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The Ineffectiveness of Foreign Aid

By Michaela Gramzinski | Position Paper

America became known for foreign aid projects directly after World War II. These projects were meant to rebuild the economies of foreign nations that had collapsed after the war, in an effort to strengthen them against the influence of communism (Shleifer 381). While legislation such as the Marshall Plan, which aided the recovery of Europe after World War II, was heralded as a great success, present day foreign aid is widely denounced as a failure “among those who look at the data” (Shleifer 380). The truth is, much of this criticism is warranted. Foreign aid’s impact can be very difficult to measure, leading to general assumptions that foreign aid has failed. Many aid dollars are stolen by corrupt people at nearly every level of government, and the actual needs of a community are often unmet. Programs are built to satisfy larger governmental bodies and donor interests before considering the interests of the communities. The solution to this triple-pronged problem, however, is not to cut foreign aid, but to shift its purpose away from solely economic ends, avoid bodies of corruption, and focus on decentralized, community-based programs and demands. In this paper, I will argue the legitimacy of this solution by exploring the ultimate purpose of foreign aid, the corruption of resources, and the issues a highly bureaucratic system presents to effective use of funds.

The effectiveness of foreign aid is often measured in terms of its ability to stimulate economic growth, but it has become increasingly clear that economic growth is largely unaffected by foreign aid investments. This assertion is supported by the “countless empirical studies [which] have failed to find beneficial effects of foreign aid” (Shleifer 380). In support of this claim are David Skarbek, a doctoral candidate in the Department of Economics at George Mason Univeristy, and Peter Leeson, a professor for the Study of Capitalism at George Mason University, who explain that economic growth requires the ability to change input and output investments “in economically efficient ways” under changing circumstances (Skarbek and Leeson 391,393). The two go on to explain that foreign aid is too rigid to “solve economic problems,” as it is meant to continuously invest money into a specific output, regardless of changing circumstances (Skarbek and Leeson 394). More simply put, solving economic problems requires investment and output changes (Skarbek and Leeson 349). For example, shutting down a lemonade stand for winter, when demand falls, and in its place, opening up a hot chocolate stand is a strategic response to changing conditions which maximizes economic growth. Foreign aid, however, is more like a constant investment in lemonade, despite changing demands. In this example, the foreign aid may succeed in producing more lemonade, but, due to its lack of flexibility, it will not necessarily encourage economic growth. This evidence leads to the general conclusion that, although foreign aid cannot directly stimulate economic growth, “growth has lost its dominance as the goal of foreign aid” (Shleifer 386).  Andrei Shleifer, a professor of Economics at Harvard University, argues that “saving and improving lives is important even with no growth effects” (Shleifer, 386). In order to properly measure the potential of foreign aid, there must be “one goal to focus on achieving” (Skarbek and Leeson 394) When we switch our frame of reference, and change the goal of foreign aid to alleviating poverty, we find that the outputs of foreign aid “such as humanitarian relief, food aid and other consumption forms of aid, not intended to increase economic growth” actually are achievable (Harnigan 378).   Therefore, frameworks focused on economic growth measure what is not feasibly achievable by foreign aid investments and will inevitably report failure. By focusing instead on specific output based goals to alleviate poverty, such as education and medical care, we can more accurately measure the success of foreign aid programs.

A shift in the foreign aid mentality may help measure the effectiveness of foreign aid, but it does not stop foreign aid dollars from being wasted. In fact, of all the money spend on foreign aid, only a small fraction of it ends up in the programs the money was originally intended to fund (Shleifer 384). Peter Bauer, well known for his criticism of foreign aid, defines foreign aid as “a transfer of resources from the taxpayer of a donor country to the governmentof a recipient country” (qtd Shleifer 379-80). Much of the money funneled through governments is, in fact, diverted away from aid projects.  This transfer of resources is largely due to corruption of officials, whose “first instinct [after]…receiving funds is to steal them” (Shleifer 383). In effect, “many a developing country leader has become a billionaire courtesy of foreign aid,” while the rest of the country continues to suffer from disease, violence, and instability (Shleifer 383). However, the governments alone are not to blame. Aid agencies, who know full well of the corruption in these nations, continue to pour resources into these governments in the form of loans. Loans are particularly attractive to aid agencies because they “are the sovereign obligations of the receiving country,” thus relieving the aid agency of any responsibility for failed projects (Shleifer 383). Furthermore, many aid agencies act as businesses and make a profit off of the interest collected on loans. Loans are equally attractive to foreign governments as the money loaned out to nations is easily “stolen by the governments [while] the citizens are taxed to repay” the debt and accumulating interest (Shleifer 383). It has become clear that money, particularly in the form of loans, funneled through the governments is much more susceptible to corruption.

To avoid misallocation of resources, aid must be moved away from government control, and instead be funneled into specific community projects. Direct support of community-based projects will increase accountability for foreign aid programs, pressuring them to make good use of funds, as well as bypass levels of government bent on misusing funds (Winters 218). As loans tend to be misused, they should be largely replaced with grants (Schleifer 383). While this does not end dishonest use of funds, because grants do not have to be repaid, the innocent citizens will not suffer for the government’s inability to pay back misused loans through higher tax rates. Skeptics will argue that foreign aid agencies that give out grants rather than loans will soon run out of money to invest in other countries. While it is true that grants do not promise any economic return to the aid agencies, I must remind the reader of the ultimate goal of foreign aid. If foreign aid is no longer focused on the growth of economies, as previously discussed, but on the alleviation of poverty, then economic return cannot be expected from any investment (Skarbek and Leeson 391). Furthermore, the role of the aid agency changes from a banker to a non-profit philanthropic agency. Aid agencies collect money from donor countries, so the money lost from the interest collected on loans is of little consequence, especially when these loans end up aiding nothing but “the ability of dictators to remain in power” (Williamson 24).

While a change in mindset assures that we can properly measure the effects of foreign aid, and while the elimination of loans and government funding avoids the abuse of foreign aid dollars, fact remains that some programs simply do not work. Claudia Williamson, Assistant Professor of Economics at Appalachian State University, argues that this is largely due to the fact that “this [bureaucratic] process is incapable of tapping into local knowledge” necessary for making good project investments (Williamson 30). Various groups along the path of foreign aid, including donor and recipient governments, have their own agendas to push. These agendas can be seen through practices such as “tied aid” which “requires recipients to purchase a certain percentage of goods from the donor country,” thus investing indirectly back into the donor country’s own products and companies (Williamson 21). While reinvestment may seem harmless, and maybe even ideal, it restricts the function of aid money and gives power to the donor country to control food prices (Williamson 21). For example, even AIDS funding is subject to the interests of donors, rather than the practical needs of recipients. Over time, it has become clear “that the effective way of controlling HIV/AIDS is to spend money on prevention, not treatment,” which is “vastly more expensive [than prevention] and less effective” (Shleifer 387). Despite the evidence that prevention is more important than treatment, “the sympathy of the Western public is with those already afflicted and suffering,” thus diverting money that could better be spend on prevention, to programs for treatment (Shleifer 387). This is not to say that treatment of HIV/AIDS is not important, but rather to demonstrate that the opinions of the public affect how foreign aid is used. Williamson describes foreign aid as “various layers of self-interested actors that include donor and recipient governments, donor agencies, producers and citizen interest groups” who all seem to have “ideas of their own” on how the money should be used, usually to best benefit themselves (Williamson 20, Shleifer 382). By the time aid passes through all the many layers of bureaucracy, many of which are ill-informed as to how the money can best be used in communities, “there is little reason to believe that the best policies and practices will actually be adopted and implemented” (Williamson 20). Aid is best spent when it can address the needs and demands expressed by a specific community, not the interests of government, interest groups, and donor agencies (Winters 222). Many will argue that projects implemented based on interests outside of a community are often rejected by the communities, themselves, as foreign entities, resulting in failed programs. The key to success, then, is to create programs that are truly community based, community supported, and community run. Aid must be used to create the infrastructure of programs which a community want, can benefit from, and in which they can become personally involved. A donor-funded but community-owned and run program has a much more viable future, and a greater likelihood of success ( Winters 229). Some may argue that because it is the donor country’s money, the people should be involved in the process of determining how aid is used. In reality, the common people in the donor country are often unaware of how foreign aid works. Nevertheless, decentralizing aid does not mean that the bureaucratic system is eliminated entirely. Government and aid agency interests are still expressed, but rather than through a top-down process, decentralizing aid uses a bottom-up process so that the genuine needs of the community are placed at the forefront of program development (Williamson 31).

Currently, foreign aid is being spent inefficiently. Before expanding aid, it is necessary to make changes to harness the full potential of foreign aid dollars, otherwise even more money will be squandered. In fact, only “perhaps a few pennies of the original Western taxpayer’s dollar…” are spent in a useful way while “the rest is wasted or diverted” (Shleifer 384-385). There is also some fault in the current system of measuring the effectiveness of foreign aid, which focuses on economic growth when it should be concerned with alleviating poverty. Loans and other money funneled through corrupt governments are often stolen or diverted away from their designated use. The system of allocating aid is laden with bureaucracy and groups that misdirect aid toward programs that benefit themselves, rather than the communities that foreign aid is meant to serve. For foreign aid to succeed there must be a shift in how foreign aid works. First, aid the ultimate objective must be to alleviate conditions of poverty. Second, funneling money directly through foreign governments, especially in the form of loans, must be avoided. Finally, aid must be administered in a decentralized, bottom-up manner that focuses on the needs of communities more than the interests of exterior groups.

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