In 2022, a G-20 expert panel review published a report "Boosting MDB's Investing Capacity," which included a recommendation to incorporate uplift from callable capital into multilateral development banks' (MDB) capital adequacy frameworks as one approach that can support increasing lending headroom.

S&P Global Ratings responded to these recommendations (see "A Closer Look At The G-20 Expert Panel Review Of MLIs' Capital Adequacy Frameworks," Oct. 11, 2022) and noted that callable capital could be a useful risk mitigant tool to support creditworthiness when there's downward pressure on our capital adequacy assessment. Specifically, it could provide meaningful uplift to an MLI rating if capital ratios were to deteriorate markedly, for example, from a large increase in lending. However, we acknowledge that relying extensively on callable capital for expanding the balance sheet could create some vulnerabilities on MLI balance sheets and to ratings.

Given the capitalization strength of most MLIs, our ratings rarely incorporate an uplift from callable capital. In fact, we only give credit to callable capital by one notch uplift to EUROFIMA European Co. for the financing of Railroad Rolling Stock and the Central American Bank for Economic Integration, while all major MLI ratings are based on their intrinsic capital levels and other rating factors.

As discussions on how to utilize different capital measures to enhance lending continue, callable capital undoubtedly remains a potential tool for capital and lending purposes. In recent months, many MLIs (The World Bank, the African Development Bank, the Inter-American Development Bank, the Asian Development Bank, the European Bank for Reconstruction and Development), have published reports on its callable capital, at the request of shareholders, to clarify circumstances that could lead to a capital call and outline current internal processes to meet such a call.

As part of this broader exercise, this FAQ seeks to clarify key aspects of how we incorporate and view callable capital from a rating perspective, and whether recent reports published by the sector would change our analysis of callable capital in any way.

Frequently Asked Questions

Why does S&P Global Ratings consider callable capital as part of the issuer credit rating (ICR) and not in the stand-alone credit profile (SACP)?

Across asset classes, including MLI ratings, we make a distinction between the stand-alone credit profile (SACP) and the final issuer credit rating (ICR). The SACP is not a rating, but a component of the issuer credit rating to provide information on an issuer's creditworthiness in the absence of extraordinary intervention from its parent or affiliate or related government, and this concept is applicable in most corporate and government asset classes. For MLIs, the SACP considers the capital position of an institution, among other factors, before any callable capital considerations. Callable capital, in our view, is a form of extraordinary support that we factor into the rating after the SACP to derive the final issuer credit rating.

We do not factor callable capital into our capital ratio which drives, in part, the SACP, because we don't consider callable capital as having the features of equity required to be incorporated in total adjusted capital. Particularly, it needs to be fungible and be able to absorb losses on the balance sheet, irrespective of where they occur. For most MLIs, the Articles of Agreement make it very clear that callable capital can only be used to meet bond and guarantee obligations and only after exhausting other capital reserves. Also, callable capital does not represent money paid-in unless in a very severe stress scenario, and therefore behaves more like a contingent instrument, which does not qualify under our definition of total adjusted capital.

While we may consider hybrid capital in our definition of total adjusted capital depending on our view of its equity content, it is precisely because these are funds paid-in and have conditions that support the conservation of cash and absorption of loss while the entity is still a going concern. Callable capital, in our view, would come into play at a point of nonviability of the institution. Before arriving at this stage, we expect shareholders to have explored capital injections through other means, and if not, it could be a sign of reducing support indicating that callable capital could be less likely forthcoming.

How do we incorporate callable capital into the ICR?

Callable capital, in our view, can provide up to three notches of uplift to the SACP to arrive at the issuer credit rating. We provide this uplift only if the capital adequacy assessment prior to any callable capital considerations is not at the highest category. If an MLI already has an extremely strong capital adequacy assessment, typically indicated by a risk-adjusted capital ratio above 23% or an SACP of "aaa", callable capital will not provide uplift to the rating. As indicated above, it is rare that we incorporate this uplift to MLI ratings as many manage their RAC ratios above 23% and 41% of the asset class already have a SACP of 'aaa'.

We only consider callable capital from shareholders that are rated at or above the SACP of the MLI. This is a way for us to reflect two things: a scenario where MLIs would be required to make a call on callable capital would likely be in a world where there are significant sovereign pressures, and therefore creditworthiness would be an indication of their constrained capacity to provide support to the MLI, and a higher SACP underpins a higher rating, therefore it incorporates a larger stress level that the MLI should be able to withstand.

How do we determine the potential uplift to the rating from callable capital?

We notch up from the SACP based on our qualitative assessment of various factors, like the adequacy of the legal and administrative processes to ensure a capital call and the shareholders' willingness and ability to make these payments, in part informed by their track record with the institution and the strength of the MLIs' policy importance.

For MLIs to achieve the full notching, this would need to be underpinned by a very strong or strong policy importance, which is a necessary but not sufficient condition. For instance, if an MLIs capital ratio declines because of significant arrears accruing on the balance sheet, this could negatively weigh on the preferred creditor status of an MLI, and its policy importance. We would expect shareholder commitment to potentially wane under these circumstances and therefore we would likely limit the callable capital uplift.

At the same time, we also determine how efficient a capital call process could be, in part informed by an MLI's financial and risk management policies and processes and shareholder commitment. There are a small number of entities in the asset class that have extended the use of callable capital to come into play when the institution is still a going concern and linked explicitly to capital parameters, and not when the institution is facing liquidation. This can inform our view of the efficiency of this process and shareholder commitment, although this is not the only distinguishing factor we take into consideration.

Do we consider callable capital that is appropriated, even if it is below the SACP of the MLI?

We do not make an explicit distinction in our criteria for appropriated callable capital--although it could affect the overall analysis on the number of notches we would incorporate--but only when provided by sovereigns rated at or above the SACP of the MLI. Some shareholder governments have appropriated a portion or all of their callable capital commitments, which means that in the event of a call on callable capital, Congress or Parliament would not be required to approve a payment. While we understand this may meaningfully reduce the time it would take to honor a call on callable capital, it does not remove the uncertainty of when the funds would be paid-in as this still represents a contingent liability for the sovereign. At the same time, governments can still, due to ability or willingness, decide not to honor a call, irrespective of whether it is appropriated.

Do the reports published by various MLIs change our views on our treatment of callable capital?

The reports published by various MLIs shed additional light and details on the processes involved in a call on callable capital. The reports acknowledge that the authority of making a call on callable capital rests with the board of directors; and underscores that its robust financial and capital management provide early warning signals to alert shareholders, if needed and with sufficient time, of a pending callable capital call. The reports also underscore the remoteness of a call on callable capital materializing. While we believe this is a useful exercise, particularly providing additional insight into shareholders' internal processes for responding to a call, we don't think this fundamentally changes the nature of the callable capital as a contingent instrument used mainly in liquidation scenarios and specifically for bond and guarantee obligations. Conversely, we view these reports as reaffirming that a capital call would most likely be underpinned by a robust legal and administrative process, and key shareholders would most likely be supportive of a capital call, which we already would implicitly assume in our ratings of MLIs and if we incorporate an uplift due to callable capital.

Can callable capital support lending expansion?

Since the G-20 convened in 2015 stressing the importance of maximizing MLIs' mandates to support global development efforts, over the years S&P Global has reaffirmed that callable capital can support additional leverage on MLI balance sheets (see "Key Considerations For Supranationals' Lending Capacity And Their Current Capital Endowment", May 18, 2017).

Of the 14 triple-A rated MLIs, 11 have a combined amount of eligible callable capital of approximately $$448 billion, but we do not factor in any uplift from callable capital given that mostly all already have a SACP of 'aaa' (except for EIF that receives group support from its parent company) and the majority have a capital adequacy assessment of extremely strong. We believe these institutions could increase their lending footprint beyond current levels by leveraging some of its eligible callable capital buffers, which would absorb the risks of additional exposure, thereby supporting the ratings.

Our assessment of the benefits of callable capital is not static. For example, the magnitude of the uplift will still depend on the creditworthiness of those providing the eligible callable capital; should that change, this could translate in a meaningful and quick reduction in the size of the support to the rating. Also, should the lending expansion reflect weakening in lending standards or substantial credit pressures, this could impact ratings. So far in our experience, investors have not seemed to focus on the differential between the SACP and the ICR within our rated MLI universe. Ultimately, the decision to utilize callable buffers for lending expansion depends on the risk tolerance of each institution. The reports that were published by the various MLIs don't change this dynamic.