What is the effect of aid on reform in Low-Income Countries under Stress (LICUS)? At what stage in a reform process does aid have the most effect? This paper by the Centre for the Study of African Economies at Oxford University investigates whether and how aid can assist the improvement of policies and institutions in fragile states. It aims to improve the overall guidance on aid effectiveness by quantifying some neglected potential benefits of aid and producing a model for the sequencing of aid. It concludes that technical assistance is only useful when governments want and need to use it, but that it cannot make change happen.
Low-Income Countries Under Stress are often in a state of prolonged crisis, bearing weak policies, institutions and governance; generating varied and extensive costs. LICUS status typically reduces the annual growth rate of peacetime economies by 2.3 per cent relative to other developing countries. Once within the LICUS classification, countries are likely to remain there for a number of decades, with the chance of a sustained turnaround at 1.8 per cent. Neighbouring countries feel the cost as 3.41 times their GDP, which can be tripled as the typical LICUS has three neighbours. An overnight intervention to transform a LICUS into a non-LICUS state produces an approximate benefit of $80 billion.
The impacts of aid are different at varying stages of an intervention; the following findings indicate the effects of aid prior to a turnaround and during the early stages of a reform:
Prior to turnaround:
- Technical assistance has no significant effect on the prospect of a turnaround and in fact has adverse impacts.
- All aid apart from technical assistance has favourable effects on the likelihood of a sustained turnaround. The chance to escape from LICUS status increases by 50 percent and the costs incurred fall.
- The optimal amount of aid at which the marginal benefits equals the costs occurs when aid is around 22 per cent of reform.
During the early stages of reform:
- Both technical assistance and other aid decrease the amount of time it takes for a turnaround to become sustainable. However, the optimal amount greatly differs: four per cent for technical assistance and above 12 per cent for other aid.
- Technical assistance is most effective in the first two years and shouldn’t continue indefinitely. Other forms of aid are not as effective in the first four years of reform and should be employed during the fifth and eighth years.
- Technical assistance reduces the risk of reform collapse.
If technical assistance is only effective when governments want and need it the government itself should be the best judge of its needs. This could be implemented through a ‘Technical Assistance Account’. Allocations of TA should be volatile to match changing country circumstances. The following form and sequence of aid instruments is recommended:
- Prior to any improvement: Donors should avoid technical assistance, however aid for basic services such as post-primary education should be implemented.
- Early support for reform: Once a government has raised the CPIA by 0.5 donors should provide technical assistance (4 per cent of GDP). Technical assistance is only useful when governments have the capacity and need for it.
- The peak stage of reform: Between the 5th and 8th years technical assistance should be scaled down and replaced by a large aid programme (15 – 20 per cent of GDP).
- Sustained turnaround: If achieved aid can then be determined on the more conventional criteria of poverty efficiency.
- Reform collapse: If the reform completely collapses donor involvement should revert to the first stage.
- Reform limbo: If the reform is in a state of limbo technical assistance should be gradually scaled down and other forms of aid should be rapidly scaled down.
