Foreign Aid FAQs – #3 “We send too much money abroad”

Foreign Aid FAQs – #3 “We send too much money abroad”

Given the significant amount of coverage which the UK foreign aid budget receives in the press, in political discussion, and in charities’ external communications, the public would be forgiven for thinking that the UK sends vast swathes of money overseas. The UK does spend a significant amount of money on international development – in fact it was the first G7 country to meet the UN’s 45-year old aid spending target. The current foreign aid budget stands at approximately £12 billion which is around 1.6% of government spending.

Overall, rich countries send a total of around $125 billion in foreign aid to developing countries each year.[1] Now that is a lot of money, and governments of wealthy nations use this as evidence of their generosity. However, the dominant ‘aid narrative’ glosses over the various ways in which rich countries extract wealth from developing nations, effectively taking back their aid contributions. Below are some examples of how this is achieved:

Debt

In the olden days (pre-1980s), the responsibility was on lenders to make sure that their loans would get repaid. Lending to riskier countries (e.g. those in the developing world) offered a higher rate of return, but carried with it the risk that the borrowing country would default on its loan and the lender would lose out.

This all changed in 1982 when Mexico defaulted on its loans. The US Treasury and the International Monetary Fund, rather than incurring the huge losses which this would have entailed, decided to step in. Instead of letting the loan default, these organisations rescheduled the debt in exchange for Mexico’s adoption of certain economic policies which opened the country up to foreign interests and which are widely regarded to have damaged the Mexican economy, making it more difficult for them to repay.

This treatment, known as ‘structural adjustment’, then became standard. The result has been that the amount of debt owed by developing countries has spiralled as more and more interest was piled onto loans which should have been defaulted on while new loans had to be taken out to cover the repayments, leading to debts many times larger than the original sum. In many cases, so much interest is accrued that the original debt is repaid several times over. For 2015, the debt service paid on external debt by low and middle income countries exceeded $800 billion.[2]

Tax Avoidance

Tax avoidance is theft, plain and simple. Multinational corporations take full advantage of public spending on infrastructure, education, law enforcement, etc. in the countries in which they operate, and then don’t pay for it. Unlike theft, however, for the most part tax avoidance is perfectly legal and carried out through a process known as trade mispricing.

Let’s say that I own an internet search provider – let’s call it ‘Moogle’ – operating in the USA, the UK, and the British Virgin Islands. Now, profits have been good this year and Moogle US and Moogle UK have both made $10 million. However, Moogle British Virgin Islands, since it really only exists on paper, has no profit at all to show. Before the end of the tax year I decide that what the US and UK branches need is a snazzy new logo, so they each pay Moogle British Virgin Islands $10 million for this important work. And would you look at that, hey presto! When the taxman comes round to Moogle US and UK, they unfortunately haven’t made any profit to be taxed on. Perhaps they should take a leaf out of the British Virgin Islands branch’s book where there is $20 million awaiting significantly more ‘business-friendly’ tax rates.

Tax avoidance in developing countries effectively constitutes a transfer of wealth from the public purse to the private coffers of multinational corporations by and large headquartered in the rich countries. In 2012, developing countries lost approximately $991 billion in illicit outflows – greater than the combined foreign aid and foreign direct investment they received that year.[3]

Of course, tax avoidance does not just benefit multinational corporations based in the West, but also wealthy companies and individuals within developing countries who wish to conceal their profits from the tax authorities. However, large-scale tax avoidance is only possible because of the existence of tax havens, the vast majority of which are controlled by a handful of Western countries. For instance, the largest network of tax havens has the City of London at its centre, which controls secrecy jurisdictions throughout the British Crown Dependencies and Overseas Territories.[4]

Trade Rules

Global trade rules can be highly varied, but the most important are those concerning tariffs and regulation of foreign investment. Tariffs are taxes which countries put on foreign goods in order to give an advantage to their own industries. For example, when Japan’s car industry first started out it couldn’t compete with foreign imports, so the Japanese government introduced tariffs which allowed the domestic car industry to grow and nowadays it is one of the best in the world. Regulation maximises the benefit which developing countries get from foreign businesses operating on their soil – for example, requiring them to transfer technology or buy materials from domestic suppliers.

The main thrust of international trade agreements in recent years – primarily as a result of pressure from rich countries – has been to reduce tariffs on manufactured goods (by and large produced in developed countries), and to reduce regulation. Reducing tariffs means that emergent manufacturing industries in developing countries are outcompeted by more established rivals in the developed world, meaning that developing countries are stuck in low-productivity industries such as agriculture and textile manufacture. Reducing regulation means that corporations based in the developing world are able to exploit cheap labour or extract natural resources in a developing country, send the profits back home, and contribute little or nothing to the country’s economic development.

It’s difficult to give an exact figure as to how much these unfair and one-sided trade rules have cost developing countries, but economist Robert Pollin of the University of Massachusetts has estimated the cost at $500 billion a year.[5]

Conclusion

A recent report by Global Financial Integrity which comprehensively examined international financial flows found that for every dollar in aid received by developing countries, $24 is lost through other means.[6]

Of course foreign aid is not the only money which developing countries receive from their wealthy counterparts. In 2012, developing countries received a total of $1.3 trillion from aid, foreign investment, remittances, income from abroad, etc. At the same time, $3.3 trillion flowed out of them, meaning that they experienced a net loss of $2 trillion that year.[7] That’s $2 trillion that could have been spent on combating poverty, improving healthcare, developing industry, or adapting to climate change. Far from being recipients of enormous swathes of cash, overall developing countries are net creditors to the rest of the world.

Source: http://www.globaljustice.org.uk/resources/poor-are-getting-richer-and-other-dangerous-delusions

The fact that the UK spends billions of pounds each year in aid to developing countries is common knowledge. However, the vast amount of money that rich countries receive back from developing countries is not nearly as well known. Perhaps public attitudes towards foreign aid would shift if more people knew that, far from sending too much money abroad, the UK and other rich countries currently do far more harm than good in the developing world.

[1] www.oecd.org/dac/stats/aidtopoorcountriesslipsfurtherasgovernmentstightenbudgets.htm
[2] www.data.worldbank.org/indicator/DT.TDS.DECT.CD?end=2015&locations=XO&name_desc=false&start=1970&view=chart
[3] www.gfintegrity.org/report/2014-global-report-illicit-financial-flows-from-developing-countries-2003-2012/
[4] www.theguardian.com/global-development-professionals-network/2017/jan/14/aid-in-reverse-how-poor-countries-develop-rich-countries
[5] www.aljazeera.com/indepth/opinion/2013/04/201349124135226392.html
[6] www.theguardian.com/global-development-professionals-network/2017/jan/14/aid-in-reverse-how-poor-countries-develop-rich-countries
[7] www.theguardian.com/global-development-professionals-network/2017/jan/14/aid-in-reverse-how-poor-countries-develop-rich-countries


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Foreign Aid FAQs – #2 “Foreign aid should be cut to pay for public services”

Foreign Aid FAQs – #2 “Foreign aid should be cut to pay for public services”

In any given episode of Question Time, especially during episodes in which the NHS funding crisis is discussed, there is a high chance that at some point someone will suggest that a simple way to raise money for public services would be to cut the foreign aid budget.

For one thing, the foreign aid budget isn’t the eye-wateringly large amount of money which people seem to think it is. For 2015 it stood at £12.1 billion. That’s just 1.6% of government spending, about the same as what the government spent on the railways.[1]

Secondly, it doesn’t seem right that reducing assistance for the world’s poorest people is always the first suggestion for where we should source extra public money. The UK’s aid budget is portrayed as this vast, wasteful sum of money that is inexcusable given the cutbacks in other areas of public spending. What is hardly ever mentioned is the enormous amount of money which the UK government spends on corporate assistance, or which is lost through cuts to corporation tax and corporate tax avoidance. Below are some examples:

  • £44 billion in corporate tax breaks.[2] For example, capital allowances which allow businesses to write off billions spent on machinery, vehicles, IT and office equipment against corporation tax.
  • £35 billion on legacy costs of the bank bailouts.[3] Much of this cost is interest payments on long-term borrowing which was used to fund the bailouts following the 2008 financial crash. The government is effectively retaining the ‘bad’ parts of the banks taken into public ownership following the crash, and selling off the ‘good’ parts at a net loss. Furthermore, the banks are protected somewhat from regular market mechanisms and assessments of risk because the UK government effectively guarantees to underwrite these risks.
  • £16 billion in wage subsidies.[4] In-work tax credits effectively subsidise businesses by allowing them to pay their workers less than they need to live, safe in the knowledge that the government will top up their wages. Similarly, housing benefit allows landlords to charge rents far above what their tenants can afford, inflating the rental market.
  • £15 billion in hidden transport subsidies.[5] Airlines do not pay tax on fuel, corporation tax on their ‘economic activity’ within the countries they operate in, or VAT on ticket sales. Train companies enjoy lower duty on fuel.
  • £15 billion lost through procurement from the private sector.[6] The government spends a total of £238 billion (one third of total spending) on procuring services from the private sector. It has been estimated that it could save £15 billion if some services were instead run by the public sector. This is due to the costs involved in drawing up contracts, monitoring projects, project overruns, and picking up the pieces when private sector companies fail. The government also has to pick up additional costs in benefit payments and/or tax credits when workers are laid off or paid less when private companies take over the running of a public service.
  • £14.5 billion in subsidies and grants.[7] These include subsidies to agriculture, train companies (separate from the hidden subsidies mentioned above), the nuclear industry, and the defence industry. Additionally, grants are given to businesses to encourage them to invest in a certain area or to prevent them from collapsing.
  • £12 billion lost to corporate tax avoidance.[8] This is technically legal, as opposed to tax evasion which is illegal, and almost exactly matches the UK aid budget.
  • £5.4 billion lost from cuts to corporation tax since 2010.[9] These tax cuts mean that businesses are paying nearly £8 billion less in corporation tax per year. This could potentially result in more inward investment, but it has been estimated that it will result in a net tax loss of £5.4 billion. The UK already has by far the lowest corporation tax rate in the G7.
  • £3.8 billion in energy subsidies.[10] These subsidies benefit providers of electricity, gas, and oil. They also include legacy nuclear costs – primarily post-production clean-up.
Source: http://www.globaljustice.org.uk/resources/poor-are-getting-richer-and-other-dangerous-delusions

This is not to claim that all of the spending mentioned above should immediately be scrapped, or that none of it has any beneficial impact. The aim of this is to illustrate that there are far more areas of government spending than just foreign aid which could be reviewed when considering what, if anything, should be cut to generate more money for public services.

For those who benefit from the aforementioned subsidies – and for the politicians who represent them – it suits their interests to divert public attention away from the huge amount of financial assistance they receive from the public purse. Much better to encourage people to criticise the relatively small amount of money spend on the foreign aid budget. It’s a classic diversionary tactic, as cynical as it is effective.

So next time a public figure is eager to highlight the foreign aid budget as an easy source of money to pay for public services, ask people to think about if they have any vested interests and if they are trying to divert attention away from the vast sums of money which the UK government spends on corporate assistance. Why are the poorest always the first to pay when money is tight?

[1] www.ukpublicspending.co.uk/uk_budget_detail_16bt12015n_306065#ukgs303
[2-8] www.speri.dept.shef.ac.uk/wp-content/uploads/2015/07/SPERI-Paper-24-The-British-Corporate-Welfare-State.pdf
[9] www.ft.com/content/c0afbfc4-02af-11e4-a68d-00144feab7de
[10] www.theguardian.com/politics/2015/jul/07/corporate-welfare-a-93bn-handshake


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Exporting policy and Institutions

Exporting policy and Institutions

Development has been rife with trending schools of thought, asserting the superiority of their ideological convictions over others. Here, Jesus Rodriguez evaluates the effectiveness of exporting successful ideas, institutions, and policies from one place to another.

Like any academic discipline or social activity development is subject to trends. This is nothing to necessarily be afraid of, but something to be aware of insofar as these trends can represent what is at the forefront of our field. Within the field of development our main focus is to discover the secret of prosperity, how to lift people out of poverty, how to achieve a good quality of life. Development is a young discipline yet we have greatly progressed in recent years by viewing historical and economic trends through path dependency analysis. In this piece we will have a brief discussion of what institutions are, how they relate to path dependency analysis, how they impact development, and why they may not function in application. We will be arguing that path dependency analysis in economic history has possibly uncovered a key factor in achieving prosperity but more research is needed to verify our hypothesis.

Open Grid Scheduler / Creative Commons License
Open Grid Scheduler / Creative Commons License

Douglass North describes institutions as the rules by which the game is played; they are our social norms, the way our society functions, the way in which we interact with each other. In short path dependency analysis using critical junctures is when we compare very similar case studies and evaluate how they differ when confronted with the same stimulus. An example of this would be how Western Europe and Eastern Europe reacted to the Black Death, in Western Europe workers demanded greater wages for more work and in Eastern Europe the workers were forced to do more work for the same wage. Path dependency analysis relates to institutions in that through historical events we can see how different countries have succeeded based on their institutional makeup. Following this thought and using path dependency analysis we generally see that the countries with inclusive institutions tend to be more prosperous than the rest.

In theory if we could learn how to do this we should be able to engineer more prosperity for developing countries, as with the use of the right institutions these countries are more conducive to growth. At which point we arrive to the crux of the issue, we know that inclusive institutions are the most conducive to growth so how do we export them to other countries? The answer is we cannot, at least we do not know how at the moment. There have been attempts in the past to do such a thing but they have failed. An example of this is the exportation of consumer protection groups to Latin American countries. Consumer protection groups are largely a North American phenomenon; they were developed as part of North American history and culture. What we find when this policy set was exported to Latin America during its neo-liberal era is that they did not function in the way that they were supposed to. Consumer protection groups had no history in the continent and as such people were ultimately unfamiliar with the concept and failed to adequately implement them.

Giselle Varga / Creative Commons License
Giselle Varga / Creative Commons License

Owing to the fact that institutions are socio-historical constructs it is near impossible to adequately translate them unless the country in question has a very similar history and culture. Its as if you try to use an inside joke with a different group of friends, without the right context the exportation of policies and institutions will not work. Yet that is not to say it will never work. At the core of social interaction and individual decision-making there are behavioural patterns at play that we can theoretically analyse in order to understand how people interact. With this it is possible to breakdown a group of foreign institutions and policies into behavioural patterns and adjust them according to the behavioural patterns of the developing country. It would be like breaking down an inside joke into its respective parts and adapting it to fit the context of a different group of friends. With that, there is currently no research of the sort occurring to the knowledge of the author, likely owing to a myriad of reasons from complexity to cost of doing such extensive research.

We see from path dependency analysis that inclusive institutions are conducive to growth and prosperity, which if we could learn how to artificially create them we would be able to greatly enhance our ability to increase the quality of life of others. Yet it is possibly impossible to recreate culture and history, which is why we must attempt to reduce institutions to behavioural patterns and adjust them accordingly. We know why some societies prosper and others fail, and we have a few ideas into how we can help them succeed, but before we can be sure we need more research.


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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The Soviet Union: Lessons in Dissolution, Development & Discovery

The Soviet Union: Lessons in Dissolution, Development & Discovery

The USSR should never be viewed through rose-tinted glasses. In the voyage for utopia, a sea of blood was crossed and a workers’ paradise was never actualised. Nevertheless, a recent poll shows that 57% of Russians would resurrect the old system. Tal Tyagi explores why this is the case and concludes that the Soviet experiment provides important lessons in international development.

Poll after poll provides similar results. In 2009 nearly 60% of Russians severely regretted the demise of the USSR. Even in the former satellites nostalgia is strikingly high. In 2010 a whopping 46% of Romanians said they favoured communism. According to a 2009 poll 57% defended the legacy of the former GDR. So strong are such attitudes that where communist parties are allowed to operate, this is reflected in voting behaviour. In Russia the second largest party is the Communist Party of the Russian Federation. In the Czech Republic they are the third biggest party and in East Germany Die Linker, which is in part made up of former GDR government members, is the largest party.

This certainly contradicts our image of those trapped behind the iron curtain. While it may have been a hunger for food and for freedom that brought about the demands for a new order, the transition to the Western model was chaotic at best and at worse chimerical.

Amidst the turmoil of transition, previously non-existent unemployment and homelessness took hold. In many instances party bureaucrats who controlled the administrations of certain services became multi-millionaires over night. Citizens felt like they had been robbed. Fukuyama´s triumphalism that liberal democracies had swept away the socialist dictatorships was not quite evident in Russia. Far from a golden age of human rights and market miracles, it is widely regarded as an explosion of looting and corruption. Popular protests sparked by a rise in poverty were put down by force when Boris Yeltsin ordered the army to have them killed or arrested.

Manhhai / Creative Commons License
Manhhai / Creative Commons License

While the Soviet system was regarded by Western economists as a failure, since its collapse life expectancy has fallen by ten years and in some republics, GDP fell as much as 50%. Therefore, a re-evaluation of this model is in order.

During the Cold War, the two superpowers competed for hegemony. Nikita Khrushchev´s taunting of Western ambassadors with “We will bury you” seemed laughable and ludicrous. The strength of the American dream was not just reflected in its freedoms but in the fridges of the American people. While it was true that on average Americans enjoyed a higher standard of living, when comparing two models a multitude of factors have to be taken into account. A command economy in the temperate climate of Western Europe would almost certainly fair better than a market system in sub-Saharan Africa. This would not be a fair test.

Russia which suffers from frigid winters was largely still feudalistic even by 1917. Since the USSR´s inception it was surrounded by enemies, ravaged by Civil War and then devastated by WW2. These severe disadvantages cannot be deemphasised when comparing with the US.

The success of the ´American dream´ is as much a result of luck as it is of liberty. Established in 1776 and arising from civil war in 1865, the USA had far more time to establish. Her advantages were being made of coal, oil and uranium, much greater climatic variation and peaceful neighbours either side. In WW2 the US lost around 292,000 compared to the 27 million lost by the USSR.

Even when comparing West and East Germany, the major industrial and agricultural centres were located in the West which also received a large portion of Marshall Aid.

Economist Robert C. Allen argues that the success of the Soviet system can only be seen upon comparing it to the most under-developed regions of the world in Asia, Africa and Latin America. In spite of all its disadvantages and problems, the USSR was the second most developing economy in the twentieth century, just after Japan. The rapid industrialisation, mass literacy campaigns, universal healthcare and education along with its propensity to defeat the Nazi war machine, sparked the imagination of movements across the globe.

Ceri C/ / Creative Commons License
Ceri C/ / Creative Commons License

 

The Soviet claim to ´modernization within a generation´ led to several emulation attempts in the post-colonial world. While the US was widely perceived to be pursuing a project of neo-colonialism, the USSR was seen as the alternative. The Chinese revolution, the Cuban revolution, the Saur revolution… Even those leaders, who were not explicitly communist, borrowed aspects.  India´s Nehru described the Soviet system as a “new civilisation, towards which the world would move” and Ghana´s Nkrumah would receive the Lenin Peace Prize in 1962.   In the early 1950s the Soviet Union began a program of technical and economic aid to the underdeveloped nations. Soviet aid, over $6 billion by 1966, was generally low-interest loans, industrial equipment on credit with technical assistance, and long-term commodity purchase agreements.

Strikingly, even in the West, the Soviet model was taken as a serious challenger. In the 1930s at the height of the Great Depression, since the planned economy was not interlinked, the USSR was relatively unaffected. With full employment, rapid industrialization, dams and spectacular projects like the Dnieper Hydroelectric Station and the Moscow underground, the role of the state was given increased credibility in the eyes of policy makers. This was in part, what set the stage for the New Deal.

The foundations of what drives innovation were fundamentally challenged. Milton Friedman´s philosophy is that “the world runs on individuals pursuing their self interests” and that genius and discovery is the exclusive realm of entrepreneurs. However, Sputnik, Yuri Gagarin, nuclear power transferable through a grid, laser eye surgery, the AK-47 and Tetris were just some of the achievements the system could boast without the profit motive.

Overall, the Soviet experiment should never be glorified but neither should the entire chapter be dismissed as just a blunder in human history. Shortages of consumer goods and a thriving black market were failures. However, its ability to transform a backward agrarian economy into a superpower, to double life expectancy and to pioneer the space race were not. In today´s Russia nobody misses the secret police or the shortages but they do miss the housing and healthcare. Therefore, surely something from the Soviet experiment can be salvaged?

 

 

 


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Book Review: Institutions, Institutional Change and Economic Performance by Douglass North

Book Review: Institutions, Institutional Change and Economic Performance by Douglass North

Continuing his series of key development readings Asad Abbasi reviews Douglass North’s Institutions, Institutional Change and Economic Performance. Norths’ contributions were of extreme importance and continue to influence developmental discourse today.

 

The book is about understanding the idea of history, economic growth and institutions. The models of neoclassical economics have underestimated the importance of institutions and therefore these models have been unable to explain divergent patterns of growth between countries. North argues that only by including institutions in the economic models one can understand broad historical patterns of economic growth.

North defines institutions as non-physical constraints designed for human interaction. He differentiates between organizations and institutions. Organizations are those social groups where like-minded people aspire towards a certain target. Institutions are much more complex entity.

In the book he gives example of football to define institutions. In football there are formal rules such as laws of the game, structure and written codes and some informal rules such as sportsman spirit and fair play etc. If a referee or a match official finds any player not abiding by these rules then they could enforce these laws. Like-wise institutions are made up of formal constraints (Laws, constitution), informal constraints (ideas, culture, and ideology) and enforcement (state, judiciary)

UNU-WIDER / Creative Commons License
UNU-WIDER / Creative Commons License

 

North asks two core questions in the book:

1) Why is there a great divergence between third world countries (less developed) and first world countries (developed)?

2) How can one explain the existence of failed countries along with the existence of successful ones?

1) North argues that the divergent patterns between Latin America and United States are due to difference in institutions framework (formal, informal constraints) present in Spain and England at the time of colonization. These institutions provided incentives that shaped policy both in colonial country and in colonies. Therefore the North American rulers understood and supported property rights, individualism and liberty whereas Latin American rulers did not.

2) North suggests that a reason why Latin America, despite its failings, co-exists with North America today is because of imperfect information and transaction cost. In a perfect information model, agents differentiate between efficient markets and inefficient markets without any subjectivity. However these models are not the representation of the real world where information is not perfect and uncertainty is the only certainty. In countries where institutions are not in place investors, entrepreneurs, organizations and firms are not entirely sure about the returns and face uncertainty. Therefore, institutions are important as they try to reduce the degree of uncertainty. Latin America has a weaker institutional infrastructure than North America. Businesses thrive in the latter and suffer in the former.

Criticism of North generally falls within two categories. The first criticism against North is by writers who use the ‘institutional framework’ but only after modifying it. The other criticism is by those who see institutional framework as an extension of neoclassical approach and inadequate to explain divergent paths of development

Kenneth Sokoloff and Stanley Engerman raised the point that North America development due to good institutions in England. And Latin American didn’t develop because of bad institutions in Spain. However, Britain colonized African countries, Caribbean countries and South Asian countries. Why are these countries without ‘good institutions’? This question is a critique of North’s institutional argument. Why Jamaica didn’t have good institutions despite being colonized by Britain. According to Sokoloff and Engerman, type of institutional development depended on the type of factor endowment of each country such as ‘degree in inequality in wealth, human capital and political power’. These factors affected how institutions were shaped. With extreme inequality, elites were able to form institutions that were beneficial to them. Recently, another modification of this argument is presented by Acemoglu and Robinson.

 

North’s institutional argument is simple and easy to understand but yet historically inaccurate.  Institutionalism has been criticized Ha Joon Chang who shows that institutions, laws, regulations, good governance are effects of development and not its cause.

In conclusion, North’s argument is simple, therefore, appealing. Recently, many criticisms have emerged against North’s version of institutions but idea of institutions has not withered away. However with every modification, it is becoming more complex and losing its original appeal: simplicity.

Asad Abbasi has a Master’s degree in Political Economy of Late Development from the London School of Economics.

 


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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The Paradox of Corruption: Can there be ‘good’ corruption? Part 1

The Paradox of Corruption: Can there be ‘good’ corruption? Part 1

Corruption is a strikingly dirty word in today’s newspapers, among academics, and even in our favorite TV shows and movies. It has a negative connotation because paying sums of money to public officials in order to bypass a law or other public ordinance is unethical within our society. By having such conventional definitions of corruption, we unfortunately can’t fully locate the problem and assess it. That’s because corruption might actually be helping economic growth  in certain cases instead of hurting it, causing an unknown policy schizophrenia on how to best tackle it. Everyday citizens are hurt by corruption because of the excess income they have to spend and the misuse of public money on their behalf.

Alexei Ivanov aims to show that the core of the problem to corruption are institutions and by expanding our definition of corruption, we can attempt to alleviate the poor institutional practices witnessed all over the world in developing states.

In the popular media, corruption is usually portrayed wicked and sinister, chiding public sector employees for having poor morals, whenever a case against a public official emerges (one of the most popular examples of this today is the political drama House of Cards).

Corruption is also not limited to one place or even developing states. Just recently, criminal judges in North Western Australia admitted to accepting bribes of over $2,000,000 from mafia bosses to hand down lighter sentences. It has an impact on anyone and anywhere, but more specifically we can make claims that developing countries are more prone to corruption. This is due to weaker institutions that allow for the facilitating of rent seeking practices by public officials.

©World Bank/Creative Commons License
©P T/Creative Commons License

A Nepalese billionaire Binod Chaudhary discussing corruption in developing states, said that, ‘it’s hard to generalize corruption on all levels… there are ‘facilitation costs in emerging markets’ and more, ‘businesses have to support political parties’. This evidence casts doubt on all corruption being intrinsically harmful.

Corruption Facts

Over 12 months, one in four people paid a bribe when they came into contact with one of nine institutions and services, from health to education to tax authorities

Since 1996 the World Bank has supported more than 600 anti-corruption programs….The World Bank…investigates corrupt practices with a staff of more than 50 employees and consultants, and expenditures of more than $10 million annually’

Research

The real story isn’t as clear as the facts try to show it. There is no denying that corruption occurs within all parameters of society, whenever public officials take in more than their paychecks show. However, economists have long been challenging the standard understanding of corruption.

Some economists such as Samuel Huntington believe that corruption can enhance growth by allowing individuals to pay bribes in order to circumvent inefficient rules and bureaucratic delays. Others such as Gunnar Myrdal (1968) believes that some governments set up fake rules and regulations to increase their payroll.

Corruption could be summarized as, ‘getting things done’, and usually occurs through two mechanisms:

  1. ‘Speed Money’ -> Getting past bureaucratic red tape
  2. Public Officials levying bribes as an incentive to do their jobs

Several studies have tried to link corruption and institutional quality. Most get to the conclusion that there is a non-linear relationship between corruption and economic growth. Heckelman and Powell (2008) find that corruption hinders growth in more autocratic developing states, while increases growth in democratic developing states. Mauro (1995) came to a conclusion that institutional quality is at the heart of increasing growth by eliminating corruption. While political institutions are important, another invisible attribute of corruption is the quality of economic institutions.

©Psudo on politics/Creative Commons License
©Psudo on politics/Creative Commons License

If economic freedom is low, corruption is more likely to aid in the growth of the economy. If the economic freedom is high, corruption will hinder economic growth. Therefore, the way corruption can take hold and affect a country’s economic landscape is dependent on the quality of it’s institutions. One thing that most economist today can agree on is that: poor institutional quality leads to inadequate policy decisions and overall bad governance. An MIT paper from 2009 came to the conclusion that the quality of institutions will also have economic impacts.

Where next?

With this knowledge we should put more focus on strengthening institutions as a means to change behavior rather than behavior modification designed to produce better institutions. Changing institutions is not an easy process. New institutional economics (NIE) is a recent paradigm that allows economists to analyze development, but not accept the straightjacket of the rational choice framework.

Instead of gripping onto the markets for assurance or government intervention, institutional economics analyzes both with scrutiny. Instead of taking on one ideology of socialism or capitalist, we can instead say, ‘, markets aren’t perfect, but governments aren’t either, maybe both can work in our interest if we want them to’.

By not generalizing corruption on all levels, we can better tackle corruption by figuring out productive corruption and rent seeking corruption. There doesn’t seem to be a consistent method of eradicating corruption, but that might be because each case of corruption has various factors that might different from case to case. In Part 2, coming up on Thursday, we explore  cases studies in corruption to both present the problems (and potential solutions) in practice.


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Development as Freedom by Amartya Sen: Book Review

Development as Freedom by Amartya Sen: Book Review

What is the fascination with growth in developing countries? Prima Facie, the reason for focusing ​only on growth is simple— growth constitutes development. The example, often cited, is China. China — with double digit growth in the last decade — has successfully transferred millions of people above the poverty line. But is the relationship between growth and development linear? Moving people from under a dollar to over a dollar constitutes as development? Here, Asad Abbasi explores these ideas as they appear in Amartya Sen’s 1999 work Development as Freedom.

According to the Ishaq Dar— Finance Minister of Pakistan—the  budget for 2015­2016 is designed so Pakistan can ‘embark on the path of promoting inclusive growth’. On the other side of the border, electoral success of Narendra Modi in 2014 is based on economic success of ‘Gujarat Model’— ten percent growth rate for a decade. Further southeast, In Bangladesh, the major focus of the budget is to achieve at least seven percent growth rate.

©OECD/Creative Commons License
©OECD/Creative Commons License

Development as Freedom ​provides a broader understanding of development. Sen argues against the assertion that high growth rates will translate into development. Simply put, relationship between poverty, income, inequality, unemployment, mortality, quality of life should be looked through a broad definition of development rather than narrow definitions of utility, efficiency or growth rates. What is Sen’s broad definition of development?  Freedom and Development.

The specific aims such as increase in income or better health or political liberties should not be the ‘ends’ of development but, together, all these should be “constituent” part of development. Development, Sen argues, is an overarching term which deals with enabling people to achieve freedom against the chains of malnutrition, illiteracy, poverty, starvation. Freedom is both: “means and an end to development”.

Development is not judged by income nor by growth rate but can only be assessed and achieved when there is an improvement in ​economic and ​political freedoms ​of people. In the book, Sen emphasises  five types of freedoms: political freedom, economic facilities, social opportunities, transparency guarantee and protective security. These freedoms are important and play dual role of evaluation and effectiveness. Freedom evaluates development process and freedom ensures effective development.

Markets

Sen favours free markets compared with controlled ones. Free markets imply freedom to transact, freedom for the buyer to buy or the seller to sell, and — importantly— freedom to choose work.

Sen discusses Robert Fogel and Stanley Engerman’s ​Time on the Cross​, a study of American slavery in 19​th century[1]. They argue that in some plantations average wage of slaves were higher than wages of unskilled labour in the most advanced countries. Also, some slaves were having better nutrition on plantations than the free agriculture workers in some parts of Europe. However, the — better paid and better fed— slaves ran away from the plantations at every given possibility. It was because they lacked freedom to choose what they wanted to do. Freedom to choose work is important. And it cannot be compensated by better income and better health care.

Sen points out at that those who favour free markets do it because of efficiency of free markets when compared with centralized control economies. This may be so, but it understates the true value of free markets­ freedom to choose what one wishes to do. Even if centralized system was more “efficient” than the free market economy, even then, it would be preferable to choose the later than the former. Restricting free markets is, Sen believes, restriction of freedom itself.

©muppetspanker/Creative Commons License
©muppetspanker/Creative Commons License

Democracy

Within a democracy— compared to other political systems— citizens are free to choose. They can actively participate in the procedure of governance and, furthermore, decide what norms are acceptable and what are not. The importance of democracy is crystallized in Sen’s assertion that there has never been a famine in a functioning democracy. India is a prime example where, despite poverty, no famine has occurred. In contrast, China suffered over 20 million deaths in the famine of 1958­-1962. The reason for this contrast is political freedoms.

When people are free to choose their political leaders and are free to actively participate then big social mishaps will not be ignored by the citizens. In a democracy politicians have an incentive to to perform, deliver over politicized issues. Natural disasters and man made disasters are very politicized issues in developed as well as developing countries. When a country faces calamities, failing to respond is a political failure for the politicians. Therefore, a famine will not happen in a functioning democracy because people in politics will do everything to prevent it. It is not the benevolence of the politicians, paraphrasing Adam Smith, but self interest that makes politicians perform in a democracy.

New insights

Development as Freedom is interesting, informative and intuitive. Sen shakes well established arguments and lights up new pathways. However, ​Development as Freedom is a philosophical discussion on development. It is not a policy document. One will not find solutions to questions like how much aid should be given, what is the correct method of conditional cash transfer or how much the interest rate should microlenders charge, or what should be the minimum wage in a certain country. But for those interested in development this book provides extreme renovation— erase and replace. It erases many of the previous held dogmas and replaces them with new insights and perspectives.


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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The Private Sector: working towards development for all

The Private Sector: working towards development for all

The private sector has long been excluded from poverty alleviation efforts because of its traditional focus on profits rather than social uplift. In this piece, Vanessa Thevathasan highlights three core action points to involve the private sector in working for the poor, alongside the efforts of donor and civil society organisations in developing countries.

While the case may be that donors and companies perform different roles in development, coordinated and complementary approaches will help achieve long-term sustainable objectives. Donors and civil society can benefit from the vast financial and resource outreach that corporations have to better implement pro-poor policies. Indeed, Hilary Jeune, Oxfam’s EU policy advisor, asserts that “By playing by the rules, avoiding practices which risk harming the most vulnerable, and paying a fair share of taxes, the private sector has great potential to pull people out of poverty“. When the private sector operates in this way, donors and civil society can make aid work for the poor.

©Tom Raftery/Creative Commons License
©Tom Raftery/Creative Commons License

Corporate social responsibility

Businesses do business. By their nature, many companies adopt innovative business approaches that are not motivated by altruism but by profit, and may have beneficial development outcomes.

However, more businesses are now adopting corporate social responsibility programmes or CSRs, whereby as part of their corporate operations in a country they also provide social security and community support, often plugging gaps in services where the government has failed to deliver.  For instance, in South Africa, Coca-Cola is providing access to microcredit for women retailers, enabling these women to earn three to nine times the minimum wage, around $400 per month.

Coco-Cola employs women in their Micro Distribution Centers (MDCs), which allow business to be done in remote areas while supporting local economies. In many cases, especially in fast-growing markets like Ghana and Nigeria, female ownership of MDCs exceeds 70 percent.

CSRs must be utilised so they can supplement international development work.  In remote areas, CSRs are the only route out of poverty for vulnerable groups, especially women, by providing sustainable livelihoods and economic empowerment.

Business and Human Rights

Christian Aid’s 2008 report From Local to Global: Stopping Corruption from Stunting asserted that there is little data available about how extensive corruption is in the private sector. Stronger international and national regulations are needed to ensure continuous monitoring of businesses so that anti-corruption laws effectively protect the poor from bribes and human rights abuses.

While corporations are the engines of the economy, it is equally the case that poorly enforced business regulation and irresponsible practices keep the poor in poverty. In the end, corporations reap the benefits of cheap labour and poor working conditions.

By encouraging greater transparency, business and human rights can be mutually enforcing. When communities are able to see the positive change to the quality of the life, corporations are accepted and tolerated more. Greater trust means greater partnerships and more opportunities for pro-poor programmes to bring about impactful development and inclusive growth.

Mainstreaming the private sector

©Trinity Care Foundation/Creative Commons License
©Trinity Care Foundation/Creative Commons License

A symbiotic relationship between the corporate and development sector can achieve a more enabling environment for making economies inclusive for the poor.  However, more needs to be done to bring the private sector into the mainstream of international development.

At present, the lack of coordination means that the poor are missing out on huge sectors of the economy. For instance, Ghana’s Poverty Reduction Strategy Paper does not mention the mobile phone and mining sectors, two of its major industries. Ignoring these areas clearly fails to fully appreciate the diversity of approaches to combat poverty.

Attempts have been made at the global level with the UN Global Compact (UNGC), established by Kofi Annan in 1999, to bring together UN agencies, corporations and civil society to support universal environmental and social principles. However, it has been described as ‘lacking teeth’  and has failed to connect the UN’s country planning processes with the corporate sector.

The ‘Beira Agricultural Growth Corridor’ in Mozambique is a case in point of successful cross-coordination between both sectors. Launched in 2009, the initiative was set up to develop the port of Beira and the trade routes that service it, achieving a diverse commercial agricultural sector by 2030.

Yara International is handling the corporate side of activities at the port and Tate Steel and Vale are developing the coal mines in Tete province. Prio Agriculture, a Mozambican company, is harvesting land to grow cereals and oil seeds. From the donor side, the African Development Bank is funding the upgrade of the road infrastructure and the EU and World Bank are upgrading the railway network around the port.

This coordinated approach ensures optimal input for all parties, achieving greater dividends for the poor living in and around the port.  More recognition of successful public-private partnerships such as the Beira initiative should be built upon so that they feed into development sustainability.

In the end, both public and private resources will play vital roles to address sustainable development challenges and bring to reality the post-2015 agenda.


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Sustainable and responsible finance: is it worth it?

Sustainable and responsible finance: is it worth it?

As more and more private investors turn towards ethical investing, there is debate arising over building responsible portfolios. Alexander Whitmore investigates whether profit maximisation and sustainable finance can converge. 

The Intergovernmental Panel on Climate Change (IPCC) concluded earlier this month with “greater certainty” that humans have been the dominant cause of climate change in the 20th century. As the political debate intensifies, it is clear that we must also look to the private sector to reduce anthropogenic climate change. For some, the poor environmental record of many oil and gas companies and the urgency to reduce carbon emissions means that there is a move away from investing in these areas. This has led to a trend known as the ‘divestment’ movement.

What is divestment?

The financial services industry uses the umbrella term ‘sustainable and responsible finance’ to describe financial products that include considerations other than monetary returns. The most common set of considerations are environmental, social and governance (ESG) factors. Some investors, rather than just focusing on the greatest returns, are beginning to move their capital away from oil and gas companies towards more ‘ethical’ (or at least less damaging) investments.

Earlier this year, the government of Norway reviewed the share of fossil fuel companies in their sovereign investment fund, and more recently Glasgow University voted to divest away from fossil fuel companies. The divestment movement is a prominent example of some investors seeking to marry their finances to their ethics.

©Third Way Think Tank/Creative Commons license
©Third Way Think Tank/Creative Commons license

Why divest?

Advertisements for personal investment platforms have dotted the London Underground in the last few months. Demand for private investment management is up, driven by a recovering and relatively stable economy and the growing market of self-invested personal pensions (SIPPs). Research by one of the largest sustainable banks in the UK reported that “three quarters” of investors would like their pensions and investments to be invested more in environmental and social sectors. Yet 64% are unsure of how ethical their investments are. This information gap means many people are unaware of the externalities that affect their financial decisions and available options.

But does ‘ethical’ investment make financial sense? A common perception is that investments with ethical criteria necessarily underperform traditional portfolios. Private investors are generally unwilling to risk their money for anything less than the most stable or greatest return. Ethical investments are perceived to exchange a degree of monetary return for social good, and are often considered more volatile than their traditional counterparts.

This view is challenged by new evidence. In one piece of research by Moneyfacts, a financial product cost-comparison site, so-called ethical funds outperformed non-ethical funds in 2013. Inclusion of ethical criteria does not mean ethical funds necessarily outperform non-ethical ones. However, it does mean that such funds may perform differently. Ethical funds often invest in smaller, more specialised companies whose activities are different to larger, integrated multinationals. This leaves room for growth by innovative companies, but some may consider this a riskier investment than a firm with an established pedigree.

However, companies with a genuine commitment to sustainability and corporate responsibility may be less likely to receive disciplinary measures or government intervention as a result of their actions, and typically have a long-term outlook for their business. These companies are therefore often more suitable for long-term investment.

Sustainability in particular is a driving force behind the divestment movement. If, as the governor of the Bank of England believes, the “vast majority of [fossil fuel] reserves are unburnable”, then oil and gas companies will be left with ‘stranded assets’ (inaccessible deposits of fossil fuels). These companies may therefore be overvalued in what is known as a ‘carbon bubble’. International action to limit climate change could cause the value of oil and gas companies to drop dramatically. This provides the financial case behind the divestment movement.

Not just investors

In October of this year, the Good Money Week campaign aimed to raise awareness of sustainable and responsible finance. Sustainable finance isn’t just about investment; it also includes things like taxes, pensions, savings and current accounts. Banks use deposits to fund loans to businesses that engage in a variety of different practices; some of which you may disagree with.

Sustainable and responsible finance often makes good financial sense, even if you are not concerned with ethics. For those that are, it is possible to make money and make a difference by investing in successful companies that promote social good. Individuals affect the world through their financial choices; so the next time you consider opening a bank account or making an investment, take a look at The Life of a Fiver and see the difference even a small amount of money can make.

 


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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Ebola and Fear: An economic analysis

Ebola and Fear: An economic analysis

The recent outbreak of the Ebola virus in West Africa has developed into an overwhelming humanitarian and global health crisis. However, as with any destabilizing element, the outbreak also has far-reaching consequences for economic growth. Shaun Willoughby examines the epidemic in light of economic effects. 

These days, even the mere whisper of the word ‘ebola’ sends anyone within a five mile radius into a state of panic. The outbreak of the Ebola virus has had dire humanitarian consequences. The need for the people of Africa and the world to find a containable solution is paramount. However, I would like to delve into the economic effects of the Ebola epidemic. I would like to look at these economic problems in 3 layers, locally, nationally and internationally. All of these effects are interconnected. I believe that looking at the consequences of this virus in stages is the best way to visualise the current and future problems associated with Ebola.

Local Level                                                                                                                                                         

I would like to begin with the economic problems facing countries like Liberia, Guinea and Sierra Leone. As the virus started to spread people began to retreat into their homes, and daily life ground to a halt. As a result, this trickled down to affect the amount of trade in commerce markets in Liberia and Guinea. Even the agriculture and services sectors in these three hard-hit countries were suffering due to a dwindling workforce. The very essence of fear is enough to create economic havoc. Fear can be seen as a pandemic in itself. Once investors and sectors of industry begin to become fearful, economic growth and production starts to stagnate. GDP growth in Guinea is expected to fall from 4.5% to 3.5%. Meanwhile, the Liberian economy was expected to grow by 5.9%. This will unfortunately not happen this year. The systematic chain of the Liberian economy will begin to crumble as foreign workers in the transport and services sectors will not work within a country that hosts a potentially lethal virus.

©IamNotUnique/Creative Commons license
©IamNotUnique/Creative Commons license

National Level

In recent years, Africa as a continent has started to rise up from the doldrums of economic growth and seen real progress. According to the IMF, the GDP of Sub-Saharan is expected to jump 5.1% in 2014-faster than any other region in the developing world, excepting emerging Asia. This is a monumental statistic! A continent regarded as an economic weight to developed countries has begun to take-off. However, the Ebola virus has curtailed much of the growth. The two year financial cost for Africa resulting from the virus could reach up to $32.6 billion. The number of flights to the most affected countries have dropped by 64% since May 2014. Not only do travel restrictions affect the tourism industry, but also prevent industrial cargo and staff members for multinational corporations from entering, leading to operational losses. Conversely there is limited access to supplies for factories and repair technicians for equipment. As a result, production has slowed. In my view, the implications of the Ebola virus represents a catch 22 situation. Since staff and supplies are not reaching Sierra Leone or Liberia for example, other countries’ trade will be affected, creating inflation and dropping economic demand. Hence, national governments will not be able to provide any top-down support and consequently the cycle would repeat. It would be a great shame if the African recovery of recent years regressed due to this terrible outbreak.

International Level      

©World Bank Photo Collection/Creative Commons license
©World Bank Photo Collection/Creative Commons license

The spread of fear and panic in the international markets can be where the real damage exists, at least in the long term. World Bank data shows a 20-40% decline in commercial demand around the world since the spread of the virus. Where does the panic end? What will happen when a developed nation either in Western Europe or North America is significantly affected? Once countries start to close borders and restrict movement and trade to affected countries, the whole network that globalisation is built upon will begin to crumble. Consequently, internal trade internally will stagnate and we could potentially see a global economic crisis, such as the 2008 recession or the Great Depression of the 1930’s. Like all economic theory, my projections are hypothetical and therefore may never escalate to this degree. Yet, it is very easy to see how the Ebola virus can spread economically as well as on a humanitarian scale.


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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How can India’s political parties best embrace the country’s development?

Following this year’s World Economic Forum in India, Keval Dhokia considers the route ahead for Indian national politics. Keval is currently studying an MA in Journalism at City University.

Will India’s politics be able to break away from the Congress party? Photo by foxypar4

The World Economic Forum made its annual appearance in the north Indian boom-city of Gurgaon earlier this month, with the usual spate of commercial-types manning the invite-only event.

The conversation with the most potential was the closing plenary session which involved the former president of the Oxford Union Montek Singh Ahluwalia, who leads India’s planning commission, but rather predictably the actual level of debate was poor. The chairmen of Nestle and Infosys both used the platform for public relations, while the $400,000-a-year CEO of Save the Children International, Jasmine Whitbread, had decided to recede into quietism bordering on anonymity.

Keep reading →


The views expressed in this article are those of the author and do not necessarily represent the views of Development in Action.

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