Privatizing Finance for Development

The Green Cross Optimist
Autumn, 2006

On a recent trip to Africa, a commentary in a local newspaper caught my attention: “What has changed in Africa after decades of aid for development?” asked the author. The answer was that everybody has a cell phone. The rest is the same.

Assume for a minute that this is true. With less than a decade remaining to meet the UN Millennium Development Goals many low-income countries (LICs), mainly in Africa, are badly off track. On a number of occasions, rich countries promised to scale up development assistance and double aid to Africa. It looked like all that needed to be done was to set aside adequate resources in donors’ budgets, and then decide whether the aid should be in the form of concessional loans, grants, or some combination of the two.

I applaud the scaling up of ambition. But the key point of the discussion – official loans versus grants – although legitimate, does not seem crucial. There is a more fundamental dilemma. If the commitment to scale up aid and double its delivery to Africa is to be respected, the main question should not be the form of delivery. Rather, the issue is how to tap into private sources. The public sector simply cannot do it alone.

The question is not insignificant. For decades, development financing has been a combination of concessional loans and grants from wealthy governments and multilateral institutions. Such assistance continues to dominate. Direct budgetary transfers in the form of grants are a substitute for domestic revenue in recipient countries. Such financing does not lead to debt accumulation or occasionally awkward debt workouts. It does not require investment in production of tradable goods, which could be exported to earn the hard currency required to repay the loans.

Loans, even concessional, have to be repaid, and thus add to the debt problem. Or they could be forgiven, in which case they are a replica of grants. Loans do have their advantages. They can help to improve public finances, inducing to develop adequate project selection and debt management capacities.

But irrespective of the mix of loans and grants in the projected scaling up, public aid alone will not be sufficient. The track record of official development assistance so far has been spotty. And research is highly inconclusive on the impact of such assistance on growth. While some authors find that aid can be effective under certain circumstances, many point at its diminishing returns. Some find no robust evidence of any impact, positive or negative. This conclusion holds across time horizons, time periods, types of aid, types of donors, and characteristics of recipient countries.

Of late, the analysis of official aid has shifted toward viewing it as primarily humanitarian, as opposed to growth-enhancing. Providing externally-financed salaries is clearly a form of international charity rather than an economic policy. Too often, aid simply produces bloated government payrolls without improving public administration.

Recognizing the altruistic roots of official financing makes sense for explaining the past, but unfortunately offers no recipe for the future. I would argue that official aid, whether in the form of loans or grants, should play a supporting role by creating an environment conducive to private initiative. Privatization of development financing should be on the cards.

Of the gamut of private options for financing for development, three are immediately accessible:

Fund-raising. Aid has a long pedigree as a moral obligation. There is a long and solid track record of appealing to private citizens’ sentiments to mobilize private funds – from Darfur in Sudan and Beslan in Russia, to the victims of Hurricane Katrina and AIDS. The cumulative viewing figures for the 2006 soccer World Cup exceeded 30 billion people, five times the world population. Madonna claims that the audience for her recent world tour exceeded half a billion. One-half of the 65 percent of people in wealthy countries with access to the Internet use Google. Using those three platforms alone, fund-raising for development, if professionally managed and even financed by ODA, could amalgamate private resources that would far exceed current public aid. These resources could then be channeled through existing development agencies to address the needs of LICs. Such financing should not necessarily be directed only to the countries themselves. Given their low absorptive capacity, a substantial part of it can be spent outside. Ultimately, financing research on malaria – irrespective of where it is conducted – or the education of African students at Harvard would still be to the benefit of LICs.

Trade and exports. With the Doha trade negotiations stalemated, LICs’ exports as a source of additional private development financing remains unused. Preservation of the status quo is unacceptable: it forces agricultural exporters in poor countries to compete with the Treasuries, not producers, in rich nations because of existing subsidies and tariffs. It deters LIC exporters from moving up the value chain as tariffs on their products increase with the degree of processing. It exempts “sensitive” products such as sugar, rice and low-end clothing from duty- and quota-free market access under preferential schemes. It encourages competitive bilateralism, undermining the cherished development principle that trade opportunities should be equal for all. LIC should also do their part of the work and reform their own trade regimes. The trade window should be open for development financing.

Remittances. I recall a delegate from a LIC addressing wealthy members at the WTO General Council with the following refreshing statement: “If you do not take our goods, you will have to take our people.” Defying fences and immigration bottlenecks, millions of these people have already irrevocably exported themselves into Western countries. Those who come to work remit part of their earnings to their homeland. Such altruistically-motivated transfers between households directly fuel consumption in many LICs. Moreover, remittances give no direct incentive to profligacy and corruption, and lend themselves to more efficient use compared to any variety of public aid. If helped institutionally – by improved banking services, rational tax and immigration policies – remittances could become a reliable, predictable, and stable private source of additional development financing.

I hope the scaling up of public aid materializes. But, in the meantime, the existing aid budgets could be used at least in part to encourage the altruism of wealthy private citizens and corporations and unleash private initiative for the benefit of the poor. A woman who makes her living selling boiled corn by the side of an African road is not waiting for a doubling of aid. On a cell phone, she is already discussing delivery options with her private suppliers. Why can’t development agencies look at options for private financing for development as well?

The views expressed in this article are those of the author and should not be attributed to the International Monetary Fund, its Executive Board, or its management.

by Alexei Kireyev, IMF