Extending the Social Development Fund's operations to countries of central and eastern Europe
Doc. 7567
24 May 1996
SUPPLEMENTARY REPLY
from the Committee of Ministers to Written Question No. 365 by Mr. WIELOWIEYSKI
Reply to the technical points raised in the explanatory note [1]
The financing of social housing projects in its member States is indeed one of the Fund's traditional fields of activity, in conformity with its statutory rules.
It is not for the Fund to comment on the member States' internal rules governing the financing of social housing (rent control, budgetary restrictions etc.) At the same time, the Fund does not have the means to compensate for the fact that, for example, the Polish legislation described in the Explanatory Note (p. 3) does not allow for a higher interest rate than 1% to be charged for housing loans, given the ceiling imposed on the annual rent of 4% of the building cost.
Given that the Fund does not receive regular contributions from its member States, it has to first borrow the funds used to finance projects on the international capital markets. Thanks to the member States' financial solidarity expressed in the capital subscribed by them and to its rigorous management, the Fund enjoys privileged access to financial markets, reflected in its AAA/AA+ credit rating. This rating enables the Fund to borrow at more advantageous interest rates than most countries - including the Republic of Poland - borrowing in their own names. The money borrowed by the Fund is lent on to the borrowers for the financing of a part of the investment cost of projects with a minimal intermediation margin to cover the Fund's administrative cost. It should be stressed that the Fund in principle charges the same margin to all borrowers, without differentiating according to the perceived risk, as is done by some other financial institutions.
The only possibility to subsidise interest rates below the "best market conditions" resulting from the mechanism described above is the payment of subsidies through the newly established "Selective Trust Account". This account can be fed on the one hand by voluntary contributions of the member States and on the other hand by the allocation of part of the Fund's annual profits. These profits, which have reached ECU 55 million in 1994, do not result from the normal lending activities, as the intermediation margin barely covers the administrative costs, but from the investment of the Fund's own means.
The Fund's own means consist of
- the paid-up share of the capital subscribed by member States (about 11% of the subscribed capital of ECU 1.3 billion, i.e. approximately ECU 145 million), and
- the reserves accumulated over the years of about ECU 465 million.
These own means, totally just over ECU 600 million (the figure of ECU 1 700 million cited in the Explanatory Note obviously includes the non-paid up capital) are not available to be consumed, for example, to pay for interest subsidies. They constitute the financial basis of the Fund's activities in the sense that they serve as backing for the debt which the Fund contracts on the markets for refinancing. They must be protected and strengthened in tune with the quantitative development of the lending activities in order to protect the Fund's credit rating, in the interest of all borrowers: if the rating were reducing because of a weakening of the financial basis, the Fund would have to pay higher interest rates for the money it raises on the markets, and the higher resource cost would have to be passed on to all borrowers.
This being said, a certain share of the Fund's profits, to be decided by the Administrative Council representing the member States (the Fund's "shareholders") is likely to be made available for the Selective Trust Account, for the purpose of interest subsidies.
But the figures which are quoted in the Explanatory Note are not realistic: in order to subsidise an amount of USD 290 million to an interest rate of 1%, the Selective Trust Account would have to disburse interest subsidies, depending on market conditions of 15‑20 million USD annually, for the entire duration of the loan. Given the volatile nature of the annual profits, it is impossible for the Fund to undertake in advance the payment of such subsidies over a period of up to 10-15 years Even if the Fund were able to guarantee in advance the allocation of such a high amount to the Selective Trust Account every year, this would not " make it possible to subsidise the annual interest rate on the total of 233-290 million dollars granted annually for social housing in Central and Eastern Europe" (Explanatory Note, bottom of p. 3). In addition, the Fund must retain the possibility to respond to other requests for interest subsidies such as those for the two projects in Bosnia which are currently being examined.
As to the "contributions" which the Fund stands to receive from new member States, these consist of
- the subscription of a share in the capital, of which 11.04% must be actually paid in, and
- a contribution to the reserves.
According to the decisions taken by the Fund's organs, these contributions are calculated in such a way that the actual payments expected from new member States with low incomes is very small. Through these contributions, the new member State becomes a share holder of the Fund with all the rights and obligations attached to this status. The funds paid in by a country subsequently to its accession - in four annual instalments, as correctly observed in the Explanatory Note - become part of the patrimony held jointly by the member States and which is the financial basis of the borrowing activities which presumably also increase as a consequence of the accession. They cannot be used for interest subsidies without seriously endangering the Fund's credit rating.
As to the possibility for the Selective Trust Account to subsidise at the same time loans for social housing projects in Central and Eastern Europe and for help in Bosnia, this depends on the volume of the resources available for this account which is likely to vary each year according to the Fund's financial results and to the volume of voluntary contributions.
It will be up to the organs representing the Fund's member States to determine the priorities as to the allocation of these resources between the different tasks which the Fund is called upon to fulfil.
The policies followed to date have proved attractive, not only to the traditional partners in southern Europe, but also to some Central and Eastern European countries: Slovenia and Bulgaria joined the Fund in 1994, and Lithuania and Romania in the beginning of 1996.
Appendix
Written Question No. 365 (2 February 1996, Doc. 7479)
Mr. WIELOWIEYSKI,
1. On the basis of Rule 54 of the Rules of Procedure of the Assembly of the Council of Europe
To ask the Committee of Ministers what steps have been or are going to be taken to implement Recommendation 1273 (1995) on the Social Development Fund of the Council of Europe;
2. In particular, he is concerned about the recommendation to the Committee of Ministers contained in item 7, paragraph iv, sub-paragraphs a. and c. as follows:
"iv invite the Governing Body of the Fund;
a. to renew its efforts to extend the membership of the Fund to the countries of Central and Eastern Europe ... ", and,
"c. to reconsider, in the context of the "trust account", the possibility of raising the Fund's present level of commitment for projects, especially social housing projects, limited at present to 40%, and to apply the lowest possible interest rates with due regard to the statutory provisions;"
As far as he knows, no such steps have been taken so far.
Explanatory Note
Significantly, for several years now the Assembly has been adopting recommendations on extending the Fund's operations to include the countries of Central and Eastern Europe but without result. Admittedly, two countries (Slovenia and Bulgaria) have recently joined the Fund but no credits have been earmarked for the countries of the region even though the Fund's own assets have grown (in both 1993 and 1994 the profits stood at around 70 million dollars).
Given the current credit conditions on the one hand, and on the other, the poor condition of public finances facing the region's states, for most of these countries it is difficult, if not quite impossible, to use the Fund's lending facilities, even though there is a 4 or 5-year grace period. This is why Recommendation 1273 (1995) was adopted.
In Poland, for example, under existing laws, annual rents in social housing may not exceed 4% of the building costs, making it possible to pay back, within 20 years, loans covering only one half of the building cost of social housing, at a 1% interest rate. The other half of the construction cost will be met from the municipal budgets; Given the very bad state of those budgets at present, this will mean making a very considerable effort. Higher interest rates are, therefore, out of the question.
State subsidies are also ruled out in view of the heavy external debt burden and the fight to reduce the budget deficit. In 3 or 4 years' time, Poland will be making its largest ever external debt servicing payments.
At the same time, social housing needs continue to be great and are still growing.
In the present circumstances it is urgent to find resources for lowering interest rates applied to social housing construction loans.
Resources from the Fund might be earmarked for this purpose, at a rate of 20-25% of the net profit for 1993 and 1995, i.e. between 14 and 17.5 million dollars. This would make it possible to subsidise the annual interest rate on the total of 233-290 million dollar loans granted annually for social housing in Central and Eastern Europe.
It should also be emphasised that the amount of 14-17 million dollars would only partially reduce the Fund's resources because at the same time, the Fund might be receiving contributions over four years from other countries of Central and Eastern (excluding Russia). The total of such contributions could well exceed 20-25 million ECU, or more than 26 million dollars. Therefore, over 4 years the Fund might see a net increase of 6.5 million dollars in its funds. Net expenditure would thus amount to 7.5 - 11 million dollars per annum, or a maximum 0.3-0.5% of the Fund's overall assets.
At the end of 1994 the Fund's capital, reserves included, amounted to 1,700 million dollars. The matter is worth considering since the resources involved would be small while the economic and political benefits would be obvious.
The Fund will doubtlessly also have other tasks in the context of the "trust account", notably help for Bosnia. In the light of the figures given above, there is no reason why both tasks could not be carried out simultaneously.
[1]. See appendix