Chapter 14 Foreign Aid Norton Media Library Chapter 14 Dwight H. Perkins Steven Radelet David L. Lindauer

Test #4: November 20 Chapters 14, 15, 16, 17

Chapter 14: Learning Objectives 1. Some on foreign aid: definition, decomposition, the major donors and major recipients. 2.The controversies surrounding foreign aid including its motivations. 3. Three views on aid’s impact on growth and development. 4.The issue of conditionality & the future of foreign aid.

Chapter 14: Summary Outline Donors and Recipients What Is Foreign Aid? Who Gives Aid? Private Foreign Aid Who Receives Foreign Aid? The Motivations for Aid Aid, Growth, and Development View 1. Although Not Always Successful, on Average, Aid Has a Positive Impact on Economic Growth and Development View 2. Aid Has Little or No Effect on Growth and Actually May Undermine Growth View 3. Aid Has a Conditional Relationship with Growth, Stimulating Growth Only under Certain Circumstances, Such as in Countries with Good Policies or Institutions Donor Relationships with Recipient Countries The Principal-Agent  Problem Conditionality Improving Aid Effectiveness

1.Foreign Aid: Introduction Diverse views on Aid: James Wolfenson –World Bank: There is need for more aid Senator Jesse Helms; no US aid should be given to any country. Massive Historic Aid: Marshall Plan during WW led by USA- made a huge difference in European post-ww2 reconstruction

Economist Views on Foreign Aid Strong supporter- Jeffery Sachs and Joseph Stigltz Others such as Chicago school conservative economists- do not care for more aid Case massive Foreign Aid Failure in Africa Congo/Zaire, Haiti, Zambia, etc Case success: Botswana, Korea, Taiwan, Mozambique, Uganda, Tanzania. There is mixed record of Aid effectiveness

2.Donors & Recipient Foreign Aid comprises of financial flows, technical assistance, commodities given by one country to another. Official definition of foreign aid is by Foreign Assistance Committee (DAC) or OECD-30 industrial countries Two criteria: promote development and welfare- excluding military aid Provided as a grant or a subsidized loan

Three Broad Categories of AID Aid Terminologies Official Development Assistance (ODA)-to Poor countries Official Assistance (OA) to richer states>$9000 Private Voluntary Assistance- includes grants from NGOs, religious groups, charities, foundations, and private companies Bilateral aid; country to country for example US to Egypt Multi-lateral Aid from World Bank,UN, IMF to LDCs

Who Gives Aid Mostly Industrial Countries (OECD) Government Agencies such as: USAID, SIDA. etc World Bank, IMF, UNDP, Regional Banks Marshall Plan:( box14.1) The US committed 1.5% of GDP about 10 times as much US aid today. US official development assistance now is 0.16% of GDP. Marshall plan was successful because of presence of skilled workforce, financial & legal institutions

Net Official Development Assistance in 2004 See figures 14.1 & 14.2 for absolute and relative figure. Which country gives the largest Aid in absolute terms? What about in percentage terms? Global Trends in ODA 1975-2003 (see figure 14.3

The Commitment to Development Index: Ranking of quality of their Aid policies Ranking of 21 richest countries by CDI criteria 1. Foreign aid quantity 2. Trade policies 3. Foreign Investment Policies 4. Environmental Policy 5. Security including peace keeping operations 6. Migration-ease of migration 7. Technology-support of Research & Development Ranking: Denmark #1, USA #12, Japan lower than US

Aid Recipients 150 Countries Received aid in 2003 Table 14.1 Shows list of recipients who received more than $1 billion Ethiopia & Tanzania are among the 10 states. See Official Aid Receipts by region on table 14.2. What region receives the largest in absolute terms? What % of GDP?

The Motivations for Aid: Why do nations give aid? Foreign policy objectives & political alliances Poverty reduction Country size; Smaller states more aid Look for commercial or trade ties Enhancing Democracy?? Fighting Global Terrorism? Strategic aid.

The Effect of Aid on Growth and Development Generally, there are 4 Broad of Objectives of Aid 1. Stimulate economic growth through building infrastructure, supporting sectors such as agriculture, technology, new ideas 2. Strengthening education, health, political systems, environment 3. Food aid and other commodities in case of emergencies and disaster 4. Economic Stabilization following natural or man-made shocks.

Types of Aid Emergency and humanitarian negatively associated with growth Aid that has effect over a long period of time- on health, education, democracy Aid that directly affects growth inlcudes; roads, electricity, agricultural support, etc

Three Views of Aid- The AID debate View 1; On average Aid has a positive impact on economic development, but not always- especially on health, education, etc( Example eradicating river blindness (box 4.3 in West Africa), Malaria, HIV/Aids, etc View 2: Has little or not effect may actually undermine growth and development. For example the effect of Food Aid may lower domestic food prices and displace local production see figure 14.4; Create Aid dependency View 3. The Effect is conditional depending on Good policies, institutions and Good Governance- Example Aid to Botswana has been effective.

Donor Relationships with Recipient Countries The Principal Agent Problem: Aid givers delegate agents which may not promote wishes of the donors especially in the presence of corruption. Who are the agents? Conditionality: You must do something to get aid. For example, you must liberalize prices and reduce defense expenditures, etc Improving Aid Effectiveness. How?

Toward Aid Effectiveness Country Selectivity – Give aid to more democratic with good governance &least corruption Promote participatory approach. How? Harmonize and coordinate better- several hundred aid missions are in Tanzania and Ethiopia Result based management- allocate to projects that show results, modify existing programs, Learn from experience , better information

Fig. 14.1: Total Dollars

Fig. 14.2: As % of GDP

Fig. 14.3: Global Trends on ODA

Table 14.2: Official ODA Regional Recipients

Fig. 14.4: Growth & Aid Relationship

Fig. 14.5 top: Diminishing returns to Aid- There can be too much aid!

Fig. 14.5 The case of no effect of Aid on Growth?

Fig. 14.5 The 3 views of the effect of aid on growth

Fig. 14.6: Food Aid, Prices & Production

Fig. 14.7: Impact of Aid On Investment & Consumption

Summary of Chapter 14 I. Foreign aid is a controversial topic with detractors from the right and left. The text provides various examples to highlight the nature of the public debate. By definition, foreign aid consists of grants or subsidized loans. Aid then falls into three main categories: official development assistance (ODA), official assistance (OA), and private voluntary assistance (PVA). Aid may be pro­vided bilaterally or multilaterally. The United States has been the biggest absolute donor, but when aid is expressed as a percentage of GDP, the United States becomes one of the smallest donors. In nominal terms, global ODA has increased steadily, but in real terms total ODA was less than the levels of the late 1980s and early 1990s. The largest multilateral agency is the World Bank, but many of its loans are not characterized as foreign aid. Likewise, the International Monetary Fund does not provide much foreign aid. Much of the recent increase in foreign aid has come from private sources. II. In calculating who receives foreign aid, different measures may be used. These include total aid, aid as a percentage of GNI, and aid per capita. Though these measures may differ, all three indicate that aid does not flow to the poor­est countries. The motivations for aid may be summarized into five distinct objectives:

Motivations & Objectives of Aid to support foreign policy and political alliances, to raise income levels and reduce poverty,, to strengthen commercial ties, to reward newly democratic countries.

Summary contd. III. Has aid helped growth and development? In order to wade through the literature, the text suggests three viewpoints. In the first viewpoint, aid on average has a positive impact on economic growth and development. To sup­port this stance, the text draws from recent examples on aid helping health, education, and the environment; providing humanitarian relief; and supporting economic and political stability. In the second view, aid has actually under­mined growth. To illustrate this point, the authors employ the ideas of absorp­tive capacity, aid crowding out tax revenue, and aid dependency. The third and final viewpoint is that aid has a conditional relationship with growth, helping countries with good policies or institutions. Much of the support for this viewpoint draws from recent empirical research, though the authors indicate the evidence is far from clear-cut. IV. Other aspects of foreign aid can be gleaned by analyzing donor relation­ships with recipient countries. These relationships can be seen through the recent tool of principal-agent theory since much aid is provided through an indirect and distant relationship. The issue of conditionality lies at the heart of many donor interests, and the text points out that there are shortcomings to conditionality, namely that donors do not follow through on the conditions. The future of aid can be improved through aid effectiveness as in improving the selection of countries, having more recipient participation, increasing coordination among all donors, and basing aid on results.

Three Examples of the Effect of Foreign Aid: There are three examples in the text. The first describes the Marshall Plan as laying the groundwork for future aid to developing countries. The second illustrates the “Commitment to Development” Index which rates developed countries on aspects other than giving aid. The third discusses a success case of aid, the cost-effective multilateral program that treated “river blindness” in 11 West African countries.

Economics of Development SIXTH EDITION End Chapter 14 W. W. Norton & Company Independent and Employee-Owned This concludes the Norton Media Library Slide Set for Chapter 14 Economics of Development SIXTH EDITION By Dwight H. Perkins Steven Radelet David L. Lindauer