EC3040 Economics of LDCsModule B Topic 4
Aid
Savings, investment, borrowing
• In a closed economy, domestic savings=investment
• But in an open economy this is not necessary in the short-to-medium term
• Rational for a country to borrow as it builds up its capital stock (smooth consumption over time)
• But – International financial markets can suddenly shut down– Inflows of capital can boost real exchange rate and thereby slow
export growth
K
sY
δK
Y
Long-term equilibrium in simplest Solow model
Stationary point
Two-gap model I < F + sY (m1 – m2)I + m2Y – E ≤ F F is capital inflows s is saving rate m1,m2 are marginal propensity to import out
of investment and other spending E exports Y GNP
Ethiopia: International PaymentsUSD mn USD mn
Exports 1000 Imports 4593Services (net) 149 Interest etc (net) 38Private current transfers 1229Official current transfers 866
New public debt 343 Amortization public debt 148LT Private capital (inc FDI) 365 Other (net) 30
Use of official external reserves 216Debt relief 133
Errors and Omissions 5074808 4809
Figure 15.2
1990-1991 average
1995-1996 average
2002 2003 2004 2005 2006
I. Official Development Assistance (a) 54 574 57 277 58 297 69 065 79 432 107 099 104 421
1. Bilateral grants and grant-like flows 34 419 36 394 39 818 50 888 57 246 83 453 79 450
of which: Technical co-operation 12 023 14 229 15 452 18 352 18 672 20 753 22 252
Developmental food aid (b) 1 609 1 087 1 086 1 196 1 169 887 956
Humanitarian aid (b) 1 738 2 153 2 779 4 360 5 193 7 110 6 751
Debt forgiveness 5 167 3 561 4 538 8 317 7 134 24 999 18 600
Administrative costs 2 059 2 873 3 046 3 545 4 032 4 115 4 250
2. Bilateral loans 6 250 3 404 939 -1 153 -2 942 -1 008 -2 490
3. Contributions to multilateral institutions 15 614 17 479 17 540 19 330 25 127 24 653 27 461
of which: UN (c) 4 351 4 379 4 739 4 828 5 129 5 469 5 239
EC (c) 3 807 5 112 5 695 6 946 8 906 9 258 9 931
IDA (c) 4 467 4 702 3 279 3 120 5 690 4 827 6 787
Regional development banks (c) 1 480 1 440 1 813 1 734 2 274 2 096 2 466
II. Other Official Flows 7 890 7 861 - 45 - 348 -5 601 1 430 -9 774
1. Bilateral 7 746 7 731 2 401 - 818 -5 349 2 262 -9 598
2. Multilateral 144 130 -2 446 470 - 252 - 832 - 177
III. Private Flows at market terms 17 792 108 610 5 621 46 573 75 262 179 559 194 779
1. Direct investment 24 584 55 681 35 655 49 340 76 901 100 622 129 291
2. Bilateral portfolio investment -7 701 50 364 -26 902 -6 164 -3 544 73 335 60 507
3. Multilateral portfolio investment 1 821 - 869 -3 146 1 083 -4 657 40 2 798
4. Export credits - 912 3 433 14 2 313 6 561 5 563 2 183
IV. Net grants by NGOs 5 240 5 871 8 768 10 239 11 320 14 712 14 648
TOTAL NET FLOWS 85 496 179 619 72 640 125 529 160 412 302 800 304 074
Total net flows at 2005 prices
and exchange rates (d) 111 239 198 431 92 303 139 994 163 897 302 800 296 669
USD million
1990-1991 average
1995-1996 average
2002 2003 2004 2005 2006
64 32 80 55 50 35 34 I. Official Development Assistance (a)40 20 55 41 36 28 26 1. Bilateral grants and grant-like flows14 8 21 15 12 7 7 of which: Technical co-operation
2 1 1 1 1 0 0 Developmental food aid (b)2 1 4 3 3 2 2 Humanitarian aid (b)6 2 6 7 4 8 6 Debt forgiveness2 2 4 3 3 1 1 Administrative costs7 2 1 -1 -2 -0 -1 2. Bilateral loans
18 10 24 15 16 8 9 3. Contributions to multilateral institutions5 2 7 4 3 2 2 of which: UN (c)4 3 8 6 6 3 3 EC (c)5 3 5 2 4 2 2 IDA (c)2 1 2 1 1 1 1 Regional development banks (c)
9 4 -0 -0 -3 0 -3 II. Other Official Flows9 4 3 -1 -3 1 -3 1. Bilateral0 0 -3 0 -0 -0 -0 2. Multilateral
21 60 8 37 47 59 64 III. Private Flows at market terms29 31 49 39 48 33 43 1. Direct investment-9 28 -37 -5 -2 24 20 2. Bilateral portfolio investment2 -0 -4 1 -3 0 1 3. Multilateral portfolio investment
-1 2 0 2 4 2 1 4. Export credits
6 3 12 8 7 5 5 IV. Net grants by NGOs
100 100 100 100 100 100 100 TOTAL NET FLOWS
Per cent of total
What is ODA?
Grants or Loans to countries and territories on Part I of the DAC List of Aid Recipients (developing countries) which are:
(a) undertaken by the official sector; (b) with promotion of economic development and welfare
as the main objective; (c) at concessional financial terms [if a loan, having a Grant
Element of at least 25 per cent]. In addition to financial flows, Technical Co-operation is
included in aid.
• Grants, Loans and credits for military purposes are excluded. • Transfer payments to private individuals (e.g. pensions, reparations
or insurance payouts) are in general not counted.
Who gives how much to whom?
Donors• Bilateral Official (the biggest source)• Multilateral Official
– About one-third of total official– Resources come from bilaterals– Additionally, non-concessional IFI flows are sizable
• Private / NGOs / CSOs / Philanthropic foundations– Part of their funding also comes from bilateral official
sources
Who gives how much to whom?
Who are the main multilaterals?
• World Bank’s IDA
• Other regional IFIs (ADB,AfDB,IADB,CDB, etc)
• UN Agencies (UNDP, UNICEF,UNHCR…)
• New entities (Global Env Facility; …
ODA: 1990-2007: % of GNI and $ bn
Source: OECD DAC
ODA: Real, Nominal, % of donor GDP, 1973-2004
Overseas Development Assistance 1956-2007
0
20
40
60
80
100
120
1956
1960
1964
1968
1972
1976
1980
1984
1988
1992
1996
2000
2004
$ bi
llion
Well below track agreed at Gleneagles
Source: OECD DAC
Who gives how much to whom?
Recipients• Part I countries• Part II countries (income too high – not
counted as development aid
No of donors per recipient
No of recipients per donor
Aid and mean income Per capita by country
0
1
10
100
1000
10000
100 1 000 10 000 100 000
Per capita GNI
Per
cap
ita A
id
Net ODA rcpts
GNI/CAP GNI/CAP ODA/GNI GNI/CAP ODA/Cap
2006 2006 2006 2006 2006 2006USD mn USD USD per cent USD USD
Nigeria 11 434 640 Solomon Islands 680 60.6 Wallis & Futuna .. 5119Iraq 8 661 .. Liberia 140 54.4 Montserrat .. 3237Afghanistan 3 000 .. Burundi 100 52.8 St. Helena .. 2813Pakistan 2 147 770 Micronesia, Fed. States2 380 41.3 Palau 7 990 1866Sudan 2 058 810 Afghanistan .. 35.7 Mayotte .. 1777Congo, Dem. Rep.2 056 130 Palestinian Adm. Areas.. 34.6 Nauru .. 1740Ethiopia 1 947 180 Malawi 170 30.5 Cook Islands .. 1614Viet Nam 1 846 690 Marshall Islands3 000 28.5 Tuvalu .. 1534Tanzania 1 825 350 Guinea-Bissau 190 27.9 Micronesia, Fed. States2 380 986Cameroon 1 684 1 080 Sierra Leone 240 25.7 Marshall Islands3 000 786Mozambique 1 611 340 Congo, Dem. Rep. 130 25.2 Anguilla .. 442Serbia 1 586 3 910 Timor-Leste 840 24.7 Solomon Islands 680 417Uganda 1 551 300 Rwanda 250 23.6 Palestinian Adm. Areas.. 387Palestinian Adm. Areas1 449 .. Palau 7 990 23.5 Dominica 3 960 277Zambia 1 425 630 Mozambique 340 23.2 Cape Verde 2 130 266Indonesia 1 405 1 420 Guyana 1 130 20.1 Samoa 2 270 248India 1 379 820 Sao Tome & Principe 780 17.9 Grenada 4 420 244China 1 245 2 010 Uganda 300 16.9 Guyana 1 130 231Bangladesh 1 223 480 Gambia 310 14.8 Vanuatu 1 710 222Ghana 1 176 520 Ethiopia 180 14.7 Tonga 2 170 215Morocco 1 046 1 900 Tanzania 350 14.5 Serbia 3 910 213Colombia 988 2 740 Zambia 630 14.3 Timor-Leste 840 204Kenya 943 580 Djibouti 1 060 14.0 Lebanon 5 490 174Egypt 873 1 350 Burkina Faso 460 14.0 Montenegro 3 860 157Burkina Faso 871 460 Nicaragua 1 000 13.9 Seychelles 8 650 155
OECD DAC
Volatility of aid
Celasun and Walliser, 2008
Volatility of aid
Celasun and Walliser, 2008
…and why?Official reasons• USA • Japan• Others (mostly poverty, MDGs, Human rights
Real reasons• May be more complex• Trade, security (USA to Afghanistan, Iraq, Pakistan), international
diplomacy (Australia to neighbours: is biggest single donor to PNG)
Public opinion favours Aid (even in US, if question is worded carefully)
NB: Claessens et al. 2007: After fall of Berlin wall, bilateral aid responds more to economic need and the quality of a recipient country’s policy and institutional environment and less to debt, size, and colonial linkages.
Does aid work to increase growth?
Hmmm… not obvious
Optimistic view
(Allow a nonlinear relationship)
Pessimistic view
(Confirmed by a straight-line relationship)
Conditional view
(Nonlinear + other variables)
Be careful with regressions (Anscombe’s charts)
How might aid work to increase growth?
By closing one of the two gapsthereby making needed investable funds in fx available
to build capital stock
By improving health/education, thereby enhancing worker productivity
By being the vehicle through which technology is transferred (fx, ta, green rev)
Radelet, 2006
Clear successes in health
– eradication of small pox, – near-eradication of polio, – control of river blindness.. and other diseases, – spread of oral rehydration tablets to combat
diarrhea, – dramatic increase in immunization rates in
developing countries since 1970
Radelet, 2006
How might aid be ineffective or reduce growth?
Might be wasted or spent on luxuries for the elite
Might actually increase corruption
Might keep bad governments in power
Might prolong war
Recipients might not have capacity to make use of aid
Might result in offsetting reductions in saving (about ½?)
Might have damaging side effects on incentives for investment or productivity (e.g. real exchange rate appreciation; free food vs. local farmers)
Might aid work only under some conditions?
Characteristics of recipient countryRecipient policies adopted (e.g. macro and trade policies);Civil liberties, institutional quality; type of government, warfareexport price shocks, terms of tradeLocation in the Tropics
Donor policiesEnsure recipient ownership; monitoring; coordination
Type of aidemergency and humanitarian aid (no link with growth) slow-burning aid (health, education, environment, democracy)aid directly aimed at growth (roads, ports, power infrastructure;
agriculture).
Radelet, 2006
Recent empirical studies on aid and growth
• Burnside and Dollar (2000): aid works in countries with good economic policies. Hansen-Tarp (2004)..only outside the Tropics
• Easterly Levine Roodman (2004): showed that these results were fragile, being sensitive to small changes in the data set. HT: 4 countries decisive
• Clemens, Radelet and Bhavnani (2004): “aid that could plausibly raise growth within a few years (budget support, infrastructure, industry) in fact does”
• Rajan and Subramanian (2005):aid has no significant effect on growth (bad instruments).
Roodman, 2007
Which of the three is confirmed by data?
Not the second – almost all studies in recent years find some growth effect:(especially when they allow for a nonlinear effect)
So even if the bad mechanisms are present, the net effect of aid can be positive
The third one (conditional) seems to be empirically the most promising, but evidence is fragile for policiesnot much evidence re donor policiesslow-burn shows little effect—but that’s not surprising
Radelet, 2006
The micro-macro paradox
• Education aid enrolment
• Health aid infant mortality
• Conditional cash programmes school attendance, health
• (Not all: even donors admit relatively high failure rates WB: 22%)
Roodman, 2007
How to give aid
• Principal-agent problems
• Conditionality
• Five fashionable ways forward
Principal-agent problems
“A unique and striking characteristic of foreign aid is that the people for whose benefit aid agencies work are not the same as those from whom the revenues are obtained; they actually live in different countries and different political constituencies. This [separation] blocks the normal performance feedback process: beneficiaries may be able to observe performance but cannot modulate payments (rewards to agents) as a function of performance. Although donors are typically interested in ensuring that their funds are well spent, it is extremely difficult for them to do so, since there is frequently no obvious mechanism for transmitting the beneficiaries’ point of view to the sponsors.”
Martnes (2004, cited in Radelet, 2006)
Conditionality
• Designed to create preconditions for aid effectiveness– But what conditions?– And not much empirical evidence that conditionality works– An administrative burden on recipients
• Too many…or too few?– State-led; human needs; macro discipline & markets; institutions– Environment; labour conditions; human rights; democracy
• Enforcement– Political pressures to continue program– (Failure of structural adjustment as much a function of lack of
implementation as of insufficiency of policies)– Samaritan’s dilemma
Radelet, 2006
Easterly J Ec Persp 2008
Five favoured ways forward
1. Country selection– Give to countries that have shown their fitness –
and then give unconditionally
– (US Millennium Challenge Account)
2. Recipient (NGO) Participation/Country Ownership
– In/of design of programmes
– Process conditionality
3. Harmonization and coordination– Among donors
Radelet, 2006
Five favoured ways forward
4. Results-based management
− Channel funds to programmes that are working
− Or more broadly for results (“payment for progress”)
− Detecting problems early and modify/strengthen
− Improving design of future programs
− (Requires stronger monitoring and evaluation)
5. Capping aid at 50% tax revenue
− (recent proposal of Adrian Wood, 2008):
− About 30 countries with populations over 1m, (>20 in Africa), get aid above this (about half of them aid>100% tax)
Conclusion on aid effectiveness
• Some forms of aid are effective
• Too much does not work
• There is waste on recipient and donor side and in the process
• Overall results are disappointing
• But volumes of aid are small relative to needs
Radelet, 2006
Aid for trade
• Stiglitz Charlton
• Also EPA