Journal Issue

IMF Institute seminar: Aid alone will not help poor countries grow out of poverty

International Monetary Fund. External Relations Dept.
Published Date:
January 2001
  • ShareShare
Show Summary Details

The developed world has poured a trillion dollars of aid into the developing world since the 1960s. What do we have to show for all the foreign aid and advice? Not much, according to Easterly, a senior advisor at the World Bank. Much of sub-Saharan Africa remains mired in poverty, growth in Latin America has been erratic, and countries in the Middle East have failed to convert oil riches into sustainable development. Countries that could be called economic “miracles” remain the exception rather than the rule.

Aid mislaid

In the 1960s, the mere provision of money was considered enough to boost growth in developing countries, which were considered to have a “financing gap.” Bridging this gap with foreign aid would lead to an increase in investment and, thereby, growth. That was the theory.

But in practice, Easterly said, two major problems have made aid unproductive. First, much aid money has ended up in the pockets of corrupt politicians and vested interests rather than in investment. Second, even the part that has gone into investment has not helped to the extent that was anticipated because machines cannot generate growth in environments where the institutions are poorly developed and the work force has inadequate skills.

Take Zambia, for example. Easterly calculates that the amount of aid Zambia has received over the past 40 years should, according to development economists, have propelled the country into the ranks of the industrial countries. Instead, average income in Zambia is no higher today than it was in 1960. Such failure is pervasive: the per capita growth rate of the typical developing country between 1980 and 1998 was zero.

IFI response: iffy, at best

The international financial institutions (IFIs) have attempted to fix both of the problems but with limited success, according to Easterly. Their efforts to tie aid to countries’ progress in fighting corruption tend to fail because they have only a marginal effect on governments’ very strong incentive to dispense patronage to powerful elites or certain ethnic groups or regions. In many cases, the IFIs themselves do not have the incentive—or sometimes the freedom—to walk away from corrupt governments and repeat offenders. For instance, Easterly noted, the six developing countries considered most corrupt on the basis of commonly used rankings of corruption had received 46 adjustment loans from the World Bank and the IMF.

The IFIs have also tried to make aid more productive by asking countries to carry out structural reforms before releasing aid money. This too has proved difficult, Easterly said, because the IFIs have often acted as though growth could be raised simply by transferring to the developing world certain “magical objects” that are associated with prosperity in the West, including such institutions or practices as schools, health clinics, family planning, and independent central banks. The returns in terms of increased growth have been paltry. To take one example, sub-Saharan Africa’s growth performance has been disappointing even though its educational capital grew faster than that of East Asia between 1960 and 1985.

Another world is possible

Although there are no magic elixirs to make aid more effective, Easterly said, past experience suggests that “prosperity happens when all players in the development game” (aid agencies, recipient governments, and private individuals in developing countries) “have the right incentives.” This means that the IFIs and bilateral aid agencies should be rewarded on the basis of positive outcomes in the recipient countries rather than on the volume of their lending or the number of their programs. Unless this is done, the act of making loans will be rewarded rather than the act of helping the poor in each country.

To motivate recipient governments to implement reforms, they should be rewarded more on the basis of achievements than promises. Easterly suggested that aid agencies could use past experience in deciding which governments are likely to have the right incentives to deliver reforms and which are likely to steal from and repress private business. Polarized and undemocratic governments, where interest groups based on class or ethnicity are competing for loot, are not very likely to deliver genuine reforms, whatever their promises. Easterly advocated having “beauty contests” in which countries vie for a common pool of aid money on the basis of a track record of effective use of past aid.

Curbing expropriation by governments would go a long way toward giving private individuals and businesses in developing countries the right incentives to invest in the future. But curbing governmental expropriation may not be enough, particularly to help the very poor. Even when society-wide incentives for growth are good, the poor have fewer incentives because often “productivity depends on one’s fellows, and the fellows of the poor are other poor people.” The poor may need more targeted subsidies to help them escape such poverty traps.

Because we do not know exactly what kinds of subsidies will work, it is best to experiment with different solutions, reallocate resources toward solutions that appear to be working, and rely to the extent possible on the strong desire the poor have to better their lot. Easterly concluded that “we can envision a world in which the poor are given the benefit of the doubt that they will respond to incentives just as much as the rich do.”

Other Resources Citing This Publication