The Failure of
Development Aid
Development Aid Under Attack
• Aid to developing countries is strongly criticized
– Scholars and policymakers increasingly express doubt that
development aid will
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Increase economic growth
Alleviate poverty
Promote social development
Foster democratic regimes
Or, have a positive sustainable impact
Aid and Growth in Africa
What’s Wrong? – Why Not Sustainable?
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Not enough money being spent?
Can’t really help from the outside?
Just takes a long time?
Lack of information?
Or, too many perverse incentives?
It was found that the last reason is most important – many
development aid incentives are perverse
Effective Aid
• William Easterly (The Elusive Quest for Prof. William Easterly
Growth, 2001; The White Man’s Burden, 2006)
• Dambisa Moyo (Dead Aid, 2009)
Critique of aid. Aid is largely ineffective,
lacks long-term sustainability of poverty reduction
Dambisa Moyo
• Jeffrey Sachs (The End of Poverty, 2005)
Aid is largely a beneficial factor in development.
Advocate a large boost in aid.
Prof. Jeffrey Sachs
• David Dollar (Assessing Aid, 1998)
Aid works only if countries have good economic institutions
and policies
• Toshio Watanabe (Designing Asia for
the Next Century, 1995)
In East Asia, aid played a catalytic role in
inviting trade and investment.
Prof. Toshio Watanabe
David Dollar
• Public interest theory: foreign aid is necessary to fill a
financing or investment gap, and this will in turn lift
countries out of a so-called poverty trap
• Public choice theory: foreign aid is ineffective and
possibly damaging to recipient countries
Aid and Development
• A large empirical literature illustrates that foreign aid
exhibits a zero effect on growth or any other indicators of
poverty (Boone 1996; Svensson 1999, 2000; Knack 2001; Brumm
2003; Ovaska 2003; Easterly et al. 2004; Djankov et al. 2006a;
Easterly 2006a;Powell and Ryan 2006; Williamson 2008).
Aid and Development
• Svensson (1999) and Burnside and Dollar (2000) find a positive
effect of aid on growth when combined with the right
conditions, specifically the right policy and institutional
environments.
• $568 billion in today’s dollar flowed into Africa over the past
42 years, yet per capita growth of the median African
nation has been close to zero (Easterly, 2007).
Aid and Development
• When foreign aid’s goals are compared with its
achievements, the results are extremely disappointing.
• Macro-micro paradox- Aid is found to have zero positive
effects on macroeconomic studies but positive effect on
microeconomic studies.
Incentives
• It is presumed that donor countries and aid agencies
act in the best interest of the developing countries
• It is also presumed that recipient countries will act
efficiently to achieve intended results
• Special interest groups
• Bureaucrats
• Politicians in both donor and recipient countries
(1) Donor Countries’ Incentives
• Donor countries and aid agencies face their own incentives
when developing foreign aid policy that ranges from special
interest groups, bureaucrats, and government strategic
interests.
• Special Interest groups (ie, domestic producers)
• Aid allocation motivation stems partly from potential trade
benefits that accrue to donor countries (Younas, 2008)
THREE INEFFECTIVE AID CHANNELS
1. Tied Aid: requires recipients to purchase a certain
percentage of goods from the donor countries.
– This practice results in donor producers overcharging recipients
due to their increased market power and prohibiting recipients
from being able to purchase goods cheaper elsewhere.
United States requires about 75% of its aid to be spent on products
from American companies
Classic arguments on tied aid
Advantages for Donor Country
• Supports producers and
increases export revenue of
donor country
• Donor country has more control
over content, quality and
manufacturing of aid
• Builds long term industrial
relationships
Disadvantages for Recipient
Country
• Discourages local economic growth
and can devalues commodities
• Not cost effective
• Restrict choice for recipient country
• Ownership of aid is solely in control
of donor country
• Often results in inappropriate
technologies e.g. tractors that can’t
be maintained
THREE INEFFECTIVE AID CHANNELS
2. Food Aid: mainly in-kind provision of foods that typically
could be purchased much cheaper in recipient local
markets.
It is argued that food aid is a mechanism for highincome countries to dump excessive agricultural
products onto markets in developing countries
THREE INEFFECTIVE AID CHANNELS
3. Technical assistance: activities that provide certain skills
or technical knowledge to developing countries.
This form of assistance is often tied and viewed as
another mechanism reflecting donor interest.
• Donors usually require these technicians to be from the
donor country
Ineffective Aid Channels
• The average percentage shares for tied aid, food aid, and
technical assistance are 21%, 4%, and 24%, respectively.
• These three specific examples show how domestic special
interest groups shape donor incentives that alter the
effectiveness of aid policy.
Bureaucrats
• Aid agencies operate in a perverse environment that
hinders their abilities to succeed.
• Aid disbursements is the preferred measure of success.
• Bureaucracies are budget maximizers
• Exhaust their current budget but also to ask for increases
in their budget in order to increase the size of the agency
Bureaucrats
• The UN is the largest sponsor of the MDGs. Easterly
(2006) asserts that UN not only supports the MDGs to help
the poor but also a way of helping itself.
• The Secretary-General cites the many failures of foreign
aid and the MDGs, yet instead of taking responsibility, he
calls for more aid as the solution.
• For example, the goal of ending poverty was set for
1990 (UN Summit in 1977)
• This goal was also included in the MDGs set for 2015
and still included in the SDGs set for 2030.
• No one was held accountable for these “missed
goals”
• Agencies continue to call for more aid as the solution
• Donor agencies prefer to set big, wide sweeping
goals (ie, ending extreme poverty), as opposed to
marginal steps.
Political Motivations
• Alesina and Dollar (2002) find that how much aid a
recipient country gets is affected by whether the recipient is
a former colony and the regularity with which a recipient
country votes with the donor in the United States.
• Allies in the war on terror, such as Central Asia, Pakistan
and Turkey were rewarded with new aid from donor
agencies after September 11, 2011
• Aid is given as a strategic, political move, and not
necessarily based on need.
• Both bilateral and multilateral agencies have many different
objectives for aid aside from poverty reduction such as
rewarding allies, promoting donor country exports, and
maximizing budget.
• Adoption of ineffective policies
failure of
development aid
(2) Recipient Countries Incentive
• What incentives do these governments have to actually
achieve results?
• According to Coyne and Ryan (2009), “the World’s worst
dictators have received $105 billion dollars under the guise of
ODA.”
• Development assistance is aiding the ability of dictators to remain
in power.
• Alesina and Weder (2002) do not find any evidence that aid donors
give less to corrupt governments.
(2) Recipient Countries Incentive
• Combining the lack of accountability and enforcement from
the donors, receiving governments have poor incentives to
properly allocate aid resources.
• Government officials have the incentive to use or misuse
aid in a manner that promotes their regime maintaining
power.
(2) Recipient Countries Incentive
• Foreign aid can weaken the relationship between the
government and its people, leaving government less
accountable to its people.
• Natural resource curse: Wealth can strengthen and
corrupt a government
(2) Recipient Countries Incentive
• Governments of the poor countries have an incentive to
misappropriate foreign aid in a manner that serves their
own self-interest.
• Recipient governments might actually have the incentive to
keep the country in poverty. This creates a moral hazard
problem.
(2) Recipient Countries Incentive
• Examples of damaging policies: persecution of productive
ethnic minorities, suppression of trade, restriction of foreign
capital, expropriation of property, restrictions on domestic
mobility, and extensive economic controls.
• These destructive policies create massive poverty an
environment effective for eliciting large sums of foreign aid
(Ethiopia and Sudan in the 1980s).
Special Interest Groups and Individual
Citizens
• Samaritan’s Dilemma: if the recipients believe that future
poverty will increase the likelihood of more foreign aid, aid
could actually worsen incentives to invest.
• Instead of saving and investing, citizens now face stronger
incentive to consume and become dependent on the
donors.
Special Interest Groups and Individual
Citizens
• Boone (1996) found that foreign aid has zero effect on
investment.
• Foreign aid accounted for more than 70% of Somalia’s
budget – created a dependency
The Samaritan’s Dilemma
RECIPIENT
High Effort
No Food
SAMARITAN
Provide
Relief Food
Low Effort
Try to improve farm
productivity but
Save funds
starvation
but watch hard
work and starvation
Don’t try to overcome
long-term
Save
starvation
funds
and no
results
Eat relief food and
Watch
improve farm
farmer
productivity
improve short-term
and long-term nutrition
Eat relief food and
don’t farm
Watch
farmers eat
but not grow any
food
Source: Samaritan’s Dilemma
Special Interest Groups and Individual
Citizens
• Higher aid actually slowed market-policy reforms
• African countries who received billions of dollars in aid are
slipping further into poverty as those African countries
rejected by aid donors are recording economic gains
(Moyo, 2009).
• Foreign aid promotes corruption among the recipient
governments, destroys the market process, and further
promotes poverty.
(3) Knowledge Problem: Donors
• Donors must be able to gather critical information, requiring
the ability to tap into local knowledge.
• Government agencies do not seek to make profits to direct
activities.
• Bureaucracy hampers the ability to gather essential
information necessary to achieve results.
(3) Knowledge Problem: Recipients
• Recipients must possess adequate knowledge about how
to achieve specific goals outlined by foreign aid.
• Recipient governments lack the ability to tap into the
knowledge that is critical for success.
• Individuals in these poor countries often possess the
knowledge necessary to achieve results, however, finding
the foreign aid is more elusive
• The Tanzanian informs a civil society representative, who
informs government officials in Tanzania. These officials ask for
help from aid donors by asking for a loan. To get a loan, the
government must satisfactorily complete the necessary
paperwork. Next, the paperwork is handled internally by the
donor agency, which involves several internal detailed steps
that ultimately end with officials developing a plan that may or
may not finance the road repair. If the donor agency approves
aid for the road, the money must pass through the Tanzanian
national government, provincial governments, and district
governments at which the district government decides whether
or not to repair the road (Easterly 2006a).
Development
• Development has more to do with the strength of a
country’s institutions – political and social systems that are
developed through the interplay of a government and its
people.
• These countries need even more than money is effective
governance, something that foreign aid can undermine