How to Help Poor Countries

Nancy Birdsall, Dani Rodrik, and Arvind Subramanian

From Foreign Affairs, July/August 2005

Summary:  Increasing aid and market access for poor countries makes sense but will not do that much good. Wealthy nations should also push other measures that could be far more rewarding, such as giving the poor more control over economic policy, financing new development-friendly technologies, and opening labor markets.

Nancy Birdsall is President of the Center for Global Development in Washington, D.C. Dani Rodrik is Professor of International Political Economy at Harvard's John F. Kennedy School of Government. Arvind Subramanian is Division Chief in the Research Department of the International Monetary Fund. The views expressed here are their own and not those of their respective institutions.

What about the poorer countries? For one thing, many poor countries are actually net importers of agricultural products, and so they benefit from low world prices. An increase in prices may help the rural poor, who sell the agricultural goods, but it would make the urban poor -- the consumers -- worse off. Net poverty could still be reduced, but to what extent depends in complicated fashion on the working condition of roads and the markets for fertilizer and other inputs, on how much of the gains are captured by poor farmers versus intermediaries, and on the poverty profile of each country.

Regardless of whether agricultural liberalization increases or decreases poverty, the impact would not be significant. Most studies predict that the effect of such liberalization on world prices would be small. The International Monetary Fund (IMF) estimates that world prices would only rise by 2-8 percent for rice, sugar, and wheat; 4 percent for cotton; and 7 percent for beef. The typical annual variation in the world prices of these commodities is at least one order of magnitude larger.

Take cotton specifically. The largest credible estimate of the impact of the complete removal of U.S. cotton subsidies on world prices is less than 15 percent. How much of an effect could this have on farm incomes in West Africa? There is actually a useful benchmark for comparison. In 1994, the member states of the Communauté Financière Africaine currency zone (in which 14 African countries have had their currencies pegged to the French franc since 1948) devalued their currency from 50 to 100 CFA francs per French franc, effectively doubling the domestic price of cotton exports. If at least some of the resulting price gain had gone to cotton farmers (and not to intermediaries or inflation), the farmers' incomes would have increased in countries such as Burkina Faso and Benin. Indeed, the price gain should have increased income and decreased poverty even more than would the complete removal of U.S. cotton subsidies. There is little evidence that a significant reduction in rural poverty took place, however. A World Bank study found that poverty in Burkina Faso remained stubbornly high and even increased in parts of the country.

Furthermore, a general reduction of trade barriers in rich countries could leave some of the world's poorest countries worse off. A substantial part of least-developed countries' exports enjoy favorable conditions of access to the markets of rich countries under various preferential trade arrangements. With the end in January 2005 of the long-standing system of quotas on apparel, for example, poor countries such as Bangladesh, Cambodia, and Lesotho, which benefited from preferential arrangements, justifiably have been fearing competition from China and Vietnam. The loss of preferential access for the poorest countries is not a justification for stopping trade liberalization in its tracks. But it is an additional reason to be cautious when estimating the magnitude of poor nations' gains from a trade-centered agenda.

Of course, if global trade and growth were to implode, as in the period between the world wars, international development would receive a serious blow. A healthy multilateral trading system is important to keep the possibility remote, and it can protect the poorest countries from unreasonable bilateral pressures. A successful Doha Round could stimulate trade among developing countries and would signal a political willingness on the part of the international community to keep the system purring and prevent an implosion -- even if the actual gains for the poorest countries from trade-barrier reductions would be modest.

MORE MONEY?

If not better market access, what about more aid? Boosting assistance to the poorest countries of the world is a central recommendation of the recent reports of the UN Millennium Project and British Prime Minister Tony Blair's commission on Africa, and, along with reduced corruption and better management in poor countries, it is a cornerstone of the strategy envisaged to achieve the Millennium Development Goals.

Aid has accomplished some great things. On the health front, smallpox has been eradicated, infant mortality rates have been lowered, and illnesses such as diarrhea and river blindness have been widely treated. Aid programs have improved women's access to modern contraception in Bangladesh and Egypt and helped increase school enrollment in Uganda and Burkina Faso. Aid also pays for much of the (still-limited) access to AIDS medicines in poor countries. In the last decade, aid has helped restore peace and order after conflicts in places including Bosnia, East Timor, and Sierra Leone. In addition, aid can be a vehicle for policy advice and dialogue between recipients and outsiders. There have even been macroeconomic successes, such as the $1 billion grant that allowed Poland to establish an exchange-rate stabilization fund in 1990. By stabilizing the Polish currency, this relatively small amount of financing provided valuable breathing space for the implementation of broader policy reforms.

What these successes share is that they were narrowly targeted at specific objectives. Assistance does work well, but only when the recipient countries do the right things to help themselves and have the capacity and the leadership to spend the money wisely. Some statistical evidence indicates a link between financial assistance and growth. But aid has not been associated with the sustained increases in productivity and wages that ultimately matter. During the 1990s, for example, countries in sub-Saharan Africa received funding amounting on average to about 12 percent of their GDP, while their average growth rate per capita declined by 0.6 percent per year. Meanwhile, some of today's development successes -- such as Chile and Malaysia -- relied little on aid. And aid to China and India has been very small.