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(Theory and Politics of Foreign Aid) Submitted by: Meha Lodha on 31st May 2010 University of Wroclaw
Table of Contents
Introduction......................................................................................................................1 1.0 Peter Bauer.................................................................................................................3 2.1 Poverty and Foreign Aid............................................................................................4 2.2 Population Control and Foreign Aid..........................................................................5 2.3 The Big Push Model and Foreign Aid.......................................................................7 Does Foreign Aid lead to Economic Development?........................................................8 Conclusion.......................................................................................................................9 Bibliography..................................................................................................................10
Foreign aid, in general, refers to aid (money, goods, services) granted or received in the international context. Foreign aid in relation to economic development can be understood well when the scope is narrowed down to development aid and official development assistance. Development aid can be defined as “that part of foreign aid whose purpose is to contribute to human welfare and development in poor countries”.1 According to the Organization for Economic Cooperation and Development, Official Development Assistance can be defined as, “Flows of official financing administered with the promotion of the economic development and welfare of developing countries as the main objective, and which are concessional in character with a grant
R.Ridell, Does Foreign Aid Really Work?, Chapter 2, Oxford University Press, 2007
element of at least 25 percent (using a fixed 10 percent rate of discount). By convention, ODA flows comprise contributions of donor government agencies, at all levels, to developing countries (“bilateral ODA”) and to multilateral institutions.”2 The words to be watched out for in both the definitions are “development in poor countries” and “promotion of the economic development and welfare of developing countries” respectively. This brings us to the imminent question – does foreign aid really contribute to the economic development of poor/under developed/developing/third world countries (countries of the “south”). A classic example of aid having worked for economic development is the Marshall Plan, when Europe emerged as a phoenix from the ashes using the aid provided by the United States after World War II. Postmodern times have also seen development in many parts of Asia and Latin America though many parts of Africa are still severely underdeveloped in spite of the countries from the West regularly pumping aid. But on the other hand, some groups in recipient countries have viewed foreign aid suspiciously as nothing more than a tool of influence of donor countries. For example, critics of the International Monetary Fund (IMF) allege that the required structural adjustments (to be eligible to receive foreign aid) are too politically difficult and too rigorous and that the debts incurred through IMF loans help to create poverty, as capital that could have been invested instead was channeled into debt repayment. In general, opponents of the way that foreign aid programs have operated charge that foreign aid has been dominated by corporate interests, has created an unreasonable debt burden on developing countries, and has forced countries to avoid using strategies that might protect their economies from the open market.3
OECD Glossary of Statistical Terms http://stats.oecd.org/glossary/detail.asp?ID=6043 Accessed Date: 28th May 2010 3 Foreign Aid: Criticsm – Britannica Online Encyclopaedia http://www.britannica.com/EBchecked/topic/213344/foreign-aid/256256/Criticism Accessed Date: 28th May 2010
From the perspective of under-developed countries, development economist, Peter Bauer, probably has been the best known critic of foreign aid. This essay focuses on three of the cases for foreign aid that Peter Bauer refuted to show that the very concept of foreign aid as a means of putting the under-developed world on a steady path of development is intellectually “bankrupt”. These four arguments are: 1. Third World countries are trapped in a vicious circle of poverty that can be broken only by foreign aid from the more prosperous industrial nations of the world. 2. Population growth is a hindrance to economic development and Foreign aid should be aimed at controlling the population growth of the developing world. 3. Aid money should be poured by donor countries into projects as this can assure economic development. The later part of the essay focuses on the question – Does foreign aid really lead to economic development? – by showing the results of two separate studies conducted in the years 2000 and 2003 respectively by economists Craig Burnside and David Dollar; and William Easterly, Ross Levine, and David Roodman. The conclusion states that Peter Bauer refuted the three above mentioned arguments much before research studies began to show that foreign aid does not necessarily lead to economic development of the developing countries.
1.0 Peter Bauer
Lord Peter Thomas Bauer (1915 – 2002) was a development economist who championed the political economy of classical liberalism for developing societies.4 Born in Budapest, Hungary and trained in Cambridge, UK, Peter Bauer was a Professor at the London School of Economics from 1960 to 1983.5 His specialty was the economics of
Machan, Tibor; Downtrodden lives bettered by freedom? Sun, The (Yuma, AZ); 08/05/2006 Peter Thomas Bauer http://homepage.newschool.edu/het//profiles/bauer.htm Accessed May 26th 2010
under developed countries. In the last two decades of his life, he was Lord Peter Bauer, courtesy of the former British Prime Minister, Margaret Thatcher.6 From 1948 to 2000, Peter Bauer wrote books that challenged the prevailing development orthodoxy, including the myth that poverty is self-perpetuating.7 He is remembered today for his studies on the working of markets in low-income countries, for his trenchant analysis of the shortcomings of “development planning” and for his devastating critique on the modern worldwide convention of “foreign aid”.8 Peter Bauer is perhaps best known as a persistent and articulate critic of foreign aid, who since 1972 saw it as not only failing to speed up, but actually hurting economic development. He started his criticism when foreign aid to the developing world was only getting underway, and never wavered. He defined foreign aid as “a transfer of resources from the taxpayer of a donor country to the government of a recipient country.”9
2.1 Poverty and Foreign Aid
The dominant orthodoxy in development economics was that the Third World countries were trapped in a vicious circle of poverty that could be broken only by massive foreign aid from the more prosperous industrial nations of the world. Peter Bauer refuted that vision by pointing out that “Before 1886, there was not one cocoa tree in British West Africa. By the 1930s, there were millions of acres of cocoa there, all owned and operated by Africans.” According to Peter Bauer, the Third World people were just as capable of responding to the incentives of a market economy as anyone else. Peter Bauer was also of the opinion that if poverty was a trap from which
Sowell, Thomas; RIP Peter Bauer, who refused to buy the argument that one cannot escape poverty, Enterprise/Salt Lake City; 5/13/2002, Vol. 31 Issue 47, p34, 1/2p 7 The CATO Institute: Peter Bauer http://www.cato.org/special/friedman/bauer/index.html Accessed Date: 26th May 2010 8 Eberstadt, Nicholas; Rethinking the population problem, Public Interest; Spring2005, Issue 159, p139151, 13p 9 Shleifer, Andrei; Peter Bauer and the Failure of Foreign Aid, Cato Journal, vol. 29 no. 3, Fall 2009
there was no escape, we would all still be living in the Stone Age, since all countries were once as poor as the Third World nations are today.10 According to what Peter Bauer stated in his book, From Subsistence to Exchange and Other Essays (2000), development aid is not necessary to rescue poor societies from a vicious circle of poverty. Indeed it is far more likely to keep them in that state. It promotes dependence on others. It encourages the idea that emergence from poverty depends on external donations rather than on people’s own efforts, motivation, arrangements, and institutions. An IMF 2005 working paper titled, “Does Foreign Aid Reduce Poverty? Empirical Evidence from Nongovernmental and Bilateral Aid” by Nadia Masud and Boriana Yontcheva, was aimed at verifying if foreign aid has a positive impact on two human development indicators (infant mortality and adult literacy) whose improvement is part of the Millennium Development Goals. The results of this paper show that official bilateral aid is not very effective in reducing infant mortality, that there is hardly any impact of foreign aid on illiteracy and that foreign aid reduces government efforts in achieving developmental goals.
2.2 Population Control and Foreign Aid
International donor agencies - the International Monetary Fund, World Bank, United Nations Fund for Population Activities (UNFPA), United States Agency for International Development (USAID), United Nations Development Programme (UNDP) -- have all identified population growth as one of the main factors for underdevelopment, and have channelled billions of dollars into population control. One of the World Bank's activities has been to pressure national governments into prioritising population control policies and then providing loans and credits for implementing them.11
Sowell, Thomas; RIP Peter Bauer, who refused to buy the argument that one cannot escape poverty, Enterprise/Salt Lake City; 5/13/2002, Vol. 31 Issue 47, p34, 1/2p 11 http://infochangeindia.org/200704056302/Population/Population-Puzzle/Manufacturing-consent-forThird-World-population-control.html Accessed Date: 29th May 2010
Family planning and birth control have been part of foreign aid programs for many decades now. US assistance to developing countries like Peru, Zimbabwe has focused on, among other areas, family planning. By the late 1970s and early 1980s, a worldwide network of activist anti-natal organizations—including private foundations, bilateral foreign aid agencies, multilateral institutions like the United Nations family and the World Bank, and a host of recipient groups the world over—were making the case that rapid population growth was having deleterious, or even disastrous, effects in low income areas, and perhaps even on the world as a whole. Poverty, unemployment, hunger, and social strife were just some of the afflictions the "population explosion" was said to be visiting on a hapless planet. Robert McNamara, then-president of the World Bank, insisted that "the threat of unmanageable population pressures is very much like the threat of nuclear war," and identified what he termed "rampant population growth" as "the greatest single obstacle to the economic and social advancement of the peoples in the underdeveloped world.12 Peter Bauer was an opponent of the overpopulation thesis (though it was one of the key dogmas of development economics)13, recognizing that the poor like the rich should have the right to choose the number of children they have, that many developing countries are under-populated, and that population growth will anyhow slow down once the poor become richer14. In Peter Bauer’s 1981 book, Equality, the Third World and Economic Delusion there is an essay titled "The Population Explosion: Myths and Realities." begins by reviewing some obvious but often neglected facts about poverty and development in the modern era. Many areas of the world—Western Europe and North America—had risen to prosperity despite rapid, or even exceptionally rapid, rates of population increase. Some
Eberstadt, Nicholas; Rethinking the population problem, Public Interest; Spring2005, Issue 159, p139151, 13p 13 Sowell, Thomas; RIP Peter Bauer, who refused to buy the argument that one cannot escape poverty, Enterprise/Salt Lake City; 5/13/2002, Vol. 31 Issue 47, p34, 1/2p 14 Shleifer, Andrei; Peter Bauer and the Failure of Foreign Aid, Cato Journal, vol. 29 no. 3, Fall 2009
of these newly affluent locales, moreover, had achieved their wealth despite not only dramatic increases in population, but a manifest scarcity of, arable land and a lack of other "natural" resources (Japan or Hong Kong). Conversely, Peter Bauer reminded his readers, dreadful poverty could be seen today in many parts of the modern world where land and other resources have been abundant, and where population density has been and is quite low (large parts of Central Africa, among other places). In Bauer’s words, “The predictions of doom through population growth rest on the idea that economic achievement, progress and welfare all depend primarily on natural resources, supplemented by physical capital. This Malthusian notion is then supplemented by the very non-Malthusian idea that, people in LDCs (less developed countries) have no will of their own and are simply passive victims of external forces: in the absence of Western-dictated pressures, people in the less developed world procreate heedless of consequences.”
2.3 The Big Push Model and Foreign Aid
During the post-World War II era, the intellectual support for many of the policy recommendations for how to allocate aid in order to stimulate economic development was based on the “big push model”. According to the Big Push Model, (developed by Rosenstein-Rodan in 1943, formalized by Murphy, Shleifer, and Vishny in 1989) what keeps countries behind is insufficient investment across sectors of the economy and in infrastructure. To the extent that foreign aid supplies investment capital, it jump starts economic growth, and initiates a virtuous cycle whereby investment generates income and thus raises the economic return to further investment. With regards to the “investment fetish” (the conception that capital and investment was both the driving engine and the limiting constraint in the process of
modern economic growth), Peter Bauer said, “The volume of investible funds is in any case a minor factor in economic development. Much capital formation forms more closely analogous to consumer durables than to instruments for increasing production and promoting further economic growth. It is unwarranted, further, to assume that the governments of the LDCs (least developed countries) in question would use investible funds more wisely if they did not have to use them to provide for an expanding population. The investment record of many Third World governments has been deplorable.”15 Peter Bauer relentlessly criticized the big push model. He argued that foreign aid providers do not know which investments are appropriate for a developing economy, so aid money is poured into bad projects (also known as white elephants), which not only fail to encourage economic growth, but divert scarce human and other resources away from productive uses. The limited institutional and human capabilities of a country are wasted on unproductive rather than productive activities. Aid destroys economic incentives, leads to misallocation of scarce resources, and so not only fails to jump start, but actually undermines growth.16 Peter Bauer also wrote that “It is more meaningful to say that capital is created in the process of development, rather than that development is a function of capital. 17
Does Foreign Aid lead to Economic Development?
In 2000, two World Bank economists, Craig Burnside and David Dollar, relying on a panel data set of 56 countries over six 4-year periods (beginning with 1970–73 and ending with 1990–93), used regression analysis techniques to examine the relationship between national economic growth, national economic policy, and foreign aid received.
Eberstadt, Nicholas; Rethinking the population problem, Public Interest; Spring2005, Issue 159, p139151, 13p 16 Shleifer, Andrei; Peter Bauer and the Failure of Foreign Aid, Cato Journal, vol. 29 no. 3, Fall 2009 17 Dorn, James A. ECONOMIC DEVELOPMENT AND FREEDOM: THE LEGACY OF PETER BAUER, CATO Journal; Fall2002, Vol. 22 Issue 2, p355, 17p
Their two principal findings were (1) the estimated coefficient of aid is negative but not statistically significant, and (2) the estimated coefficient of the aid-policy interaction term is positive and significantly different from zero. From these two results, they concluded: “We find that aid has a positive impact on growth in developing countries with good fiscal, monetary, and trade policies, but has little effect in the presence of poor policies.” In 2003, Burnside and Dollar’s conclusion were challenged by economists William Easterly, Ross Levine, and David Roodman. They used the exact same regression specification as Burnside and Dollar, but expanded the set of observations to include data that were not available to Burnside and Dollar. They were able to augment Burnside and Dollar’s 56-country sample with 6 additional countries and one additional 4-year period (1994–97). Using their expanded data set, they found that the aid-policy interaction term is not significantly different from zero, indicating no support for Burnside and Dollar’s conclusion that in a good policy environment foreign aid has a positive effect on economic growth. The study went one step further: empirical evidence suggested that foreign aid has a negative growth effect even where economic policy is sound.18
Most of Peter Bauer’s written works (including arguments against the competence of foreign aid) were published before 2000 and it is only in recent years that the effectiveness of foreign aid has come into limelight and question. The incompetence and the very busted idea of foreign aid has been quite evident in recent years.
Brumm, Harold J.; AID,POLICIES, AND GROWTH: BAUER WAS RIGHT, CATO Journal; Fall 2003, Vol. 23 Issue 2, p167-174, 8p, 2 Charts
Peter Bauer proclaimed well ahead in time that foreign aid is not an effective instrument in reducing poverty, population growth is not an impediment to economic development and that foreign aid interfering with the investment in under developed nations can be a detriment to economic development. The notion that foreign aid can help alleviate poverty has been proved wrong by the continuing dismal economic status of most of the African continent which has received more than $580 billion of aid since 1960.19 Economies of countries with burgeoning populations like China, India and Brazil are being watched out for. There have been studies and discussions to show the possibility that China and India will dominate the 21st century global economy (video lecture by award winning Professor Lee Branstetter of Carnegie Mellon University, USA). The reasons why aid hasn’t always worked is that aid money suffers from the trickle down effect and wasteful administrative and consumption spending and has made Government agencies, incharge of “effectively” using aid, hotbeds of corruption. The very blueprint of foreign aid needs to be redesigned and alternate approaches need to be explored.
• • Machan, Tibor; Downtrodden lives bettered by freedom? Sun, The (Yuma, AZ); 08/05/2006 Sowell, Thomas; RIP Peter Bauer, who refused to buy the argument that one cannot escape poverty, Enterprise/Salt Lake City; 5/13/2002, Vol. 31 Issue 47, p34, 1/2p
http://unctad.org/en/docs/gdsafrica20061_en.pdf Accessed Date: 29th May 2010
• • •
Eberstadt, Nicholas; Rethinking the population problem, Public Interest; Spring2005, Issue 159, p139-151, 13p Shleifer, Andrei; Peter Bauer and the Failure of Foreign Aid, Cato Journal, vol. 29 no. 3, Fall 2009 Dorn, James A. ECONOMIC DEVELOPMENT AND FREEDOM: THE LEGACY OF PETER BAUER, CATO Journal; Fall2002, Vol. 22 Issue 2, p355, 17p
• • • •
Brumm, Harold J.; AID,POLICIES, AND GROWTH: BAUER WAS RIGHT, CATO Journal; Fall 2003, Vol. 23 Issue 2, p167-174, 8p, 2 Charts Economic Development in Africa http://unctad.org/en/docs/gdsafrica20061_en.pdf Accessed Date: 29th May 2010 OECD Glossary of Statistical Terms http://stats.oecd.org/glossary/detail.asp? ID=6043 Accessed Date: 28th May 2010 Foreign Aid: Criticsm – Britannica Online Encyclopaedia http://www.britannica.com/EBchecked/topic/213344/foreignaid/256256/Criticism Accessed Date: 28th May 2010
Peter The 2010
http://homepage.newschool.edu/het//profiles/bauer.htm Institute: Peter Bauer
Accessed May 26th 2010 http://www.cato.org/special/friedman/bauer/index.html Accessed Date: 26th May • Manufacturing consent for Third World population control
http://infochangeindia.org/200704056302/Population/PopulationPuzzle/Manufacturing-consent-for-Third-World-population-control.html Accessed Date: 29th May 2010
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