Action on Aid: Steps Toward Making Aid More Effective

Editor’s Note: In a recent report, Homi Kharas presents several fundamental challenges to delivering more effective aid and offers actionable steps to resolve them.  Here, Kharas notes the challenge of aid volatility; he highlights the fact that despite recent emergency efforts, improving aid effectiveness remains a key activity in helping low-income countries recover from the global financial crisis. 

There are growing signs that the global economic crisis has reached both poor countries and poor people in those countries. In February, for example, the World Bank’s forecast for Africa’s growth in 2009 was revised downward from 6.8 percent to 3.5 percent. Another World Bank document suggests that the crisis has pushed more than 50 million people below the $1.25 per day poverty line. This type of evidence has convinced many world leaders that a problem exists: U.N. Secretary General Ban Ki-Moon has called 2009 “a development emergency” and this past weekend the boards of the World Bank and the IMF both recognized that the global economic crisis had metastasized into a “human and development calamity.”

There have been some encouraging, ad-hoc commitments by rich-countries to assist low-income and emerging countries during this time of need. Communiqués from both the G-20 Summit in London and the recent World Bank/IMF spring meetings highlight expanded funds to increase credit lines, inject liquidity, and reinvigorate trade finance in the developing world.

Nevertheless, these actions and resources can only offer temporary relief to poor countries; they are small in magnitude to the losses associated with the current global recession. For example, developing countries’ fiscal revenues depend on trade tariffs and natural resource taxes, both of which are collapsing. Likewise, monetary policy cannot easily be loosened in an environment where the exchange rate is headed south. Capital is leaving poor countries and even official aid is being cut back. These developments will likely overwhelm the actions currently on the table.

Helping poor countries weather through, recover from, and develop after the current crisis will ultimately involve resources delivered by development assistance. One problem with aid that is clearly evident in the present situation, however, is that aid is highly volatile. Research indicates that aid shocks faced by low-income countries are comparable in size and frequency to major global economic shocks faced by developed countries, such as the Great Depression, the two World Wars, the Spanish Civil War, and perhaps the current global recession. Aid also tends to be procyclical with recipients’ domestic spending: expanding when recipients’ fiscal revenues and spending expand, and contracting when they contract. When aid flows behave this way, they are highly disruptive to long-term development programs.

Improving aid effectiveness is, therefore, an essential task in helping poor countries reclaim gains against poverty achieved before the global recession took hold. Though aid effectiveness has many dimensions, a few issues merit immediate attention: aid volatility and fragmentation, the proportion of aid available for on-the-ground development projects and programs, administrative burdens placed upon recipients, and coordination in a complex aid industry. Actions to improve performance in these areas are easily identified and could lead to large gains in aid effectiveness.