Chapter III The Politics of alternative Development;

Origin and Moral justificationsTopics of discussion:

Aid and Development

International Trade and Economic Development

Gender and Development

Regional Integrations and economic benefits

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OUTLINE: Definitions, motivations, trends Aid effectiveness

Theory and evidence Macroeconomic dangers of aid

Dutch diseaseAid volatility

Policy options in managing aid flowsPreparing for scaling up aidMonetary policy optionsFiscal challenges and debt sustainabilityStrengthening governance

Conclusions and guidelines

DefinitionDevelopment aid

Unrequited transfers from donor to country designed to promote the economic and social development of the recipient (excluding commercial deals and military aid)

Concessional loans and grants included, by tradition (Grant element ≥ 25%) Development aid can be

Public or private Bilateral (from one country to another) or multilateral (from international organizations) Program, project, technical assistance Linked to purchase of goods and services from donor country, or in kind Conditional in nature (IMF conditionality, good governance)

Moral duty, Neocolonialism, Humanitarian intervention, Public good

National (Like education and health care) International (Social justice to promote world unity, UN aid commitment of 0.7% of

GDP) World-wide redistribution (Increased inequality word-wide, Marshall Plan after

World War II, 1.5% of US GDP for four years vs. 0.2% today)

Motivation: Why aid?

Who are the donors? United States: largest donor in volume, but low in relation to GDP 2% of GDP Japan: second-largest donor in volume Nordic countries, Netherlands Major donors to multilateral programs Only countries whose assistance accounts for 0.7% of GDP EU: leading multilateral donor Others; IMF, WB, USAID, CIDA, NGOs

A recovery in sight? The Blair Report Blair Report and the Sachs ReportSachs Report called on world community to

increase development aid (particularly for Africa) to enable developing countries to attain the MDGs by 2015 2005 G-8 Gleneagles communiqué called for raising annual aid flows to Africa by

$25 billion per year by 2010 2005 UN Millennium Project called for $33 billion per year in additional resources

For comparison, US gave $20 billion in 2004, not $70 billion as suggested by UN goal

Aid fills gap between investment needs and saving and increases growthPoor countries often have low savings and low export receipts and

limited investment capacity and slow growthAid is intended to free developing nations from poverty traps

Example: Capital stock declines if saving does not keep up with depreciation

Macroeconomics of Aid

Empirical Studies of AidRegression analysis to measure the impact of aid on

Saving, Investment, Public finance AND Economic growth

Saving Negative effect on saving

Substitution effect? Positive effect for good performers E.g., South-East Asia, Botswana

Investment No impact on private investment Positive impact for good performers

Public finance Uncertain effect on public investment Positive effect on public consumption

Growth: Mixed results Most early studies showed no statistically significant impact Some more recent studies show negative impact Bias and endogeneity issues

Need to distinguish between different types of aid (Leakages, cash vs. aid in kind)

Does aid work? Domestic responses

Does aid work? The current debate Examples of recent studies

Rajan and Subramanian (2005) No robust relationship between aid and growth

Burnside and Dollar (2001) Aid works in “countries with good policies”

Clemens, Radelet, and Bhavnani (2005) Aid works if measured correctly Distinction between fast impact aid (infrastructure projects) and slow impact aid

(education); Financial vs. social returnsAid leads to corruption, Aid tends to be misused Svenson (2000) & Murshed and Sen (1995)Aid is badly distributed, sometimes for strategic reasons Alesina and Dollar (2000) & Collier and Dollar (2002)

Aid increases public consumption, not investmentAid is procyclical (when it rains, it pours)Aid leads to “Dutch disease” - Labor intensive and export industries contract relative to

other industries in countries receiving high aid inflowsGrowth is perhaps not the best yardstick for the usefulness of aid

NB; DUTCH DISEASE: - the Appreciation of currency in real terms, either through inflation or nominal

appreciation, leads to a loss of export competitiveness)

Aid Volatility and UnpredictabilityAid is volatile and unpredictable

Aid flows are 6-40 times more volatile than fiscal revenueVolatility is largest for aid dependent countries (Bulir and Hamann, 2005)Volatility increased in the 1990sAid delivery falls short of pledges by over 40%

Reasons Donors: Changes in priorities; administrative and budgetary delaysRecipients: Failure to satisfy conditions

Consequences of Aid VolatilityImpact of large sudden inflows

Supply constraints in absorbing aid Real exchange rate overshooting and volatility Negative impact on export industries Ratcheting up spending commitments without adequate consideration of exit strategy Infrastructure investment without adequate planning for recurrent expenditure

Impact of aid promised, but not disbursed Spending commitments cannot be financed Volatility in money supply, inflation, and exchange rates

Monetary and Fiscal Policy Options to mitigate AID volatilityMonetary Policy OptionsDomestic sterilizationSale of domestic bond instruments, Reserve requirements, Central government deposits

Sale of foreign exchangeObjectives and economic impact of policiesNominal exchange rate vs. inflation, Domestic interest rates

Fiscal Policy OptionsSave resourcesUse aid to purchase imported goodsSpend on non-traded sectors with few supply constraints

Other spending optionsSpend on nontradables with supply constraints

Infrastructure spending for future growth

Social spending for poverty reduction

Promoting Growth and Reducing PovertyBalancing growth and poverty reduction (Growth effects from infrastructure investment

and Targeting spending to the poor) Improving coordination among

NGO activities, Sub national government activities, Private sector capacity

Developing an Exit Strategy Preventing aid dependency Protecting revenues

Composition, Corruption and Tax treatment of aid The scaling down of aid Private economic activity Real spending and recurrent spending

Strengthening Governance Corruption and economic performance

Anticorruption strategies (Reduce state role, Improve regulatory environment, Punish offenders and

Liberalize and reform institutions)

Improving public expenditure management systems

Summary and GuidelinesFrom aid fatigue to new initiativesAid effectiveness is ambiguous

Positive results likely with better policies and governance

Five Primary GuidelinesMinimize risks of Dutch diseaseEnhance growthPromote good governance and reduce

corruptionPrepare an exit strategyAssess the policy mix

International Trade and Economic Development

Outline:The relationship between international trade and

economic developmentTerms of trade (different types) and their effects on

economic developmentThe exports instability in developing countries the trade policies and the main problems from the

developing countries

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The Importance of Trade to Development

Traditional trade theory & economic development: - comparative advantage , traditional trade theory , fixed

pattern of development;Traditional trade theory incorporated with changes in

factor supplies, technology, and tastes: the development pattern could be changed;

The trade theory of comparative statics: shows relevance for developing nations and developing process.

International trade functioned as an engine in 19th century: UK;U.S.; Canada; New Zealand; Australia; Argentina, Uruguay, and South Africa

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The contributions of trade to developmentTrade can lead to the full utilization of underemployed domestic resources;

Trade makes possible division of labor and economies of scale (such as Taiwan, HK,

Singapore);

International trade is the vehicle for the transmission of new ideas, technology,

managerial and other skills;

Trade also stimulates and facilitates the international flow of capital from

developed to developing countries;

The importation of new manufactured products has stimulated domestic demand

until efficient domestic production of these goods become feasible (Brazil,India);

International trade is an excellent anti-monopoly weapon because it stimulates

greater efficiency by domestic producers to meet foreign competition.

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International trade and endogenous growth theoryRomer(1986) and Lucas(1988): positive relationship between trade and long-run

economic growth and development;New theory of endogenous growth: lowering the trade barriers will speed up the

economic growth and development in the long-run.

----------------The Terms of Trade and Economic Development1. 1. The commodity, or net barter, terms of trade (N) : It is the ratio of the price index of the nation's exports (Px to the price index of its imports (Pm) multiplied by 100 (to express the terms of trade in percentages). i.e.: N= (Px/Pm)100 2. Income terms of trade (I) : They are given by: I= (Px/Pm) Qx 3. Single factoral terms of trade (S): They are given by: S = (Px/PM) Zx4. Double factoral terms of trade (D), They are given by: D = (Px/Pm)(Zx/Zm) 100 *Among the 4 defined terms of trade, N,I,S are the most important ， especially for

developing countries

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Alleged reasons for deterioration in commodity terms of trade in developing countriesMost or all of the productivity increases that take place in developed

countries are passed on to their workers in forms of higher wages and income, while most or all the productivity increases that take place in developing nations are reflected in lower prices;

The demand for the manufactured exports of developed nations tends to grows much faster than the demand for the agricultural and raw materials exports from developing nations

Export Instability and Economic DevelopmentCause and effects of instability: wild fluctuation in prices of the

primary exports is due to both inelastic and unstable demand and supply.

The empirical study shows that export instability was not very large and that has not hampered development.

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Import Substitution versus Export Orientation: trade policy of developing countries

Import substitution industrialization (ISI): the substitution of imports by domestic production

Export-oriented industrialization (EOI): based on comparative advantage

Empirical evidences show that EOI has better effects than ISI: HK and Singapore versus India and Pakistan

(Recent trade liberalization and growth in developing countries)

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3.3. Gender and Development

Definition of GenderChanging thinking and practice on women, gender and

development‘WID’, ‘WAD’ and ‘GAD’

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Gender is a social construct In contrast to sex, which refers to biological differences between males and females,

gender is a social or cultural construct of the differences between women and men. People are born female or male, but they acquire a gender identity that shapes socially

acceptable activities for women and men, their relations, and their relative power.

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Theory and Policy; WID WAD & GAD “Women in Development” (WID) - Rooted in modernisation theory and liberal feminist ideas on equality- Economic change = empowerment- Rise of micro-credit policies and the recognition of women in productive economy

“Women and Development”- Rooted in dependency theory and Marxist feminist ideas- Economic change = empowerment- Advocated no real policy change around involving women in the development process

“Gender and Development”- Rooted in post-development theory and post-structuralist critiques in feminism- Economic change ≠ empowerment (e.g. micro credit)- Refocus on ‘gender relations and roles’ above ‘women’ as a categoryGender ≠ women- Effective poverty reduction is gender aware

Economic growth and gender equalityIncome growth promotes gender equality in the long run by increasing

women’s education, investment in girls human development and for women to participate in the labor force.Ghana, India, Malaysia, Pakistan, Peru, Tanzania, Turkey and Vietnam

More investment in rural infrastructure like water, transportation and fuel eases the burden of femalesNepal and Pakistan- water and energy infrastructureMorocco- pipes water increases girls school attendance

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Three-part strategyReforming institutionsImplementing policies for sustained economic growth and

developmentTaking active measures to improve women’s command of

resources and political voiceConclusionAfter three decades of Women in Development and

Gender and Development policies the work of redressing gender inequalities has only just begun

Investing in women will not put an end to poverty but it will make a critical contribution to improving household well-being

Furthermore, it will help to create the basis for future generations to make better use of both resource and opportunities

3.4 Regional Integration and BenefitsOutlines:What is Regional Integration (RI)?Stages of Economic IntegrationKey Principles for Successful RIBenefits of RIConclusion

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Regional Integration- It remove barriers and increase the movement of people, labor, goods, capital among nation- Reducing possibility of regional armed conflict- Adopting cohesive regional stances on policy issues Integrated economies:

EU, NAFTA, ASEAN, MERCOSUR.

Stages of Economic Integration1. Free-Trade Area

All barriers to trade of goods/services are removed Each country allowed to determine non-member policy

2. Customs Union Eliminates trade barriers between member countries Adopts common external trade policy

3. Common Market No barriers to trade among member countries Common external trade policy Allows factors of production to mover freely among members

4. Economic Union Free flow of products & factors of production Adoption of common external trade policy Requires common currency, common monetary & fiscal policy

5. Political Union

Central political apparatus coordinates economic, social & foreign policy of members 23

Key Principles for Successful RIOpenness: openness to the rest of the world is essential

Subsidiarity: Regional organization should do only what national governments cannot do as well

Private sector leadership: private sector is the engine of integration

Pragmatism: Variable geometry (countries join when they are ready and appropriate); variable speed (not all issues simultaneously); variable depth (degree of supranationality)

Benefits of Regional IntegrationTrade Creation: Increase in the level of trade between nations that results from

regional integration.

Greater Consensus: Eliminate trade barriers in smaller groups of countries is that easier get consensus.

Political Cooperation: Some countries have greater political weight, so they can more negotiate with other countries. And can reduce military conflict.

Employment Opportunities: Regional Integration can expand employment opportunities by enabling people to move from one country to another to find work.

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ConclusionBecause of the benefits of Regional

Integration are greater than the costs, regional integrations acceptable for countries.

RI Expands trade among nations Reduces unemployment Military conflict among nations declines Flows of FDI increase among countries

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