Diffusing Risk: Bureaucratic Agency, UN Security Council Horse-Trading, and the Role of Co-Financing

Abstract Political lending is problematic for the operations of multilateral development banks (MDBs) since politically motivated aid has a greater default risk than other aid projects. MDB bureaucrats, therefore, face a dilemma. On the one hand, they want to please major shareholders by engaging in political lending. On the other hand, they want to mitigate their MDB's exposure to excessive risk. One way to solve this dilemma is to share the risk of loans with other lenders through co-financing. I expect that as countries’ share of politically motivated aid increases, these countries’ portfolios will receive more co-financed loans. Using newly collected loan-level data from the European Bank for Reconstruction and Development, I find that UNSC membership increases the number of co-financed loans by 38.5 percent and increases the share of co-financed loans in a country's European Bank for Reconstruction and Development loan portfolio by 19.1 percentage points. I demonstrate that these results are consistent with the argument that MDB bureaucrats want to mitigate risk.