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CIAO DATE: 8/01
A Better Way to Help the World
On The Issues
May 2000
A bipartisan congressional commission chaired by the author has proposed changes to increase the effectiveness of the International Monetary Fund, the World Bank, and other international financial institutions. The IMF has accepted some of suggested principles of reform. The World Bank opposes the commission's proposals, but its objections are based on false premises.
The signs carried by demonstrators in Washington during April's protests indiscriminately condemned all the main international economic institutions. Like the demonstrators, the institutions are a mixture of good and bad, right and wrong. Their judgments are mainly well intentioned, but often mistaken. And both the demonstrators and the institutions suffer from a common Washington affliction, a firm conviction that they act on behalf of those whom they claim to assist.
Most of the demonstrators oppose the "Washington consensus," the long list of conditions that countries must accept in exchange for financial aid. They are right to do so. Many of the conditions are intrusive and of little value.
Much research at the World Bank, and elsewhere, shows that foreign aid fosters development only if officials in recipient countries are willing to promote and sustain reforms. But the required conditions are often ignored and given lip service —Russia is a case in point. And aid is often used to finance monetary, tax, and regulatory policies that restrict growth. Even worse, it has helped support the Mobutus, Suhartos, and Marcoses of this world.
Bipartisan Recommendations
While the demonstrators are right to challenge the Washington consensus, they neither speak with one voice nor offer valid alternatives. The overwhelming impression is that the groups organizing the demonstrations are as eager as the International Monetary Fund (IMF) and the World Bank to impose specific policies on aid recipients—policies that most developing countries reject. Both labor unions and environmental activists promote such policies to secure their own interests at the expense of people in developing countries.
While the media focus was on the streets, the main action for reform has come from the U.S. Congress. It created a commission, which I chaired, to propose changes and is now considering legislation that would require the IMF to adopt the commission's main, bipartisan recommendations.
Lawrence Summers, the U.S. treasury secretary, followed the commission's report by suggesting four core principles for reform of the IMF: clear delineation of responsibilities between the IMF and the development banks; more focus on short-term liquidity lending; establishment of preconditions to strengthen local incentives to forestall crises; and dissemination of more, and more timely, information to markets. The IMF has now accepted some of these principles.
Mr. Summers's proposals, although insufficient, echo the commission's view on how to help the world's poorest countries. He assigns to the development banks the responsibility for assisting these countries and for addressing problems such as disease and pollution.
The commission recommended two additional types of programs to help poor countries: the substitution of subsidized grants for loans to alleviate the worst symptoms of poverty and the provision of subsidized loans to support institutional reforms. Whatever some demonstrators may claim, open markets, property rights, and individual incentives are necessary for successful development.
Shocking Claims
Unlike the IMF, the World Bank opposes the commission's proposals. The Bank's management has made several erroneous claims: that the proposals would reduce aid to the poorest countries, that the Bank's programs in the poorest countries would be financed through reduced lending to middle-income countries, and that private investors would not fund improvements in social services.
Some of these claims are shocking because they are based on a misunderstanding of the Bank's own activities. The Bank does not profit from loans to middle-income countries, for all it charges is the cost of borrowing. As for private sector funding, Bank officials seem to ignore the obvious: private lenders do give loans to countries if the countries issue guarantees of repayment of the sort given to the Bank. It is, then, up to the governments of recipient countries to decide whether private money is to flow into social programs.
Moreover, substituting grants for loans would not reduce the Bank's resources. Adam Lerrick, one of the commission's staff members, has shown that a properly-run grant program would finance more aid to the poorest countries than a loan-based scheme.
The World Bank is an overstaffed, ineffective, bureaucratic institution. Including its subsidiaries, it has about twelve thousand employees, mostly dedicated professionals who are committed to development and poverty relief. Yet the Bank's record is fairly poor. By its own admission, half its projects are unsuccessful, and the failure rate is even higher in the poorest countries.
The Bank's management must stop its current public-relations flimflam and start improving its effectiveness in reducing poverty. If the demonstrators help achieve that, their efforts will have been worthwhile.
Allan H. Meltzer, a visiting scholar at AEI and a professor of political economy at Carnegie Mellon University, chaired the International Financial Institutions Advisory Commission. This article appeared in the Financial Times on April 28, 2000.
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