Development Banks and Socio-environmental Risk: In Search of an Improved Prognosis for Sensitive Development Projects

Development projects, especially extractive, hydro or forest-clearing projects, frequently generate significant opposition from their neighbors, rendering projects infeasible. EJ Atlas, the most comprehensive compilation of such conflicts, lists 2,592 instances of socio-environmental conflicts around the world. Disputes and conflict may arise from numerous topics, such as water rights and water usage, air pollution, overburden and tailings usage and disposal, deforestation, participation in economic benefits, citizen participation in decision-making and more. Given their societal mandate, development banks should be especially attentive to socio-environmental citizen reactions to projects.

In a new working paper, Daniel M. Schydlowsky examines the exposure of development banks to socio-environmental conflicts and offers ways for development banks to cope with conflicts and their externalities.

Main findings:

• Socio-environmental conflicts generate costs, sometimes substantial ones if not dealt with, but project accounting systems are not organized to allow an easy identification of conflict costs when they occur and even less for externalities. Only when conflicts become very major and, perhaps even death has occurred, do the costs command attention.
• Properly managed conflicts offer models on how to do things better to reduce substantial risk and costs.
• Conflict can spread without geographic contiguity and even play ‘hopscotch’ internationally.
• Externalities are of critical importance. When problems occur in major extractive industries, the costs are not contained within the project or the operating company. Supplier and client links spread the effect of socio-environmental conflicts up and down the supply chain, involving non-related enterprises, as well as funders. 
  • Sufficient turbulence may affect a country’s credit rating or international risk premium, with effects throughout the economy.
• Development banks can be affected two ways: directly, in the projects they fund or co-fund and indirectly, through their wholesale windows, when they finance the portfolios of on-lenders.
• Development banks can respond to the risks they run by: (a) becoming equator banks, thus contributing to reducing the primary risk of projects developing difficulties and (b) acting to contain the externalities risk inherent in their wholesale banking operations.
• They can also promote national regimes of prevention and abatement of socio-environmental risk by advocating for regulatory action on the part of the Bank Regulator and acting as lead implementer of such regulations.

Conflict in the extractive industry exacts a range of costs affecting different parts of the economy and evidence suggests conflicts are not inevitable, with some companies succeeding at coexisting with their neighbors for long periods of time. The same can be said of hydroelectric projects and others. Thus, Schydlowsky argues the challenge is to institutionalize a modus operandi for large projects that promotes respectful and beneficial relationships for all the stakeholders involved.