After a decade of aid fatigue and
dwindling development assistance,
foreign aid is once again at centre
stage. Recent years have seen a flurry of
new aid initiatives – the UN Millennium
Development Goals, the Monterrey
Consensus, the UK’s Commission on Africa,
and the G8 pledge to double the amount of
aid, to mention only the most significant
ones. And before 2010, governments’
spending on aid, as measured by the OECD,
is projected at well above $100bn a year.
Much as these initiatives should be
applauded for shining the spotlight on
many neglected issues of poverty and
human hardships in developing countries,
they also need to be judged against a
backdrop of our accumulated knowledge of
what works and what does not. That has yet
to happen. Indeed, there has been
widespread neglect of the knowledge and
experience we have gained from aid-giving
over the last 50 years, and this constitutes
a key problem in the new drive for aid. There
is a discrepancy between the rush to
increase foreign aid and the general lack of
interest in the quality of aid, meaning its
effectiveness. This not only suggests a
mismanagement of public resources but
also an absence of curiosity about
establishing which are the best methods of
helping poor countries to develop.
This is not to say that we already have the
answers to all the mysteries of poverty, welfare
and foreign aid. But we do know a lot and have
garnered enough experience to say over the
last 50 years aid has failed overall to deliver the
sort of economic growth and development we
had hoped for. And the prospects for the
future doesn’t look much better.
Of the researchers who have studied the
links between aid and economic growth, few
have found conclusive evidence that aid
gives a major boost to growth. On the
contrary, most research suggests a negative
correlation between the two. This doesn’t
mean that receiving developing aid is the
cause of a country’s low growth. In both
cases, a cause-and-effect relationship is
difficult to find through broad statistical
cross-country analysis; several researchers
have employed advanced analytical
techniques but the results have varied from a
weak negative effect to a weak positive effect
(the latter after adjusting for the type of aid
and the policy milieu in recipient countries).
The sad overall conclusion that has to be
drawn is that development aid does not have
the stimulatory effect on growth that donor
countries have always intended.
A case in point is development aid to
Africa that has amounted to more than $1
trillion since 1950. Between 1970 and 1995,
aid to Africa increased rapidly, with aid
dependency (measured as the aid-to-GDP
ratio) standing at nearly 20% in the early
1990s. Measured another way, the mean value
of aid as a share of government expenditures
in African countries was well above 50%
during the 20-year period up to 1995. During
the same period, per capita GDP growth in
Africa decreased, so that many countries in
Africa are actually poorer today than they
were when they gained their independence.
This sad truth does little to support the
idea that development assistance is the
flywheel that starts the motor of economic
activity. But the argument continues to be
that aid is an essential part of the process of
attracting new investment and fuelling
sustained growth. Because poor countries
lack the resources to finance investments,
runs this argument, there is a financing gap
between domestic savings and the resources
needed to finance the level of investments
required to achieve growth. If the financing
gap theory of aid (yes, it is merely a theory)
had been true, investment levels would have
risen considerably and long-term growth
would have resulted. In that case, using the
models applied by the World Bank and other
donor organisations, per capita GDP in most
African countries should be at the same level
as in New Zealand, Spain or Portugal.
Instead, it has declined overall in Africa.
Now a new version of the financing gap
theory is being used as the motif for the
present gearing-up of aid spending. The
leading economist Jeffrey Sachs, together
with others involved in the highly influential
UN Millennium Project, is advocating a “big
push” in public investments with the idea of
producing a knock-on effect on economic
growth in developing countries. But the really
poor countries, according to Sachs, are stuck
in a savings trap and do not have the
resources needed to make this development
push. The claim is that an additional $75bn in
development assistance could fill the gap.
This breathtakingly naïve view of aid and
economic growth in poor countries defies
basic economics and our acquired
knowledge of what works and what does
not. The history of aid clearly shows that
this type of assistance has been strikingly
inefficient and at times has proved more a
hindrance to development than a help.
So why is it that aid has failed to deliver
higher economic growth for developing
countries? There is no single answer; one has
to take several aspects of aid into account to
understand what has gone wrong, and how
our aid should be re-designed if it is ever to
achieve its targeted goals.
As a general rule, development aid has
not been spent in the way that was
intended. Instead of gearing-up
investments, the money has more often
than not been frittered away on current
spending and public consumption. Not only
is it difficult to find any positive effects as a
result of investment aid spending, but
worse the evidence suggests that aid has
actually had a negative effect on domestic
savings, and has thus weakened poor
countries’ ability to finance investments.
Several aid studies have also looked into
the issue of what economists call
fungibility; when aid intended for
investment was used for that purpose
recipient governments then reduced their
own investment spending in that area and
transferred those resources to additional
consumption, with the end-result of there
being no increase in a country’s net
investment. This pattern of fungibility has
also applied to aid that was intended for
spending on education and healthcare.
Aid has also contributed to corruption in
many developing countries. That is clearly not
the intention of aid, but the unintended
consequence of supporting corrupt
governments has been precisely that.
Furthermore, by supporting many state-owned
and para-statal enterprises, aid has boosted
corruption in more direct ways. These
enterprises have become arenas of rampant
corruption, and this has then spread to other
parts of society. The tragedy of aid that has
been revealed in a number of independent
evaluations and by World Bank research, is
that donors become part of corruption
problem by supporting regimes that erode the
governance structure. In those African
countries that have received a high level of aid
over time, this has become painfully obvious.
It has been sound economic policy, not
aid, that in recent decades has lifted billions
of Asians out of poverty and provided the
resources to combat, and in some countries
eradicate, starvation and many of the most
ravaging diseases. While Asian countries
were starting to open themselves up to trade
and foreign investment with the policies that
created the “Asian Tigers”, many African
countries were heading for a model of
economic autarky by closing their borders
and regulating the domestic economy to an
absurd degree. It is hardly surprising that this
was a development strategy that has failed
utterly. Yet western aid donors supported
these policies, and many of them are still
pouring money into countries whose
economic policies are detrimental to growth.
The good news, though, is that countries
are poverty-stricken because of bad policy,
not because of geography, an inferior
culture or any other deficiencies. Bad
policies can be changed; not by aid, but by
people insisting on change.
