Where has the Millennium Challenge Corporation succeeded and failed to incentivize reform—and why?

U.S. President George W. Bush (R) and Mongolian President Nambaryn Enkhbayar sign the Millennium Challenge Corporation Compact at the White House in Washington October 22, 2007.    REUTERS/Kevin Lamarque  (UNITED STATES) - GM1DWKURZWAA

Among the 23 federal agencies that are involved in the design and delivery of U.S. foreign assistance programs, the Millennium Challenge Corporation (MCC) is truly unique. It enjoys broad bipartisan support in the U.S. Congress; nongovernmental watchdog groups consistently argue that the organization should be protected and strengthened; and it is held in high esteem by other bilateral and multilateral development finance institutions.

Three features of the MCC’s organizational model distinguish it from other aid agencies:

  1. It uses third-party measures of policy performance to identify well-governed partner countries that can reasonably be expected to put U.S. taxpayer dollars to good use.
  2. It requires partner countries to lead the process of designing and implementing development projects in response to local priorities rather than earmarks or directives from Washington.
  3. It screens candidate projects based on cost-benefit analysis, and after projects are completed, it subjects them to rigorous impact evaluations.

There is a broad consensus—inside and outside the Beltway—that MCC has depoliticized the annual aid allocation process by using third-party indicators of policy performance to make country eligibility determinations and making the basis for its decisionmaking transparent through the online publication of “country scorecards.” MCC also gets high marks from congressional overseers and aid practitioners for promoting local ownership and long-run sustainability and subjecting all of its pre-project economic analyses and post-project evaluations to public scrutiny.

Yet there is one important aspect of the MCC’s organizational model that remains the subject of ongoing speculation and debate: the so-called “MCC Effect.”

Prior to the creation of MCC, President George W. Bush called for “a set of clear and concrete and objective criteria” to channel aid funds to “nations that root out corruption, respect human rights, and adhere to the rule of law…, nations that invest in better health care, better schools and broader immunization…, nations that have more open markets and sustainable budget policies, [and] nations where people can start and operate a small business without running the gauntlets of bureaucracy and bribery.” He announced the U.S. government would “reward these nations and encourage others to follow their example.” Lest there be any confusion about the intent of the U.S. Government, the intellectual architects of MCC at the National Security Council codified it in the 2002 National Security Strategy: “[T]he Millennium Challenge Account will reward countries that have demonstrated real policy change and challenge those that have not to implement reform.”

Fifteen years have passed since the Bush administration announced that MCC would be used as a tool to incentivize reform in the developing world, and the Trump administration’s National Security Strategy reaffirms this strategic vision for MCC. Yet we still have remarkably little evidence about whether, when, and how MCC eligibility standards have influenced the reform efforts of low- and middle-income countries.

Some congressional leaders, think tanks, NGOs, and media outlets argue that tying U.S. assistance to performance on MCC eligibility indicators has catalyzed reforms across a broad set of countries and policy areas, while others claim that the MCC Effect is a fiction cooked up by those who want to rally domestic political support for the institution. But those who have engaged in this debate have mostly offered opinion, conjecture, and anecdotal observations.

To bring rigorous empirical evidence to bear on the question of whether, when, and why governments adopt policy and institutional reforms to achieve or maintain eligibility for MCC assistance, my colleague Caroline Davis and I spent 10 years painstakingly assembling and analyzing a dataset of 14,000 observations that measures the reform responses and non-responses of 118 low- and lower-middle income countries to the eligibility requirements for MCC assistance over a seven-year period.

We found evidence of the MCC Effect in 45 out of 118 candidate countries—or 38 percent of the low- and lower-middle income countries that could have plausibly been influenced by the MCC eligibility criteria—between 2004 and 2010. We also found that the MCC eligibility standards were particularly effective at incentivizing reform in countries where the president or prime minister expressed interest in meeting the MCC eligibility standards, and in countries where teams of technocrats were granted executive authority to implement disruptive changes to the status quo.

These patterns in the data suggest that governments in the developing world are not being cajoled or coerced by the U.S. government to pursue reforms that they would not otherwise want to implement. Rather, it appears that the MCC Effect works through “sympathetic interlocutors” in low- and lower-middle income countries who consider the prospect of receiving the MCC’s “good housekeeping seal of approval”—and access to hundreds of millions of dollars in flexible grant assistance from the U.S government—as an opportunity to rally domestic reform efforts and neutralize anti-reform opposition.

There’s also some evidence that cross-country benchmarking exercises like the MCC scorecards change the cost-benefit calculus of reform by providing mechanisms for governments to communicate their reform accomplishments to foreign investors and donors, and thereby encourage additional aid and investment.

During the course of our study, we also uncovered an unexpected finding that merits careful consideration by those within the Trump administration who would like to use foreign aid as a tool of realpolitik. Countries that consistently voted with the U.S. in the U.N General Assembly—a key measure of support for U.S. foreign policy that is annually monitored by the State Department—were less likely to undertake domestic reforms that would make them competitive for MCC funding. The most obvious explanation for this pattern is that these governments chose not to expend much effort on risky, status-quo-altering reforms because they knew that the U.S. government would financially reward them regardless of their reform credentials. So, when President Trump declared at the U.N. General Assembly in September 2018 that “[m]oving forward, we are only going to give foreign aid to those who … are our friends,” he may have inadvertently undercut his own administration’s efforts to “encourage states to make choices that improve governance, rule of law, and sustainable development.”