In developing countries, electricity generation and distribution have traditionally been controlled by centralized government-owned utilities. But in the early 1980s, generation began opening up to the private sector, and industry players saw possibilities emerging for independent power production. A decade later, forecasters predicted that worldwide demand for new capacity would rise by between 630 and 940 MW during the 1990s—an increase that exceeds the entire installed capacity of Western Europe. Developing countries were expected to account for up to 70 percent of that growth, but since their financial and technical resources were limited, it seemed that independent power producers (IPPs) might enjoy tremendous opportunities to contribute foreign capital and technology.

Despite a few early successes, however, these hopes have not been fulfilled. Many projects have been delayed or abandoned. Of 258 projects in developing countries that had received letters of intent or won competitive bids, about half had not concluded financing by March 1995, while a further quarter either had failed or were experiencing problems (Exhibit 1). These impasses arose as a result of a fundamental shift in bargaining power. IPPs no longer have the upper hand; governments do.

This shift has occurred for two main reasons. First, demand...