Do Lenders Make Effective Regulators? An Assessment of the Equator Principles on Project Finance

Abstract

Over the past decade and a half, private sector actors have developed innumerable environmental and social standards whose stated intention is to further global public interests. The extent to which these standards actually achieve these goals has been the subject of considerable debate. I hope to shed light on this debate by examining a specific standard: the Equator Principles on project finance, developed in 2003 by a group of major financial institutions and intended to ensure that the large infrastructure projects these institutions finance are built and operated in an environmentally and socially responsible manner. The Equator Principles turn lenders into regulators, relying on them to ensure borrowers execute projects in compliance with its terms. This article looks at lenders’ effectiveness as regulators. Specifically, it examines their effectiveness in carrying out each of three tasks commonly associated with regulation – standard setting, monitoring, and enforcement – and asks whether other current or potential regulators may be better placed to carry out these tasks. It argues that lenders are relatively well-placed to set standards and monitor borrowers’ conduct, but are not well-placed to enforce the Equator Principles. Their short-term interest in the completion of the projects they finance impairs their ability to credibly threaten to withdraw financing in the face of persistent non-compliance by borrowers. This flaw can be addressed, however, by augmenting lenders’ enforcement role through the creation of new institutions, such as an ombudsperson, or by empowering existing institutions, such as state-level regulators, through the provision of technical assistance.

Keywords: equator principles, project finance, sustainable development, corporate social responsibility, responsive regulation, Theun-Hinboun, Botnia

JEL Classification: K23, K32