What impact does aid have on economic growth? Is conditionality beneficial for development? Can aid work when government policy is bad? Recent research by the World Bank into aid effectiveness has prompted a vigorous debate. This study by a staff member of the Department for International Development (DFID) examines the evidence and casts doubt on the conclusions of the Bank.
Two opposing viewpoints have emerged in the debate sparked off by the World Bank report. According to one, aid only really works when government policies are good, and a more selective allocation of aid to ‘good policy / high poverty’ countries will lead to larger reductions in poverty. According to the other, aid effectiveness is not conditional on policy and the implications of the former for more selective aid allocations are treated with concern.
The first viewpoint has gained currency and is already shaping opinion and influencing practice. Yet it is likely that World Bank conclusions are sensitive to model re-specification, and that the impact of aid on growth is positive, irrespective of the policy environment. It is clear that:
- Aid has a valuable role to play in helping countries to adjust to external shocks.
- The impact of aid is bigger in the presence of good policies.
- It is more effective to re-allocate aid on the basis of poverty criteria than according to policy criteria.
- The World Bank’s evidence that aid is fungible and that ex-ante conditionality is ineffective is questionable.
- Growth is not the only route to poverty reduction, or the only benefit of aid. Distributional effects are potentially important, as are the health, education and environmental development targets.
- Adopting the poverty reduction target at the level of each country, as opposed to a single global target, could significantly alter the pattern of poverty efficient aid allocations.
Five main policy implications for donors are drawn from this analysis. The strength of each will vary between donors, depending on individual mandates and political priorities, areas of comparative advantage and existing patterns of aid allocation.
- Aid allocation procedures must take into account the need for the effectiveness of aid to guide and justify the allocation of budgets.
- There needs to be a significant shift in aid from middle income towards low-income countries.
- Some greater focus on ‘good policy’ countries is warranted but, in assessing performance, donors need to make allowance for the impact of external shocks, while there is a case for continued engagement in poorly performing countries.
- The need for increased selectivity in aid allocations, more flexible forms of assistance (such as budget support) and improvements in donor coordination and harmonisation of donor procedures.
- Evidence that the impact of aid has been reasonably good and is getting better supports the case for more aid, which would be reinforced by donors seeking to improve the allocation of their budgets.
