Over the past fifty years, the approach to development assistance has undergone a major shift, moving from a narrow focus on macroeconomic stabilization and liberalization to a comprehensive framework, encompassing all aspects of the economy—including social and environmental issues and poverty reduction—and tailored to the specific circumstances of each country. Along with this comprehensive approach has come the recognition that ownership of the development process has to lie with the people and their government, not solely with donors or the aid-dispensing agencies. Much of the discussion at the Annual [World] Bank Conference on Development Economics (ABCDE), held in Washington on April 18-20, centered on these new directions for development assistance, partnership, and cooperation at the national and international levels. Following are some highlights from the conference.
Development at the millennium
Development is possible but far from inevitable, Joseph Stiglitz, former chief economist at the World Bank, said in a keynote address, given on April 18. Unfortunately, he added, there is no magic formula that ensures success. Discussion continues about the extent to which policies pursued in recent years have promoted economic growth, Stiglitz said. However, there is little debate that, at least in some instances, the policies and the manner in which they have been imposed have increased economic insecurity and people’s sense of powerlessness.
Stiglitz said it is now recognized that long-term sustainable growth requires a consensus behind the reform policies. These policies cannot, he stressed, be imposed from the outside. This is why external financial assistance tied to externally imposed conditions has not always been successful. Meaningful democratic processes, combined with policies that promote equity, can enhance consensus building and a sense of inclusion, he suggested.
The developmental transformation also entails more than a solution of the technical economic problems leading to increased efficiency and resource mobilization—as important as this is, Stiglitz observed. In our thinking about development, he added, we have gone beyond projects and have begun to focus on institutions, such as those that promote competition and good governance in the public and private sectors. Poverty reduction and a more equitable distribution of income have also assumed an importance not only as an end in themselves but also as a means of achieving stronger economic performance, he concluded.
New development thinking
Focusing on the effectiveness of aid in the development process, Paul Collier of the World Bank said that progress in poverty reduction depends on policy and institutional changes. In the past, the World Bank’s approach to inducing such changes was to provide aid in return for explicit negotiated commitments to policy reform. The underlying theory was that aid could be an incentive to policy change, Collier explained. However, an implication of this theory was that governments would be undertaking policy changes, not because these changes were necessarily in the country’s best interest, but to obtain the aid.
A further implication of using aid as an inducement for reform was that if donors “bought” the reforms, then the donors, not the recipients, “owned” them. When a government implemented and sustained a policy reform, the donors claimed the credit. Thus, even when governments implemented reforms because they really believed in them, they faced great difficulty establishing their claim to ownership with the investor community. Further, aid for reform may have weakened the government’s capacity to work out and communicate its own strategy. In any case, governments had little incentive to sell policies to their electorates.
Aid for reform was well intentioned, Collier said, but it was based on a misunderstanding of how policies and institutions are changed on a sustainable basis. An alternative approach, he suggested, is to empower the domestic constituencies for change through knowledge and participation.
Home-grown development strategy
The lesson of the twentieth century, according to Dani Rodrik of Harvard University, is that successful development requires markets to be underpinned by solid public institutions. International trade can be a powerful and positive force for economic development, but reliance on trade must be balanced with a domestic investment strategy. Today’s advanced industrial countries owe their success, Rodrik said, to having evolved their own specific workable models of a mixed economy. Policymakers in developing countries, Rodrik cautioned, should therefore not put too much faith in “conventional wisdom or conventional models.” Rather, the domestic strategy needs to be tailored to individual country characteristics and conditions.
Although learning and imitation from abroad are important elements of a successful development strategy, Rodrik stressed that imported blueprints need to be filtered through experience and deliberation. Trade and capital flows are important for development, insofar as they allow developing countries access to cheaper capital goods. But the links between opening up to trade and capital flows and subsequent growth are weak, uncertain, and mediated through domestic institutions. What is true of today’s advanced economies is also true for developing countries: economic development ultimately derives from a home-grown strategy and not from the world market. Policymakers in developing countries should avoid fads, put globalization in perspective, and focus on domestic institution building, Rodrik concluded.
In the past few years, the role of aid in effecting change has come under considerable question, according to Jan Willem Gunning of the Free University of Amsterdam and the Center for the Study of African Economies. The central idea of structural adjustment lending is that aid can buy policy reform. But current evidence suggests that aid is effective only in good policy environments and that the use of aid to bring about policy reform does not work. These findings suggest, Gunning said, that ex ante conditionality in adjustment lending—that is, policy prescriptions set by the donors that the recipient countries must accept as a condition for getting the aid—is ineffective.
If aid effectiveness depends on the quality of the policy environment and donors are powerless to change policies with aid, then, Gunning suggested, the only way to improve efficiency is through ex post conditionality. Donors would treat policy regimes as a given and would allocate aid mainly to countries with a good policy environment. With ex post conditional-ity, the allocation of aid is tied to success and would enable donors to play an important signaling role in transmitting information on government policies and outcomes to private agents.
Gunning acknowledged that objections to the selectivity approach have been raised. For example, ex post conditionality will leave poor people living under governments with bad policies to fend for themselves. However, aid to such governments is unlikely to benefit the poor anyway, Gunning noted, and could well harm them by financing the continuation of a bad policy regime. A second objection is that countries with good policies do not need aid. But, Gunning stressed, this is simply false. Reputations die “quite slowly,” he noted, and domestic savings may remain low for some time in good policy environments, reflecting uncertainty as to whether the new policy regime will be sustained.
Global division of labor
In a keynote address on April 19, Jeffrey Sachs of the Harvard University Center for International Development welcomed what he said was in many respects “a new global consensus on helping the poorest of the poor.” Much of the criticism of the IMF and the World Bank was misplaced, he added, saying that they were bearing the brunt of the blame for the fact that many of the rich countries were still, despite the emerging consensus, turning their backs on the poor. As a result, he said, such international efforts at poverty alleviation as the HIPC (Heavily Indebted Poor Countries) Initiative were severely underfunded.
At the same time, Sachs criticized the IMF and the Bank for what he believed was an overly simplistic emphasis on macroeconomic stability and growth, which, he said, was only part of the story. Equally important in his view were expenditures on health and education, technological advances, and structural adjustment coupled with export diversification. He called on the IMF and the Bank to take the lead on debt cancellation by writing off their credits under the Enhanced Structural Adjustment Facility and the International Development Association.
Crisis and recovery
In a review of the Asian crisis, Eisuke Sakakibara, former Vice Minister of Finance for International Affairs in Japan, discussed the alternative “logically clean solutions” to future crises. The solutions are, on the one hand, an international lender of last resort with free capital movements and, on the other, the reinstatement of permanent capital controls. While the IMF alone is currently not a lender of last resort, he said, the IMF and the countries of the Group of Seven could perform such a function if they were willing to lend in sufficient volume. However, he explained, as long as a crisis remains country-specific, or regional, there is not an urgent political need for unaffected countries to pay the significant costs associated with acting as lenders of last resort.
In the absence of a true lender of last resort, Sakakibara continued, countries could opt to insulate their economies in selected areas and still benefit from free flows of goods and services. He observed that both Malaysia and Singapore had taken steps to protect their economies during the Asian crisis while not completely closing their doors to the rest of the world.
Sakakibara then said that the concept of an Asian Monetary Fund, which had encountered opposition when it was originally proposed in 1997, could be helpful if its function were narrowly defined as the provision of necessary liquidity at a time of crisis with a specific formula for private sector participation. It could then complement the work of the IMF, he said.
The Road to a Free Economy—a retrospective
In his keynote address, “Ten Years After The Road to a Free Economy: The Author’s Self-Evaluation,” on April 20, János Kornai, professor of economics at Harvard University and Collegium Budapest, reassessed proposals he had made in The Road to a Free Economy, published in 1990, on how the postsocialist transition should be carried out. He focused on two issues: reform of ownership and macroeconomic stabilization.
At the outset of transition, Kornai said, there was little agreement on how private ownership should be structured in the postsocialist economies or on how to get there. There was a heated debate around two possible strategies, which he referred to as strategy A and strategy B. He said he was one of strategy A’s advocates, believing that the development of capitalism had to be an organic, evolutionary process. Strategy A, which Hungary and Poland chose, emphasized the creation of conditions that encouraged the “bottom-up” development of a new private sector through selling state companies to outsiders committed to investing in them and concentrating their ownership. In a process of “natural selection,” the fittest companies would survive, he said, and the others would go out of business. Strategy B emphasized accelerated privatization—the rapid liquidation of the state sector—primarily through vouchers giving away shares in state-owned companies or managerial buyouts. Russia pursued an extreme form of strategy B, the Czech Republic, a more moderate form. Strategy A, Kornai said, had been more successful.
He admitted his prescriptions for macroeconomic stabilization were less prescient, however. In his book, he had argued in favor of “radical surgery”—one-stroke stabilization. Although he still believes bold packages are necessary, he said he now realizes that one-stroke action must be followed by years of institutional reform to be sustainable.
Kornai said that the question much debated 10 years ago—gradualism versus shock therapy—misstated the problem because it emphasized speed, which, although important, should not be the primary measure of success. To create strong foundations for capitalism, the focus must be on establishing social and political stability, robust political institutions, sustainable growth, a good legal infrastructure, and popular support based on an experience of tangible gains rather than on expectations. He stressed the importance of allowing a broad middle-class base with a stake in capitalism to emerge, and said that the transition from socialism to capitalism was a trial-and-error process and could not be imposed.