wake of a crisis, or in a context of fragile structures, private sector operators frequently have to contend with a very fraught business environment. Access to markets for credit, supplies, external markets, etc., is rendered difficult by a lack of infrastructure and weakened institutions, while the precarious state of central government results in a virtually non-existent judiciary and a constant, residual level of violence. Financial intermediaries who have been burnt by the increase in their non-performing loans are very reluctant to get credit flowing again even though this is a pre-requisite for any economic recovery.

Consequently, businesses begin trading again from a smaller base and find it very hard to grow (Speakman and Rysova, 2015). The level of informal economic activity may also be very significant, either because “formal” businesses adopt “informal practices” in a context of much weaker institutions, or because people set up subsistence micro-businesses activities. Poorly-structured businesses also reflect a lack of financial and managerial expertise and the dearth of qualified workers.

Private sector operators frequently have to contend with a very fraught business environment

Consequently, the vast majority of private sector operators in fragile countries consist of micro-businesses and SMEs working mostly in the grey economy whose role is just as important as that of much larger corporations.

A fundamental but ambiguous role

The private sector plays a central but ambiguous role in situations of vulnerability and crisis. As the principal economic growth driver, it is fundamental to job creation, generating household and government income and providing access to essential goods and services. Large corporations can act as catalysts for impacting society, especially when they step in to provide public services that would normally be provided by the State – frequently the case in rural areas. The financial sector also plays a key role by giving people access to credit and other products needed to handle crisis situations, such as savings schemes, insurance, remittances from migrants, etc. Lastly, entrepreneurs can play a stabilising role by making a political commitment to conflict prevention or resolution (the Tunisian national dialogue quartet is a good example here).

Conversely, certain private sector players may seek to benefit from crises by actually accentuating vulnerabilities. Such “destructive entrepreneurship” may take a number of forms. Illegal trade (in drugs, arms, people, etc.) or the black market may be a financial boon for rebel or gangster elements. In sectors like the extractive industries, businesses may also increase economic vulnerability and weaken institutions by fuelling corruption. Lastly, a regulatory void may lead certain businesses to trample on ethics, resulting in aggravated social disparities (MacSweeney, 2009).

The violence and contagiousness of crises require rapid action.

For development partners, the task is one of identifying which economic initiatives to support given the forms of vulnerability that have been identified, and the arrangements that need to be deployed in order to do so. Agence Française de Développement (AFD) and Proparco recently commissioned a study into this whole area.

What types of initiative?

Situations of vulnerability and crisis give rise to sometimes contradictory imperatives. The violence and contagiousness of crises require rapid action but the fragile nature of the situation calls for innovative and progressive – and necessarily slow and time-consuming – approaches. Secondly, the sheer scale of what is needed necessitates a massive response whereas the low level of maturity and vulnerability of the actors involved limits the scale of intervention. Finally, the level of unsatisfied local demand promises healthy potential returns on investment and significant societal impacts, but the very high risk considerably reduces the yield to risk ratio and, by inference, the appetite of private sector operators. Work is therefore required on a triple continuum: the impact time-frame, the size of businesses and the degree of business formalization.

It is essential to focus on structural obstacles by improving the quality of infrastructure and the regulatory framework.

The first finding of the study stresses the need to simultaneously combine approaches that are designed to produce short-, medium-, and long-term impacts. It is vital to quickly limit the consequences of the crisis and to provide vulnerable populations with the means of getting subsistence businesses (back) up and running. More structured businesses will need suitably adapted recovery-type loans with longer grace periods and maturities that give them time to rebuild their assets and working capital. These solutions require close support from financial intermediaries who, because they have borne the full brunt of the crisis, tend to greatly reduce their risk acceptance which obviously hampers any resumption in economic activity. In the medium-term, financial inclusion initiatives can help to bolster the resilience of local populations. Business productivity can be boosted by capacity-building and structuring programmes. In the longer term, it is essential to focus on structural obstacles by improving the quality of infrastructure and the regulatory framework. These highly complementary approaches need to be deployed simultaneously and not sequentially in order to gradually reduce the level of vulnerability on a sustainable basis.

The second finding highlights the need to tailor initiatives to different types of stakeholders. Supporting financial intermediaries is definitely a very effective type of action when the aim is to provide financing for smaller and more informal businesses. Investment funds (for targeting high-potential businesses), banks (for a volume effect), and micro-finance institutions (to develop an offering adapted to the smallest businesses) are complementary players in a global response that embraces all stakeholders.

Finally, it is often necessary to accept a high level of risk, which is the common denominator in all of these situations. New approaches combining public and private funding can be used to cover the additional risk and vulnerability inherent in these situations, either in the form of first loss guarantees or patient capital arrangements that accept lower yield to risk ratios. Grants and subsidies are also needed to structure businesses and make them more suitable for external financing. Indeed, partnering businesses can provide a great opportunity for “bottom-up reform” that fits very well with macro-level initiatives targeting businesses.

Partnership-based, participative arrangements with all stakeholders, both local and international, are needed.

Support for the private sector needs to comply with a number of overriding principles for preventing crises and combating vulnerabilities. A preventative approach is needed that tackles the roots of crises and not merely their symptoms. Rapid impact initiatives must be combined with longer-term action to stabilise situations and battle underlying structural problems. Partnership-based, participative arrangements with all stakeholders (i.e., both local and international) are needed to maximise synergies and build the local foundations for change, together with a regional focus for responding to crises that extend beyond national borders.

These proposed approaches include risk financing, capacity building and business support components and development partners need to be able to come up with suitably adapted resources. All of this constitutes a call for more effective coordination between the private sector support provided by development finance institutions on the one hand and public development agencies on the other.

References

Speakman, J. and Rysova, A., 2015. The Small Entrepreneur in Fragile and Conflict-Affected Situations. “Directions in Development” Collection. World Bank, Washington, DC. Available at: https://openknowledge.worldbank.org/bitstream/handle/10986/19906/898560PUB0v10900Box385297B00PUBLIC0.pdf?sequence=5&isAllowed=y
MacSweeney, N., 2009. Private Sector Development in Post-Conflict Countries. Donor Committee for Enterprise Development (DCED). Available at: http://www.enterprise-development.org/wp-content/uploads/PostConflict_PSD_EN.pdf