NCPA - National Center for Policy Analysis


August 22, 2007

Validation of development aid for low income countries seemed to arrive with World Bank researchers Craig Burnside and David Dollar, who purportedly showed in the late 1990s that aid helped boost long run economic growth, says Arvind Subramanian, senior fellow at the Center for Global Development and at the Peterson Institute for International Economics.

Unfortunately, the Burnside-Dollar findings did not hold up under scrutiny:

  • Aid, after all, simply expands resources available to countries to build schools, hospitals and roads, and to pay teachers.
  • These investments in human capital and infrastructure surely boost growth and improve living standards, the thinking went, even if there is some wastage of resources along the way through corruption or mismanagement.
  • But as researchers pored over the data, it became increasingly difficult to maintain that there was any systematic relationship between aid and long-run economic growth.

In reality, says Subramanian:

  • Aid, especially in large amounts, can damage governance and make an economy uncompetitive; when governments receive large oil revenues or aid, they have less incentive to be accountable to their citizens, and governance suffers.
  • In addition, when foreign resources come pouring in and are spent domestically, wages tend to rise, especially for those in scarce supply such as managers, supervisors and entrepreneurs.
  • Factories that export will find themselves becoming uncompetitive and go out of business.

The problem is that development and long-run growth are less about resources than about the environment for generating and sustaining private sector investment, says Subramanian.  Two key aspects of this environment are decent public institutions or governance -- the essential "software" for running a market economy, for creating rule of law and protecting property rights -- and incentives that encourage the private sector to export, especially manufactured products.

Source: Arvind Subramanian, "A Farewell to Alms," Wall Street Journal, August 22, 2007.

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