Conflict and project finance

Exploring options for the better management of conflict risk

Summary:

Investment projects in politically unstable countries present considerable risk management challenges to project sponsors, as well as their financiers and insurers. In particular, conflict risk – the risk that a project’s development, construction or operations may be adversely affected by the outbreak of violent conflict - can be a major threat to a project’s creditworthiness. Demonstrations and blockades by local communities; sabotage of project installations or facilities; kidnapping or assault to staff; outbreak of violent clashes between armed groups; demanding of payments by armed groups to project sponsors – all of these expressions of violence can impose direct costs to an investment, including reputational and even legal challenges arising from proximity to these factors.

At the same time, no project located in a politically unstable, conflict-prone area will be neutral. That is, just as a project may be adversely affected by violent conflict at the project or national levels, the project itself will have an impact on the conflict context within which it is located. The project and its context thus must be understood to have a two-way relationship.

This background paper focuses on the linkages between project finance and conflict. Project finance is frequently used to fund investments in higher-risk developing countries – particularly for large infrastructure and natural resource extraction projects. These investments are often linked to violent conflict at local and national levels due to interactions with certain structural and proximate causes of conflict, including economic underdevelopment and natural resource dependence. Even where conflict appears to be geographically far from a project, it is possible that investments, in contexts where resources are scarce, will soon become part of the conflict dynamic, boosting government access to revenue that can be used to prosecute conflict; attracting attention and demands from conflict actors; bringing migrant workers into a locality; and becoming a source of heightened competition locally.