TCS Daily

Aiding and Abetting Poverty

By Richard Tren - February 26, 2004 12:00 AM

UK Chancellor of the Exchequer, Gordon Brown and World Bank President, Jim Wolfensohn recently called for increased development aid transfers to poor countries so that they could achieve the millennium development goals. Writing in the UK's Guardian newspaper, Brown and Wolfensohn claim that in the past 20 years the divide between rich and poor has widened and continues to widen. To remedy this they call for "improved quantity and quality of development aid." This may appeal to Guardian readers, yet development aid is exactly what has contributed and in some cases caused the poverty that Brown and Wolfensohn think they are going to eradicate. If poor countries want to grow and reduce poverty, they need to change economic policies and to spurn development aid.

The whole notion of development aid seems fairly simple and had enormous cachet after World War II. As Razeen Sally of the London School of Economics explains "the conventional aid wisdom held that poor countries were beset by huge market failures, particularly a structural gap between investment needs and low rates of domestic saving. Foreign aid was essential to bridge that gap; and it was used to buttress command economy-style planning, state led industrialisation, nationalisation and protectionism."

Allowing leftist economists and those in favour of the planned economy to be in charge of government to government aid transfers did untold damage to African economies. There is little debate now on what makes countries rich and what makes them poor. The more an economy is planned and the less economic freedom a country's citizens have, the lower the economic growth and the greater the poverty. And the greater the economic freedom a country has, the greater the wealth and prosperity. Unfortunately the many decades of government to government aid transfers has ensured that governments have grown and economic freedom has diminished.

A simple regression using World Bank data shows that there is no relationship between aid transfers and economic growth. A rich country can throw money at a poor country to bridge that "investment gap" and it will have no effect.

Part of the reason that donor aid will not increase wealth is that it hampers the true source of wealth creation. When investment in a country is financed by aid, it comes under the auspices of the state and becomes a public asset. Aid therefore leads to the growth of the public sector and increases government consumption; two things that undermine wealth creation.

Aid also hampers behaviour change. Any government can implement bad policies that reduce economic freedom, slow growth and increase poverty; indeed most African governments have done just this. Yet instead of realising that in order to become wealthy, those policies should change, governments can continue to finance themselves through aid transfers. In fact the more bankrupt a country becomes, the more likely it is to be bailed out by a rich country. The incentive is there not to implement positive changes, but to continue with bad policies.

There is a far greater emphasis now among the donor community that aid should be channelled to those countries that have sound economic and political policies, such as observance of the rule of law and democracy (presumably the improved quality of aid to which Brown and Wolfensohn refer). One country that liberalised its economy is Uganda and so during the 1990s, average real per capita GDP growth was around 3 to 4%. Yet research done by a senior US economist, Harold Brumm and published by the Cato Institute suggests that economic growth may have been higher in the absence of aid. Brumm's analysis of economic policy and donor aid concludes that "foreign aid has a negative growth effect, even where economic policy is sound." So aid is not just neutral, it is actually harmful to poor countries.

Apart from the fact that donor aid has exacerbated poverty, it has a dismal record when it comes to human rights. When politicians and bureaucrats can rely on foreign aid agencies for their salaries (and to fill their Swiss bank accounts), they are far less responsive to the needs of the citizens that supposedly elected them. Indeed aid can be used to suppress political rivals. This politicisation of aid has propped up some of the most venal, vicious and corrupt governments in Africa. The great development economist Lord Peter Bauer couldn't have put it better when he characterised aid as "the process by which poor people in rich countries subsidise rich people in poor countries."

So it seems increasingly clear that aid harms economic growth, supports bad economic policies and props up brutal regimes. But many still believe that in the face health problems, rich countries have a moral duty to help out and provide funding. It is appealing to argue in favour of targeted health aid, but as our own government has shown, there is no guarantee that aid directed to the public sector will ever reach those in need. If donor agencies are interested in improving health facilities in Africa, directing that aid to the private sector is probably a far better bet.

If Brown and Wolfensohn really want to help poor countries they should tie up their purses. They should also push to reduce trade barriers and try to help poor countries to liberalise their economies and increase economic freedom -- the very things that made rich countries rich in the first place.

Richard Tren is based in South Africa and is director of the health NGO Africa Fighting Malaria. He is a regular TCS columnist where he last wrote about Brazil and AIDS treatment.


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