Currency Risk in Project Finance

The document examines how hard currency loans create asset-liability mismatches in infrastructure projects within emerging and frontier markets. It argues that IFIs should move away from direct lending and instead use guarantees and credit enhancements to leverage private capital and stimulate local currency financing. The paper details specific financial tools, such as local currency bonds and derivatives, to mitigate currency, political, and project risks.

• Hard currency loans in infrastructure projects often create an asset-liability currency mismatch when revenues are collected in local currency, meaning a depreciation of the local currency increases the project's liabilities without increasing its revenues.
• Existing currency risk management strategies, such as natural hedges, local currency swaps, and exchange rate-indexed contracts, are typically costly to the end user, who pays through tariffs or taxation.
• The author argues that IFIs should adopt a two-pronged strategy to reduce reliance on foreign currency financing: developing local capital markets and supporting local currency financing, specifically by replacing direct lending with guarantee products to leverage private sector resources.
• IFIs can stimulate local currency financing by supporting the issuance of local currency bonds through AAA-rated guarantees, which improves the credit rating and decreases the cost of financing for projects.
• The availability of foreign exchange derivatives is critical for a functioning capital market; IFIs should act as market makers to provide pricing and liquidity for currency pairs that are otherwise too illiquid for commercial hedging.
• Local banks in emerging markets often lack the long-term liquidity required for infrastructure projects due to asset-liability mismatches (short-term deposits vs long-term liabilities); IFIs can remedy this by providing guarantees that allow local banks to raise international capital.
• Different financiers have distinct risk requirements: local financial institutions primarily need project risk mitigation, while international commercial banks require political risk insurance and currency hedging.

APA

Verdouw, W., Uzsoki, D., & Ordonez, C. D. (2015). Currency Risk in Project Finance. International Institute for Sustainable Development. https://www.iisd.org/system/files/publications/currency-risk-project-finance-discussion-paper.pdf

Chicago

Verdouw, Wim, David Uzsoki, and Carlos Dominguez Ordonez. Currency Risk in Project Finance. International Institute for Sustainable Development, 2015. https://www.iisd.org/system/files/publications/currency-risk-project-finance-discussion-paper.pdf.

Wikipedia

{{cite report |last1=Verdouw |first1=Wim |last2=Uzsoki |first2=David |last3=Ordonez |first3=Carlos Dominguez |title=Currency Risk in Project Finance |publisher=International Institute for Sustainable Development |date=August 2015 |url=https://www.iisd.org/system/files/publications/currency-risk-project-finance-discussion-paper.pdf |access-date=17 August 2026 |via=Climate Insights Directory}}

BibTeX

@techreport{verdouw2015currency, author = {Verdouw, Wim and Uzsoki, David and Ordonez, Carlos Dominguez}, title = {{Currency Risk in Project Finance}}, institution = {International Institute for Sustainable Development}, year = {2015}, month = aug, url = {https://www.iisd.org/system/files/publications/currency-risk-project-finance-discussion-paper.pdf}, urldate = {2026-08-17}, note = {Indexed by Climate Insights Directory} }