Why developing countries should be wary of foreign aid

As part of its Belt and Road Initiative (BRI), China has been offering many countries foreign aid in the guise of loans to build critical infrastructure. Initially, most recipient countries were enthusiastic, but with the passage of time, the burden of repaying the debt has led many to question whether accepting the aid in the first place was a good idea, and China’s rivals have come to view the entire project as a debt trap seeking to subjugate the recipients’ economies.

Recently, as part of the UN Sustainable Development Agenda, some developing countries have accused major powers of failing to fulfill their foreign aid commitments to them. My view is that major powers have indeed been failing, but that that is probably a blessing in disguise. Developing countries should focus their attention instead on internal reforms as a form of realpolitik.

While foreign aid is popular in diplomatic circles, economists, most notably New York University’s William Easterly, are a lot more skeptical about its role in economic development, arguing that citizens of developing countries should not be in a hurry to demand aid from richer ones.

Donor countries are often not the Samaritans we might imagine (or they might present themselves as). They sometimes use foreign aid to transform a developing country into a client by making it economically dependent upon them, such that the aid is used to undermine efforts at self-sufficiency. The former USSR used this tactic extensively during the Cold War, in addition to, allegedly, China through the BRI (it is too early to ascertain for sure what China’s intentions were).

Even when the donor governments bear good intentions, the bureaucracies employed for dispersing the aid are often highly ineffective. This is the result of their physical distance from the problem that aid agencies are trying to solve. Nobody understands a country’s development problems better than the people who experience those problems on a daily basis, yet they have little contact with a typical aid bureaucrat. As a result, in-kind donations frequently yield minimal returns, and may even be actively harmful, as happened when the EU donated its food mountains (excess food production resulting from the EU’s Common Agricultural Policy of 1962) to developing countries, destroying local agriculture.

A well-intentioned and well-informed foreign government still has to grapple with the problem of a corrupt government in the receiving country, again transforming the aid from a blessing to a blight for ordinary citizens. Under such circumstances, the aid might be used to co-opt political reformers, or even to purchase weapons that help fortify corrupt rulers, rather than rid the country of them. Latin America during the 1970s and 1980s experienced this.

Therefore, political considerations mean the sort of foreign aid that actually materializes is frequently harmful. I am not implying that citizens should be content with the continuation of their poverty. Rather, in cases where they are not provided with aid, they should be happy that they dodged the “aid bullet.”

But where will developing countries get the capital they need to purchase infrastructure and upgrade their educational and health systems, all of which are critical steps in economic development?

Focusing exclusively on the costly parts is a red herring, however, as there exist many effective reforms available to developing countries at minimal cost.

The first, naturally, is countering corruption. Foreign aid, conditional or otherwise, is not a requisite ingredient for a country to rid itself of corruption. While many of the necessary steps are political in nature, there are also technological steps that can be taken without the need for civil wars or regicide, such as digitizing government services (which is actually a money-saver independently of any anti-corruption benefits), and devolving power to local governments that can be more easily policed by the citizenry.

Empowering marginalized groups, such as women, the youth, and those with special needs are also steps toward reform. While such policies can be justified completely on the grounds of social justice, there are also good economic reasons, as a country that excludes groups denies itself the talents of that group. This is especially important at the leadership level, where one-in-a-million visionaries can have profoundly positive effects. Every country needs to maximize the size of the sample from which it can draw such talent, rather than restricting it to an artificially small group. One of the most influential development economists working on the issue of bottom-up economic growth is the late Elinor Ostrom, who in 2009 became the first woman to win a Nobel Prize for economics. There are surely many other Ostroms in developing countries who have been denied the opportunity to develop their talents and help grow their economies.

In developing countries, the problems of corrupt regulation represent an area for reform that need not be tied to a large influx of foreign capital. Citizens in developing countries must realize that ills such as suffocating licensing restrictions on employment and enterprise, endless red tape, or arbitrary taxation can and should be addressed primarily internally, at the initiative of that country.

Naturally, I qualify this statement with the fact that citizens in many developing countries are oppressed, and have no way to initiate the requisite reforms. However, as Prof. Easterly and others have shown, the prevalence of realpolitik in foreign policy means that foreign donors are the last place these oppressed masses should be looking for help, and certainly not the first.

The best form of foreign aid, in fact, is foreign capital that isn’t aid. It’s foreign direct investment, delivered voluntarily by profit-hungry capitalists rather than by aid offices seeking geo-strategic leverage. This dichotomy is nicely illustrated by the US and Latin America: The large increase in living standards experienced by Mexico during the last 25 years is the result of inward US investment under the umbrella of the North American Free Trade Agreement, whereas the billions of dollars of foreign aid disbursed by the US during the same period have yielded nothing like the return.

The challenge for governments in developing countries is reforming their systems to attract the right kind of capital. The challenge for their citizens is pressuring their governments to undertake those reforms, and to pray that in the event that rich countries do fulfill their commitments, they do so in spirit, and not just in the checkbook.

____________

Omar Al-Ubaydli (@omareconomics) is a researcher at Derasat, Bahrain.

SHOW MORE
Last Update: Wednesday, 20 May 2020 KSA 14:05 - GMT 11:05
Disclaimer: Views expressed by writers in this section are their own and do not reflect Al Arabiya English's point-of-view.
Top