towards a new era in development aid: building … · 2010-11-21 · towards a new era in...

Table of Contents Page

• ACKNOWLEDGEMENTS ...................................................................................................................... 1• ACRONYMS ......................................................................................................................................... 2• EXECUTIVE SUMMARY ....................................................................................................................... 3• INTRODUCTION ................................................................................................................................. 11

CHAPTER 1: THE IMPERATIVE FOR REFORM

1.1. Growing complexity ..................................................................................................................... 131.1.1. Origin, global evolution and major trends1.1.2. Main actors1.1.3. Main instruments1.1.4. Business segments

1.2. Mixed track record to date .......................................................................................................... 241.2.1. Economic and social development1.2.2. Flaws in delivery mechanisms

1.3. Unclear future ............................................................................................................................... 361.3.1. Increasingly challenging landscape1.3.2. A new paradigm for aid1.3.3. Critical long-term issues outstanding

CHAPTER 2: THE ROLE OF INSTITUTIONAL INFRASTRUCTURE (I.I.)

2.1. ‘Top down’ analysis ...................................................................................................................... 472.1.1. Business dynamics analysis2.1.2. Impact of Institutional Infrastructure2.1.3. I.I. and long-term issues

2.2. ‘Bottom up’ analysis – The Country Studies .............................................................................. 522.2.1. Objectives and approach2.2.2. Overall findings2.2.3. Country-based findings2.2.4. Interaction of I.I. and aid effectiveness

CHAPTER 3: IMPROVING THE EFFECTIVENESS OF INSTITUTIONAL INFRASTRUCTURE (I.I.)

3.1. Implementation lessons from country studies ........................................................................... 733.1.1. The Malaysian experience3.1.2. Lessons from other countries

3.2. Actions to enhance the management of I.I. ............................................................................... 783.3. Implementation conditions: putting the plan into action ........................................................ 813.4. Broader ideas for further supply side actions ............................................................................ 873.5. Recognise the links between I.I. management improvement and trade liberalisation .......... 91

APPENDICES .......................................................................................................................................... 93

A.1. The database issue .......................................................................................................................... 94A.2. Supporting tables ............................................................................................................................ 95A.3. Comparative assessment of major aid agencies ............................................................................. 104A.4. Potential changes to Technical Assistance business processes ........................................................ 106A.5. Considerations for improving International Financial Institutions internal processes ....................... 107A.6. Potential ideas for the International Debt Consolidation Fund ....................................................... 109

REFERENCES ........................................................................................................................................ 110

TOWARDS A NEW ERA IN DEVELOPMENT AID:BUILDING EFFECTIVE INSTITUTIONAL INFRASTRUCTURE

IN LESS DEVELOPED COUNTRIESA report for FRIDE

Volume I: The Main Report

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This report was commissioned by the Spanish Fundación para las Relaciones Exteriores y el Diálogo Exterior(FRIDE, www.fride.org) and carried out by a team of Development Finance Corporation (DFC,www.thedfcgroup.com) composed of:

Jose Luis Mombru, Group Managing Partner – Team Leader of the studyPaul Cozzi, PartnerBreda Griffith, ManagerMichael Jordan, PartnerJoy Haukozi, Senior ConsultantIan Mombru, Senior ConsultantPhilippe Nouvel, DirectorRobert Poldermans, PartnerAlexia Santallusia, ConsultantCharles Vellutini, Senior ConsultantRobert Wilson, Senior Manager

The report was carried out in 3 successive Phases and the conclusions of each discussed with FRIDE’s Boardof Patrons, which provided invaluable guidance throughout. This being said, DFC is solely responsible for thecontents of this report and, obviously, for its shortcomings, errors and omissions and for the interpretationsthat could be made on its text.

The report has benefited enormously from the comments made by a Panel of Advisors composed ofillustrious individuals who contributed unparalleled knowledge and experience on development aid issues,gained from diverse professional perspectives. They have kindly offered their individual views on the report’smain theme, Executive Summary and Conclusions and Recommendations, and comprise the followingmembers:

Bardhan, Pranab. Professor at University of California at Berkeley and Co-chair of the MacArthur Foundation– funded Network on the Effects of Inequality on Economic.

Barry, Nancy. President of the Women’s World Banking.

Burki, Shaid Javed. Chief Executive Officer of EMP Financial Advisors, LLC and Senior Advisor to the Presidentof the Inter-American Development Bank. In 1996/1997 Mr Burki served as Pakistan's Minister of Finance,Planning and Economic Affairs.

De la Dehesa, Guillermo. Vice-President of Goldman Sachs Europe and Chairman of the Centre for EconomicPolicy Research. Mr De la Dehesa has served as Secretary General of Trade at the Ministry of Economy andFinance of Spain (1982).

Eigen, Peter. Founder and Chairman of Transparency International.

Tejada, Luis. General Chief Sub director of the Evaluation and Planning Office of the State Secretary forInternational Cooperation and for Latin America.

Van Loon, Frans. Managing Director of Global Head, Governments and International Orgs of ING.

Wallis, Stewart. Livelihoods Director of Oxfam GB.

FRIDE and DFC are highly indebted to each of the Panel Members for their contributions, which havesignificantly enriched the report and which we hope to have reflected adequately. If we have not done so,DFC alone is fully responsible for this shortcoming.

ACKNOWLEDGEMENTS

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ACRONYMS

AFD Agence Française de DéveloppementAFTA Asia Free Trade AssociationAfDB African Development BankAfDF African Development FundADB Asian Development BankAIDS Acquired Immune Deficiency SyndromeAPRM African Peer Review MechanismBNM Central Bank of MalaysiaBWI Bretton Woods InstitutionsCarDB Caribbean Development BankCAS Country Assistance StrategyCIDA Canadian International Development AgencyCIIC Council of I.I. ChangeCIS Former Soviet Union countriesCDF Country Development FrameworkCLONG Committee of Development

Non-Governmental Organisations for the EUCOFIDE Cooperación Financiera

de Desarrollo S.A., PeruCONGO Conference of NGOsCPI Corruption Perception IndexCPIA Country Policy and Institutional AssessmentCEEC Central and Eastern European CountriesCSOs Civil Society OrganizationsDFID Department for International

Development, UKDPI Department of Public InformationDAC Development Assistance CommitteeDANIDA Danish Agency for Development AssistanceEBRD European Bank for Reconstruction

and DevelopmentECA Europe and Central Asia ECOSOC Economic and Social CouncilEDPYMES Development Institution for SMEsEEF Extended Fund FacilityEPU Economic Planning Unit, MalaysiaESAF Enhanced Structural Adjustment FacilityEU European UnionFDI Foreign Direct InvestmentEIB European Investment BankGEF Global Environment FacilityGDP Gross Domestic ProductGNP Gross National ProductHIPC Highly Indebted Poor CountriesIFIR IFI RegulatorIBRD International Bank for Reconstruction

and DevelopmentICV Coordination Unit, MalaysiaIDA International Development AssistanceIDB Inter-American Development BankIDCF International Debt Consolidation FundIFC International Finance CorporationIFAD International Fund for Agricultural

DevelopmentIFIs International Financial InstitutionsI.I. Institutional InfrastructureIMF International Monetary FundINTAN National Institute of Public Administration,

MalaysiaL-T Long-TermLAC Latin America and CaribbeanLDC Less Developed CountriesLIBOR London Interbank offered rateMANPU Modernisation and Management

Planning Unit, MalaysiaMDB Multilateral Development BanksMDGs Millennium Development GoalsMENA Middle East and North Africa

MIGA Multilateral Investment Guarantee AgencyMoU Memorandum of UnderstandingMSME Micro and Small and Medium EnterpriseNEAC National Economic Action Council, MalaysiaNEPAD New Partnership for AfricaNGOs Non-Governmental OrganisationsNIS Newly Independent StatesNITC National Information Technology CanalOA Official AidOED Operations Evaluation DepartmentODA Official Development AssistanceODF Official Development FinanceODII Organisation for Developing

Institutional InfrastructureOECD Organisation for Economic Co-operation

and DevelopmentOOF Other Official FinanceOPEC Organisation of the Petroleum

Exporting CountriesPEAP Poverty Eradication Action PlanPRGF Poverty Reduction Growth FacilityPRSP Poverty Reduction Strategy PaperRDBs Regional Development BanksSAL Structural Adjustment LoanSAPRI Structural Adjustment Programmes

InitiativeSC Securities CommissionSECAL Sectoral Adjustment LoanSIDA Swedish International Development

AgencySME Small and Medium Sized EnterpriseSORM Sovereign Debt Restructuring MechanismTA Technical AssistanceTACIS Technical Assistance to the CISTAPIIM TA Programme to Improve

Management of I.I.TRIPs Trade Related Aspects of Intellectual

Property RightsT&T Trinidad and TobagoUNDP United Nations Development ProjectUNHCR United Nations High Commissioner

for RefugeesUNICEF United Nations Children’s FundUNRWA United Nations Relief and Works

Agency for Palestine Refugees UNTA United Nations Trade AssociationUN United NationsUSAID US Agency for International DevelopmentWB(G) World Bank (Group)WFP World Food ProgrammeWTO World Trade Organisation

Aid plays a crucial role in pursuing humanitarian, socialand economic goals in the developing world. Yet thenotion of solidarity among nations, and that richcountries should help poorer ones, is relatively recent –dating back to the post World War II reconstruction. Ina remarkably short period of time, the aid landscapehas evolved dramatically, and now exhibits many of thecharacteristics typically found in other major industries:Global operations, multinational institutions,increasingly diverse and specialised suppliers, tens ofbillions of dollars in “turnover”, hundreds of thousandsof employees… An examination of the history,effectiveness and future outlook of this industrysuggests a need for major reform.

Previous attempts at reforming the aid industry havetypically focused on its “supply side” – theinstitutions and organisations that channel andmanage aid. We take a different approach, andargue that successful reform will require addressingshortcomings on the “demand side” – thus ensuringthat recipient countries become more mature andcapable consumers of aid finance.

The concept of Institutional Infrastructure (I.I.) is atthe heart of our approach. A country’s I.I. is definedas its policies, institutions, and managerial capacityin the spheres of government, law, finance,business, and trade. Accordingly, the study developsthe concept in detail around a 15 componentmatrix which defines, and evaluates, each of thecomponents and their interrelations.

A structural analysis of the development aidindustry and a detailed review of development casehistories in a sample of countries confirm theimportance of adequate I.I. to achieve levels ofdevelopment that are sustainable.

This report draws conclusions from a detailed analysisof the evolution and key characteristics of the globalaid industry. It identifies lessons from an in-depthcase study review of the development experience of8 sample countries. It recommends a broad-based,yet concise, five-point action plan to strengthen theI.I. of Less Developed Countries (LDCs), and proposesa framework for implementation. Finally, it providesinitial suggestions for complementary actions toensure successful reform.

THE IMPERATIVEFOR REFORM

Aid must reform if it is to be effective. This belief restson three observations. First, the industry has becomeincreasingly complex, given the extent to which it hasevolved in the past 60 years, the rapid expansion anddiversification of key actors, and the proliferation ofnew instruments. Second, development aid has amixed track record of impact to date – both in termsof meeting its objectives for economic and socialdevelopment, and in terms of the operatingperformance of current delivery mechanisms. Finally,an analysis of the future drivers of aid suggests ableak outlook, and the industry appears ill equippedto tackle the major challenges ahead.

Growing complexity: The global aid industry has evolved considerablysince its inception. Following World War II and up tothe mid-60s, aid was provided overwhelmingly bybilateral channels – often motivated by strategic andsecurity interests. The real starting point fordevelopment aid was the Pearson Report in 1969,which set the tone for the objectives and behaviourof the industry in the following two decades. Thesewitnessed a significant increase in aid, particularlyfrom publicly funded, multilateral donors. The trendcontinued through to the early 1990s, whichwitnessed a fall in Official Development Assistance(ODA) and the overtaking of public flows by privateones – by up to a factor of 6 in some years. Privateflows have proven to be both volatile and highlyconcentrated in a small number of countries,sectors, and indeed, companies. Yet Foreign DirectInvestment (FDI), the most important component ofprivate flows, has continued to increase steadily,even in years when other private flows have turnednegative. The focus of aid has shifted considerably,from funding large infrastructure projects in theearly decades, to the alleviation of poverty and thecreation of institutional capacity today. Thedistribution of aid flows by region has also variedconsiderably, largely depending on its origin: Sub-Saharan Africa has traditionally been the mainbeneficiary of public funds, while East Asia and LatinAmerica have received the bulk of private funds.

The landscape of aid institutions has grown ever morecomplex, and now includes a diverse set of players,such as international policy setters, multilateralinstitutions, bilateral donors, private investors and Non-Governmental Organisations (NGOs). While offeringthe benefit of more choice and flexibility for recipients,this expansion brings the added complexity of multiplepoints of contact, different – and sometimes conflicting– requirements, and more co-ordination.

The menu of aid instruments has also expandedconsiderably and now encompasses a broad range ofproducts, such as instruments for dialogue and co-ordination, debt financing, debt restructuring,procurement, and research & policy development.While the expansion of products represents a – largelypositive – expansion in choice, it also contributes to thecomplexity of assessing and administering internationalaid programmes, and of monitoring performance.

Finally, we can synthesise the interplay of actors andproducts to characterise the aid industry by itscomponent segments. This additional perspectivehelps better analyse the underlying trends andbehaviours of the industry, and reveals five businesssegments at different stages of maturity. These are:(i) specialised support for basic needs, (ii)emergency aid, (iii) structural support, (iv) projectfinance, and (v) direct investment. As with allsegmentations, some degree of overlap betweensegments remains, though the overall approachprovides useful working distinctions between themain categories of users. Structural support andproject finance – two of the segments that havehistorically driven growth – are becoming mature,and the remaining segments are unlikely to becomea sustainable replacement.

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EXECUTIVE SUMMARY

Mixed track record:Aid has a mixed track record of meeting objectivesfor economic and social development. While therehas been a notable improvement in some socialindicators, such as life expectancy or enrolment ineducation, much of the growth in income in thepost war period was considerably offset by anunexpected population expansion. Over the past 30years, LDCs have continued to sustain high levels ofgrowth, but this has become increasingly volatile,with the volatility underscoring greater vulnerabilityto external market shocks, such as economicdownturns in the developed world, regional debtcrises, and declines in commodity prices. Inaddition, average growth rates mask majorvariations in performance between regions – EastAsia has enjoyed consistently high growth, whileAfrica has stagnated – and across countries withinregions. Overall, the number of people living inpoverty – on less than $2 a day – has not declined.Finally, the amount of aid a country has receiveddoes not appear to be linked to proportionatelyhigher rates of growth.

An examination of the effectiveness of differentdelivery mechanisms raises several concerns. Manydonors have not discriminated effectively betweencountries: in Africa, countries with good policieshave received less assistance than countries withpoor or mediocre policies. Even when aid isallocated in accordance with performance, it hasnot adequately addressed the need for povertyreduction. The implementation of evaluationmethodologies has been far from perfect, givensignificant variations in the capacity of donors toevaluate performance. Conditionality – the practiceof making aid flows contingent on the achievementof specific goals – has failed as a mechanism forinducing better performance, and the adoption of amore participatory approach to developmentassistance has yet to deliver tangible benefits.Technical Assistance, the primary aid instrument forbuilding capacity in recipient countries, has beenwidely criticised as being supply driven, costly, andlacking effectiveness. Finally, NGOs have beenincreasingly used as a delivery mechanism for aidprogrammes, but in spite of their positive impact in“on the ground” programmes, they have proven tofall short of being a magic solution to improvingoverall aid performance.

Challenges ahead: In our view, four issues will influence the evolutionof aid in the future, and will likely call for anincrease in support to the developing world. First,the continuing impact of globalisation is likely tocall for an increase in aid, as income disparitieswiden and as LDCs face increasing pressure toequip themselves to compete effectively inliberalised markets. Second, with the developingworld’s stock of debt at about $2.5 trillion, orclose to 40% of its GDP, the debt problem isunlikely to disappear. Indeed, the slow progress ofthe Highly Indebted Poor Countries (HIPC)initiative will presumably argue for more grants.Third, the increasing importance of internationalpublic goods, such as controlling disease, limitingclimate change and safeguarding global peaceand security, will call for more internationallycoordinated efforts and resource transfers. Newavenues will have to be explored to ensureadequate support of international goods, possiblythrough association between the International

Financial Institutions (IFIs) or other aidorganisations and the private sector, includingfoundations that in many cases have played apioneering role in this area. Finally, we believe thatthere will be an increasing focus on performance,which may underscore the extent to whichcontinuing aid is required to meet the objective ofpoverty alleviation.

Set against the ever increasing demand for aid, anddespite some recent indication by major aid donorsthat they will somewhat increase theircommitments in the near future, the presentoutlook for aid appears to be increasingly bleak.The current pressing need to fight terrorism mayincite some to emphasise the political short-termobjectives related to this fight in the use of aid, andin the choice of beneficiaries. From a longer-termperspective, this potential renewed politicisation ofaid could introduce some element of uncertainty inthe ability of LDCs to plan their programmes.Research has demonstrated that the stability of aidflows is an important driver of aid effectiveness,and that flows related to short-term politicalconsiderations will likely be subject to frequentchanges. On the private side, hopes of steady flowsof private finance have been shattered by the EastAsian crisis, and given the current economicsituation in the US, there is no locomotive to dragthe world around. Furthermore, recent events inArgentina and potentially in other LDCs, combinedwith an attitude of risk aversion towards thedeveloping world, will also adversely affect thewillingness of private bankers and capital marketsto invest in the emerging markets. At a time whenrecession – or at least stagnation – strikes thedeveloped world, getting donor countries toincrease aid volumes is likely to be extremelydifficult, yet of crucial importance.

Attempts have been made to respond to theseissues. Indeed, a new paradigm for aid has evolvedaround a small number of general prescriptionsdesigned to progressively improve the quality of lifein LDCs. These represent a commitment to: focuson poverty reduction; adopt free market principles;develop trade; support democracy and humanrights; leverage the private sector as the primarydriver for growth; and recognise debt relief as anecessary condition for effective poverty reduction.The international community is increasingly awareof the urgency of improving the situation of thepoorest countries, and of the complexity ofimplementing this new aid paradigm. Recentinitiatives like the Millennium Declaration and theMillennium Development Goals (MDGs), covering abroad range of development goals, ultimatelymonitored by the UN Secretary General, result,indeed, in a major international commitment.

This new aid paradigm represents a welcomedegree of consensus and focus on the part of thedeveloped world. While it is intended to provide acomprehensive framework for approaching thefuture of aid, a number of critical issues still needto be addressed, in a systematic, decisive way. Thefive most important are: (i) the reduction of tradeand investment barriers; (ii) a robust approach tofungibility and aid allocation; (iii) a solution to theproblem of highly indebted poor countries; (iv) thereduction of corruption; and (v) the place ofprivate sector financing. Aid is unlikely to achieveits objectives if these issues are not tackled.

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THE ROLEOF INSTITUTIONALINFRASTRUCTURE

The thesis of this report is that reforming the I.I. ofrecipient countries is one of the highest priorities forreforming development aid, and the lever that willhave the greatest impact in increasing the efficiencyin managing aid flows. The I.I. of a country canbroadly be defined as the business framework andits operations. This has a number of componentscovering (i) the political system, (ii) the legalframework, (iii) the financial sector, (iv) corporategovernance, and (v) trade and competition. Foreach of these components, three elements need tobe “right”, they are the policies, the institutions andthe management of operations. For example, thefinancial system policies are enshrined in its lawsand regulations (e.g. the Banking Act). Itsinstitutions comprise the supervisory authorities andbanks, insurance companies, etc. Finally, itsmanagement of operations comprises manyaspects, such as the ability to reliably transfer fundsfrom one account to another within two workingdays. Unless all three elements work well for eachcomponent of I.I., it will fail in its ability to deliverwhat ODA and private investors require. It is notenough to have one or two of the three atacceptable, recognised international standards –they all need to be there. As a general observation,policies and institutions have tended to receivemore attention and technical assistance than themanagement of operations, which has beenneglected in relative terms. The report confirms theimportance of Institutional Infrastructure throughboth a “top down” and a “bottom up” approach.

‘Top down’ structural analysis: Having argued the case for reform, we require atool for systematically identifying areas whereimprovement is needed. Our approach involves abusiness dynamics analysis that examines theindustry’s market characteristics, products &services, marketing, operations, culture, and thenature of competition. This analysis focuses onInternational Financial Institutions (IFIs), as the mostsignificant and most mature component of theindustry. What emerges is that this appears to be asupplier-driven business that is not very close to itscustomers and that has developed a strong inward-focused culture.

Five recommendations are suggested as the bestway to redesign this segment of the aid industry.First, the demand side needs to be strengthened atan operating level, which requires a development ofinstitutional capabilities of LDCs on a grand scale.Second, a certain degree of competition amongstthe providers of ODA should be encouraged, toensure a more efficient and effective allocation ofthis scarce resource. Third, investments in productdevelopment should be made to ensure thatfinancial and advisory products are relevant tochanging customer requirements. Fourth, efficiencyimprovements are required, particularly in reducingprocessing times. Finally, the operating culture ofIFIs should be changed to a more customer-orientedand efficiency-minded ethos.

While many of these recommendations requireaction at the level of IFIs, we believe that the mostimportant priority is the full development of the I.I.of client countries. This will clearly improve the

performance of recipients as they develop more in-depth skills to independently formulate theirpipeline of projects and as they improve theirimplementation effectiveness. These benefits arelikely to be matched by various changes amongstthe providers of aid. IFIs will face more competitionin response to more aggressive “shopping” forinternational financing by their clients. As a result,IFIs will likely develop more strategic differentiationand become known for being better in someproduct, service or advisory dimensions.

Finally, improvements in I.I. should make animportant contribution to addressing the long termchallenges facing the industry, namely aidfungibility, debt, corruption, private sectorfinancing, and – perhaps to a lesser extent – trade.

‘Bottom up’ country studies: In order to validate the somewhat controversialfinding – that demand side improvements are thekey to reforming the aid industry – we have soughtto complement the “top down” analysis with an“on the ground”, first hand assessment of thereality of development aid in a sample of countries.We have selected 8 countries for detailed analysis,chosen to reflect a mix of successful andunsuccessful reformers, of geographic regions, andof population sizes. The country studies reveal amarked difference between the I.I. ratings achievedby successful and unsuccessful reformers, whichprovides empirical confirmation of the connectionbetween the quality and solidity of a country’s I.I.with its development performance. Furthermore,the biggest differential generally lies in themanagement ratings, which underscores howeffective management is a key distinguishingfeature of the successful reformers.

It is difficult to infer causality from the apparentconnection between I.I. and performance. However,a more detailed look at the individual case historiesof surveyed countries brings this connection to life.

Amongst the countries analysed, Malaysia emergesas the most compelling case example of thebeneficial impact of I.I. on development. Itsdevelopment performance has been an unqualifiedsuccess: GDP growth has averaged 7% p.a. overthe past 30 years, unemployment and inflationremained at 3.1% and 1.6% in 2000 respectively.Poverty eradication has been achieved with theproportion of households below the poverty linedropping from almost 50% in 1970, to 7.5% in1999, and on track for 0.5% by 2005. The country’strade structure has been transformed from anagriculture/extractive economy to a manufacturingand services one. Malaysia is the only country in thesample whose I.I. meets requirements on everydimension, while achieving world-class standards inits public administration and macro-economicmanagement. These observations, of course, do notconstitute a wholesale endorsement of every aspectof Malaysia's development policies.

Poland and Trinidad and Tobago share similarattributes in that both countries have broadly soundI.I. – particularly in terms of rules and policies and interms of institutions – and both have enjoyedgenerally successful economic development.However, both countries fall short of their fullpotential because of insufficient managementcapacity. Poland can, generally speaking, be

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considered a success story created in a short 10-yearperiod. However, its development has not reachedall parts of society, mainly because of managementconstraints at the public administration level whichare also beginning to undermine the ability of thecountry to absorb EU funds effectively. In Trinidad &Tobago, poor implementation capabilities due topatronage and under-resourcing have underminedthe country’s ability to effectively tackle poverty.Both examples illustrate how insufficientmanagement capacity can undermine an otherwisestrong Institutional Infrastructure.

The remaining countries in the sample – IvoryCoast, Morocco, Pakistan, Peru and Uganda –present very different case histories. They share thecommon trait, however, of having failed to achievetheir development objectives, despite significantamounts of aid, largely because of inadequacies intheir Institutional Infrastructure. Most of thesecountries have clear areas of strength. For example,Peru has recently reformed its customs authorities,which have now become a world-classorganisation. The central bank of Pakistan is a well-respected institution, whose operations andsupervisory functions have been substantiallyenhanced in the past 10 years. Uganda’s ministry offinance is highly effectively managed by a smallcadre of professional technocrats. In each case,however, these strengths are fully offset byweaknesses in other areas of InstitutionalInfrastructure, which highlights the criticalimportance of achieving satisfactory levels ofperformance in every aspect of the I.I. framework.

In summary, the impact of I.I. on aid’s effectivenesscan be illustrated by the mechanics of the majorcomponents of I.I. – policies, structure andmanagement. Government policies affect aid in twoways: first, macro-economic policies define thecountry’s fiscal balance and the sustainability of itsexpenditure plans. Secondly, sector policiesdetermine how effectively resources are divided.Structures define design and implementationcapacity, which has a direct impact on theeffectiveness of aid. A survey of World Bankfinanced projects in countries with capableinstitutions had an 86% success rate – as comparedto an average success rate of 68%. Finally, asdiscussed previously, management has perhaps themost dramatic impact on effectiveness, as skill gapsin key areas can weaken budget execution andprogramme implementation. As the third mainactor in the development arena (with thegovernment and private sector), Civil Society – aconcept still undergoing conceptual research –should be given a proactive role in the developmentof policies and innovative ideas, and in theimplementation of programmes, particularly thoserelated to poverty alleviation.

IMPROVING THEEFFECTIVENESS OFINSTITUTIONALINFRASTRUCTURE

Developing a programme to improve themanagement of I.I. involves drawing specific lessonsfrom the experience of the 8 countries reviewed,synthesising these lessons into a simple yetcomprehensive action programme, and articulatingclear steps to ensure that action is taken. In

addition, some changes would have to take placeon the supply side to complement and facilitate theaction programme. In that respect, preliminary ideasare also highlighted as considerations for furtherwork.

Lessons from country studies: Although there is no perfect model that can beapplied to any situation, several lessons – we haveselected 15 – can be learnt from the Malaysianexperience about implementing an I.I. reformprogramme. These range from broad-basedthemes, such as creating the foundations for stronggovernment, to more tactically oriented ideas, suchas learning to manage crises. These lessons willneed to be adapted and modified to suit local socio-political and cultural realities, but provide a richmenu of detailed actions – 4 or 5 for each lesson –resulting in a close to 60 point comprehensiveprogramme to improve I.I.

In addition to the lessons gleaned from Malaysia’sexperience, similar conclusions can be drawn fromthe wider sample of 7 other countries that eitherreinforce and/or present a different perspective onthe lessons already noted in Malaysia. Between all 8countries, ten common themes emerge that couldbe construed as some sort of guiding principles forimproving I.I.’s management.

Finally, specific positive lessons can also be drawnfrom the evolution of the individual countries,irrespective of their performance and success.Indeed, even countries that have not beensuccessful in their economic performance or inbuilding efficient I.I. have something positive tooffer in their experience that can be of potentialinterest to other countries. The study defines afurther ten examples of such interesting positiveinitiatives which could be considered by any LDCwishing to improve its I.I.

We acknowledge that these many lessons will needto be tailored to the specific circumstances ofindividual countries, but they nevertheless provide arich menu of I.I. best practice.

Actions to enhance the management of I.I.: As a result of our analysis above, our conclusion isthat it is the operational management of I.I. that isthe main determinant of successes in aid finance.Improving the operational management of the I.I. ina country is intended to enhance the ability of acountry to ‘consume’ aid finance productively.Hence all related and complementary efforts madeso far will only provide true value if the operationalmanagement of I.I. receives equal improvementefforts. It is that aspect and that aspect alone thatthe following recommendations focus on.

Five action programmes are proposed whichdevelop the key I.I. themes of governance, publicadministration, project preparation and financing,implementation effectiveness and poverty reductionand social stability. They represent ultimateobjectives to be achieved by, ideally, all LDCs overtime.

1. Improve governance to international"benchmarks", which will require action at threelevels: government, business and consumers. Thegovernance of government will require theimplementation of far-reaching democratisation

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at national, regional and local levels. Thegovernance of business needs a programme ofimprovements dealing with accounting anddisclosure standards, monitoring andsurveillance, director skills and responsibilities,minority shareholders rights, and intellectualproperty rights. New legislation and newinstitutions will be needed to introduce andmonitor these changes. Linked to this, trainingfor directors and broad watchdog/supervisionroles will need to be developed. Finally,appropriate legislation on consumer rights,protection and complaint procedures will beneeded to provide “governance” to consumertransactions. A transparent and efficient customsand excise mechanism is an important element inthis equation.

2. Create a world-class public administration,with the aim to get every public body in theborrowing country to be accredited with ISO9002 or similar. This will require action to buildskills based on a professional recruitment processand appropriate compensation policies, with highquality staff attending compulsory training andcontinuously upgrading their skills. This isimportant throughout the machinery of publicadministration, though skills should especially bebuilt at the local level in order to allow devolutionof decision-making and administration to workeffectively. Corruption will need to be tackled bya well-resourced and independent anti-corruption body with international support.Ideally, this should implement “principle-based”anti-corruption measures and not restrict itself to“rule-based” anti-corruption processes – i.e. itshould follow the “spirit”, rather than just the“letter” of anti-corruption measures it seeks toimplement. A service culture will need to befostered by defining performance standards inpublished “charters” or similar, and by widelyemploying IT to boost efficiency and servicelevels. There should be continuous efficiencyimprovement programmes using businessprocess re-design techniques. Finally, a “checksand balances” financial system should bedesigned which separates the power to raiserevenue from the power to approve expenditure.Approvals of expenditure should be based ondemonstrated success with implementation.

3. Build a sophisticated project development andfinancing system. The specific objective is tocreate a high-quality set of project financingproposals based on the country’s own analysesand project preparation skills. As before, this isunlikely to be achieved by a single action. Thiswill require a well-defined planning machinerywith institutionalised organisations, analysiscapabilities, and procedures involving the highestlevels of Government and also involving anintense dialogue with all economic agents,especially labour and employer organisations.Linked to the planning system, a high qualityproject preparation capability for analysingeconomic priorities and needs will need to becreated. This must include project design andfeasibility analysis. A set of prioritiseddevelopment projects with full documentation(feasibility analyses, financing requirements andplanning etc.) will need to be established to serveas a “common” set of project financingrequirements in dealing mainly with international

aid financing institutions, but also with theprivate sector (foreign and local). The existence ofsuch an annual list will also make co-ordinationeasier, though this may require a dedicated co-ordination unit of some kind. Finally, recipientswill need to develop the ability to “shoparound”, evaluate, and compare the variousofficial and private financing possibilities in orderto select the best financing for a particularproject. The well-known concept of the “one-stop-shop” should be re-visited as a vehicle forattracting private FDI efficiently.

4. Improve implementation capabilities, both toenhance the impact of development projects andto improve the chances of further finance. Thiscan be achieved by creating several programmesthat collectively drive implementationeffectiveness. First, if they don’t already exist,specialised agencies should be created whosepurpose is to avoid implementation activity bythe public administration, and to assign such“operational” tasks to specialised agencies thathave the skills and operating culture for projectimplementation. Recruiting the right calibrehuman resources for these implementationagencies will mean selecting a different profilefrom the typical public administration/civil servantprofile. Second, an Implementation Co-ordination Unit, or similar, should be createdwhich independently monitors all aspects ofimplementation progress. Ideally this should beas quantified as possible. This unit should also becharged with the special responsibility to reducered-tape related to implementation (e.g. thenumber of licences needed). Third, a “strategicvision” should drive re-structuring reforms andhigh-quality supervision in the banking sector sothat it is truly an efficient counterpart tospecialised long-term aid finance. This willtypically involve reform programmes withinfinancial institutions (e.g. products, services,efficiency and IT); of the institutional system (e.g.mergers, consolidation, bad debt clean-up via“hospital” banks); and of the supervisory rolesand effectiveness (e.g. issues like having aconsolidated supervisor, issues like the balancebetween on-site/off-site supervision). Fourth,ownership and commercial rights should beclearly defined in law and dispute resolutionprocedures should be affordable and rapid. Theprocess of establishing a “corporate” legal entityin order to start business should also be as easyand fast as possible and a low-capitalisationoption for small businesses should also beavailable.

5. Design and implement an effective povertyreduction programme to secure social stability.Poverty reduction is widely accepted as theparamount development objective. This is notonly for the readily obvious humanitarianreasons. There are economic reasons too. If it isnot achieved and groups in society do not sharethe fruits of successful development, continuinginequalities and poverty will act as a destabilisingforce and ultimately undermine the successes ofdevelopment. The lessons of the countriesreviewed in this report, and of Malaysia inparticular, suggest three pillars which shouldboost effective poverty reduction. The firstinvolves a link to “local” I.I. management.Poverty reduction is about ideas and reaching the

7

right people as much as it is about resources. Therelevance of local ideas and capabilities to reachthe right target groups will be enhanced byimproved local governance skills, a more efficientlocal public administration and by top qualitylocal project development capabilities. Inaddition, like any private company undertakingdetailed consumer research, the Governmentshould carry out regular and detailed analysis ofpoverty reduction needs by sub-segment. Thisshould emphasise local analysis of local needs.Finally, having an adequate policy environmentfor, specifically, poverty alleviation is a must andpoverty reduction is not a mono-policy campaign.Practical experience shows that Governmentsshould mix several major strands into theirpoverty reduction strategy. These would include:an emphasis on rural development and ruralemployment creation (supporting small holderagriculture is a “win/win” proposition); landreform and development schemes (includingfinancing agriculture development); and thepromotion of village-level civil society. Thesemeasures can help reduce migration to urbanareas which typically swells the poverty problem.All these policies must emphasise localinvolvement and local outreach.

We recognise that such proposals will take time toimplement, but that judicious prioritisation couldyield rapid results in at least some areas. Theintroduction of the concept of sequencing of thesefive Action Programmes for most LDCs would, inour view, start with Action Programme 5 first,followed by Action Programmes 1 and 2 in parallel,followed by Action Programme 4 and then, finallyby Action Programme 3.

These proposals may not amount to a radically newsolution, as the constituent components of I.I. arealready generally well known. There are, however,at least three dimensions that are somewhatdifferent: (i) The focus on elevating I.I.improvements to a priority objective at a globallevel, (ii) learning from tangible, practical experiencein the 8 countries studied, and (iii) animplementation design programme, describedbelow, contributing new ideas to ensure that actiontakes place. As a final thought, novelty is not thekey issue; rather, it is the holistic nature of therecommended programme, of whichimplementation design is a key component. Indeed,successful reform of development aid will hinge lesson the originality of solutions proposed, than on theprominence, energy and commitment devoted tothis change programme.

Putting the plan into action:The action programme is deliberately focused on asmall number of "broad brush" initiatives to ensurethat they are more easily communicated andimplemented. In the spirit of "keeping it simple",the clearer the message, the more institutions andcivil groupings will be enlisted and enthused toparticipate and play their part effectively.

While change management implementation isinevitably a detailed, multi-faceted endeavour, threeingredients will be key to success: a clearly definedmeasurable objective, a means of monitoring andsupporting progress on an international basis, andlocal champions in each country to ‘own’ the

implementation programme. These three keyelements are described below.

Clear objective – the "acquis developpementaire".The five action programmes are designed to moveconsumers of aid finance towards and beyond aglobal I.I. benchmark. This minimum benchmarkcould be known as the "acquis developpementaire"– drawing on the concept of the "acquiscommunautaire" for EU accession – and would bebased on measurable achievements in the five I.I.action programmes. This benchmark would not justact as a means of tracking progress, but would alsoform the basis of a segmentation of recipientcountries, reflecting their ability to translate aidfinancing into sustainable development impact. It isproposed that countries exceeding the "acquis"standard have project and programme financingwidely available and in larger amounts, while thosecountries below the "acquis" benchmark wouldprimarily rely on grants for humanitarian and socialpurposes, while benefiting from larger amounts ofTechnical Assistance (TA) to support their I.I.reforms. This proposal is, of course, very similar tothe distinctions already in existence betweenconcessional and non-concessional financeprovided by the major IFIs, such as IDA and IBRDfunds. The difference is that these are presentlyassigned on per capita income grounds, while the"acquis" would be assigned on I.I. managementgrounds. These approaches are not incompatible,but will require some degree of harmonisation overtime. The concept of the “acquis” goes in a similardirection to what is being considered by the NewPartnership for Africa (NEPAD) concerning theAfrican Peer Review Mechanism (APRM).

International arbiter – "Organisation for theDevelopment of I.I.". Administering the "acquis"benchmark will require an international body todevelop the standard, monitor progress, and offersupport to countries undertaking reform. An LDC"OECD style" organisation specialised in I.I. – theOrganisation for the Development of I.I. (ODII) – isproposed, with all member countries having anequal membership, to ensure its independence.This organisation would have a dual role: as aratings agency for the "acquis developpementaire"benchmark, and as an institute/reference library forexpertise in I.I. programmes. As a convenientsource of high quality, independent knowledgereadily available to member countries, the ODIIwould have the expertise and the resources toprovide on-the-ground technical assistance tomember countries. However, this service would bepurely optional, and many countries could seek toachieve the "acquis" standard on their ownaccord. Concerning the role of civil society, theODII could be a key point of contact for NGOsinvolved in aspects of I.I. reform. These, in turn,could act as a valuable window into localcommunities for observing or supportingimplementation. From an organisationalstandpoint, it could be possible to create the ODIIwithin an existing IFI. However, we believe that thiscould undermine the perception of itsindependence – a critical driver of its success. As analternative, the ODII could reside under the“umbrella” of a more neutral organisation, such asa member of the UN family. In addition toautonomy, the ODII will need to be created to highstandards of professionalism, to establish credibilityamongst demand and supply side constituents.

8

We acknowledge that the ODII concept would be asuseful as it is practical and realistic to implement.Indeed, the operational and organisational details,together with the roadmap to operationalise it,would be the critical factors to establish its validityand suitability to achieve its objectives (and thus,the “test” to really establish the validity of thisimportant recommendation). All of these are yet tobe developed in detail and go beyond the remit ofthis study. It should be mentioned, however, thatthe starting point would be the choice of the typeof institution. Two main avenues appear possible inthat respect: (i) the “political” approach – implicit inour presentation – according to which the attemptshould be made by the sponsor(s) of the concept to“convince” as many – if not all – LDCs as possibleto create ODII while – at the same time – convincingalso the donor community, and the private sectorthat the I.I. rating system would result in adequate– increased – funding for those above thebenchmark. This avenue would result in a “full”ODII upfront but it is likely to take time to launch;(ii) the “business” approach, which would consist instarting ODII as a rating agency for a number ofLDCs which would become the sponsors of theconcept, establish its validity amongst all aid playersand then gradually “invite” other LDCs to join onthe basis of its proven “track record” and benefitsthereto. Obviously, the impact of such ODII wouldbe more limited but it could be launched in arelatively short period of time.

Local ownership – "Council of I.I. Change". Recentefforts at improving aspects of I.I. have sufferedfrom being fragmented and lacking specialist skillsat the country level. For each of the 5 actionprogrammes, five corresponding specialist andhighly empowered positions should be created –thus forming a five person "Council of I.I. Change"(CIIC) in each country. These will act as processmanagers, co-ordinators, experts, and mostimportantly, owners of the "acquis"-based targets.These individuals would draw resources andknowledge from the ODII, and as such, will notrequire dedicated staff – but they will need to besufficiently empowered to instruct ministers anddrive legislation.

This implementation architecture has proposed twonew bodies to spearhead the reform programme:the CIIC leading change in each country, drawingon resources and expertise from the ODII. Thecreation of new institutions presents an opportunityfor a cultural change in how programmes areimplemented, by adopting a decisive, fast moving,results oriented operating culture more commonlyfound in the private sector. This may also requireprioritisation of I.I. programmes with prospects formore rapid payoff, to ensure that "quick wins"further galvanise support and help buildmomentum.

Broader ideas:This study has identified I.I. as a key lever forimproving the effectiveness of aid, and hasdeveloped an implementation programme foraddressing this issue. It is acknowledged that otherfactors contribute to the performance of aid – ofwhich “supply side” effectiveness is amongst themost important. These considerations have notbeen exhaustively analysed, but in the spirit ofcontributing to the broader debate, some initialperspectives on these issues are presented in thisdocument. In particular, it is suggested that IFIscould complement the demand side efforts byaddressing improvements in 3 areas: enhancing theprovision of TA, simplifying their internal processes,and revisiting their historic debts. Specific ideas foreach of these areas are presented in the report.

As a final observation, this report recognises, onceagain, the critical importance of trade liberalisationfor LDCs. In parallel to efforts on the part of LDCsto improve their I.I., the industrialised world willneed to demonstrate continued progress on thiscrucial issue.

In all, the proposed reforms constitute a wayforward that is both wide-ranging and actionable. Ifimplemented, this could have a significant impacton the way development aid is consumed anddelivered so that it meets the challenges of the 21stcentury.

9

OBJECTIVES

To provide the FRIDE Foundation (Fundación paralas Relaciones Internacionales y el Diálogo Exterior)with a high level analysis on the evolution ofdevelopment aid over the past 50 years, an in-depthcase study analysis in specific countries, and anappreciation of how the lessons of the past can helpdefine a better future.

SCOPE

To combine a global perspective on thephilosophical, institutional and operationaldimensions of development aid with a focus on thespecific concrete and practical problems of the pastand the opportunities for the future.

In this context, we define development aid as theprovision of financing and know-how to lessdeveloped countries. This is both broader (andarguably vaguer) than the definitions of aidformulated by OECD and other inter-governmentalagencies. However, it deliberately includes withinthe scope of the study the flows of private sectorfinancing that have assumed increasing importancein promoting growth in the poorer regions of theworld.

APPROACH

DFC approaches this critical issue from theviewpoint of experienced participants and criticalobservers of the development aid “industry” asdefined above. We can therefore draw on ourteam’s first hand knowledge of both publicagencies and private companies operating in all

regions of the world over the entire period,supported by rigorous economic and institutionalanalysis.

Within the context of the Terms of Referenceapproved by FRIDE in October 2001 in Madrid,Phase I of the study (October 2001 – January 2002)addressed four key questions:1. How has aid evolved over the past 50 years?2. Why has it evolved this way?3. How successful has aid been in improving the

welfare of LDCs?4. What needs to be done to make aid more

effective?

Phase II (January – May 2002) tested the validity ofthe Phase I conclusions with a review of the “aidindustry” business dynamics (“top down”) followedby a detailed and on-the-ground study of a sampleof eight LDCs, selected to reflect a mix of countrysizes and a mix of successful and unsuccessful casesfor each major region (“bottom up”) and designedto test the validity of the general conclusionsagainst the concrete record of the selectedcountries.

Phase III (June 2002 – November 2002) integratedthe findings of Phase I and II documents withsubsequent work on the implementation ofimprovements in Institutional Infrastructure,structured around three general questions:1. Why is reform necessary in the aid “industry”?2. What role can Institutional Infrastructure play?3. How can the management of Institutional

Infrastructure be improved and what actions arerequired to do so?

Finally, the Panel of Advisors’ comments werereceived in December 2002 and January 2003.

11

INTRODUCTION

1.1 GROWING COMPLEXITY

1.1.1 Origin, global evolution and major trends

The notion that solidarity among nations isimportant and that therefore rich nations shouldhelp poorer ones is relatively recent. Up to theSecond World War, many of the so-called LDCswere in the hands of colonial powers, particularlythe United Kingdom, the Netherlands, and France.This was mostly true of Africa and Asia, with theexception of China. In the Western Hemisphere, theWest Indies were still colonies of the UK, but nearlyall Latin American countries had gained theirindependence during the 19th century.

The global evolution of aid can be characterised bythree distinct eras: (a) the 40s to early 60s, wherebilateral aid has been dominant; (b) the 70s and80s, marked by the growing importance ofmultilateral aid and by the emergence of policyreform and conditionality; and (c) the 90s,characterised by an increase in private flows and agreater focus on tackling poverty, institutionalcapacity and public goods.

Late 40s to early 60s: bilateral aid dominatesThe post-war years saw the beginning of an effortby wealthy countries (mainly the US) to help poorerones. The focus initially was on rebuilding countriesthat had been devastated by the war. This was to bedone partly through a new multilateral channel: theWorld Bank was created in 1946 1 and most of itsinitial lending was directed towards Western Europeand Japan. Bilateral aid, however, was dominant:the Marshall plan provided the equivalent of some$100 billion in today’s prices, to western Europeancountries, to lay the foundations for recovery,growth, and political stability. 2

Up to the mid- 60s, about 90% of developmentassistance was provided under bilateral channels,with the US accounting for more than 50% of totalassistance over the period. Strategic and securityinterests, linked to the containment of communismduring the Cold War, provided the main motivationfor international co-operation in developmentassistance. There was a progressive realisation thatsome countries could not borrow on commercialterms, which led to the creation of windows for theprovision of concessional aid. These were: the Fundfor Special Operations attached to the Inter-American Development Bank (IDB) (1959), the IDA,attached to the World Bank (1960), and the co-

operation fund of the European EconomicCommunity. The UNDP was also established in 1965through the merger of UN agencies.

Typically, most of the aid provided in this periodtended to concentrate on large infrastructure projectsthat served the bilateral economic interests of majordonors, through procurement. 3 Developmentassistance philosophy at that time tended to believethat investment and growth would “trickle down” tothe poor and create employment and additionalincome. Import substitution policies were also infavour. While the contribution of the private sector todevelopment was recognised – the private sector armof the World Bank (the IFC) was created in 1956 –private flows to LDCs were minimal.

The Pearson Report (1969) 4: This was a major stepin development assistance thinking and would havea lasting influence on the philosophy, structure, andoperating principles of aid. Some of the majorfindings and recommendations of the report were:

• Developed countries had both a moral obligationand self-interest in ”reducing income disparities”in LDCs.

• Aid, trade, and investment policies should beintegrated into a single strategy. The issue ofmounting debt was recognised.

• The primary objective should be to help LDCsgrow at 6% per year.

• This called for a transfer of resources of about1% of GNP from the rich countries.

• Multilateral channels for aid (considered at thattime as more efficient and less politicised thanbilateral ones) should be strengthened and theirshare of aid should increase.

The 70s and 80s: aid expands and diversifiesThe period from the mid-60s to the mid-70s saw arapid growth in development assistance, with theincrease larger in multilateral aid, which increasedfrom under 10% of the total to close to about 40%by 1975 (Exhibit I.1). The concept of burden sharingamong donors became important, at a time whennew donors appeared prominently – Japan, Europe,and oil-producing countries 5. A number of neworganisations were created. Building on the model ofthe IDB, other banks were established either at theregional level (the Asian and African DevelopmentBanks), or at the sub-regional level (CaribbeanDevelopment Bank, West African Development Bank,the East African Development Bank, the CentralAmerican Economic-Integration Bank) or with specific

13

CHAPTER 1:

THE IMPERATIVE FOR REFORM

The global evolution ofaid can be characterised

by three eras: late 40sto early 60s: bilateral

aid dominates; the 70sand 80s: aid expands

and diversifies; and the90s: the post cold war

and increasedcomplexity anddiversification

1 The IMF was also created, but for many years its role remained modest, in part because of the existence of a fixed exchange rate internationalsystem – the gold exchange – until 1972. The IMF started playing a major role in providing BOP support to countries in crisis after the Suezcrisis in 1956, when the UK and France requested its support, together with Egypt and Israel.

2 G. Marshall’s famous Harvard address states that the plan is to fight “hunger, poverty, desperation and chaos”. The longer-term goals ofstability and growth were also clear, and to some extent may have reflected the need to ensure security in the face of a growing Soviet threat.

3 According to the World Bank, 80% of all lending to developing countries by the World Bank over 1948-1961($2.9 billion) was for power andtransportation. Over the same period the World Bank lent $1.7 billion to developed countries and $0.5 billion to their African colonies. Indiaaccounted for 22% of all lending to LDCs, and Latin American countries for 40%.

4 The first comprehensive review of the international aid landscape, initiated and implemented under the leadership of Lester Pearson, formerCanadian Prime Minister.

5 Burden sharing in terms of contributions to development aid. The concept now is more used in relation to debt and debt relief sharing.

mandates (the Islamic Development Bank, the OPECfund, the International Fund for AgriculturalDevelopment (IFAD)). Under that model, there was apyramid of banks at the global, regional/sub-regionaland local levels that specialised either on ageographical basis, or in a particular sector (at thelocal level mostly). To different extents, theseinstitutions provided funding on commercial terms oron a concessionary basis, through special windows.

Under MacNamara’s leadership at the World Bank,a new focus on anti-poverty programmes wasdeveloped, and financial assistance shiftedprogressively toward agriculture and the socialsectors (Exhibit I.2).

The oil shocks of the 70s and the debt crisis of the early80s 6 led to a greater emphasis on the policyenvironment for resource allocation. In particular,lending for structural adjustment started, and donorsstarted progressively attaching policy conditionality to

their funding at the sector or country level. The IMFcreated its Structural Adjustment facility and agreementwith the IMF on a macro-economic programme startedbecoming not only the sine qua non for balance ofpayments support by the donor community, but alsothe barometer of the macro-economic health of acountry for both public and private lenders.

At the end of the 80s, the organisation andstructure of aid had become very complex, fundingmechanisms and aid instruments had expanded anddiversified, and the role of the IMF and the WorldBank had substantially increased (Exhibit I.3).

In terms of aid philosophy, some consensus had

progressively evolved that a combination ofadequate macro-economic policies and particularattention to specific sectors/aspects/people (the so-called Washington consensus) 7 would allow forsustained growth and balanced development.

14

% o

f to

tal b

ilate

ral

ALLOCATION OF ODA PRODUCTION & SOCIAL SECTORS

Source: OECD DAC Online Database

Exhibit: l.2

Social Production

60.0

50.0

40.0

30.0

20.0

10.0

0.0

1970 1980

YEAR1975

6 Mexico defaulted in 1982 on its commercial borrowings, which triggered an international debt crisis, and led to a substantial reduction inprivate commercial flows to developing countries overall, and the beginning of a concentration of these flows.

7 Term coined by John Williamson – there were 10 elements: fiscal discipline, a redirection of public expenditure priorities towards fields offeringboth high economic returns and the potential to improve income distribution (such as primary health care, primary education, andinfrastructure), tax reform (to lower marginal rates and broaden the tax base), interest rate liberalization, a competitive exchange rate, tradeliberalization, liberalization of FDI inflows, privatization, deregulation (in the sense of abolishing barriers to entry and exit), and secure propertyrights.

% s

har

e

SHARE OF MULTILATERAL & BILATERAL ODF


Exhibit: l.1

Multilateral Bilateral

120.0

100.0

80.0

60.0

40.0

20.0

0.0

1960 1970 1975

YEAR1965

The oil shocks of the70s and the debt crisisof the early 80s led to agreater emphasis on thepolicy environment forresource allocation. Inparticular, lending forstructural adjustmentstarted, and donorsstarted progressivelyattaching policyconditionality to theirfunding at the sector orcountry level

The 90s: the post cold warThe 90s saw a continuous reduction in public aid,in the proportion of the GNP of developedcountries and consequently in the volume of aid.This was caused by a number of factors. First, withthe end of the cold war, the geopolitical objectivesof aid did not have the same importance, andsubstantial resources were reallocated to assist thetransition of the centrally planned economies ofthe former Communist Bloc. Second, there wasthe beginning of an “aid fatigue” in many donorcountries, with some realisation that effectivenessof aid had not improved much while thecomplexity of development was becoming moreapparent. Third, with rapid liberalisation of tradeand financial flows, private flows increased veryrapidly and largely exceeded public-aid flows.Finally, many countries had developed anunsustainable debt burden and the focus in many

cases was on debt reduction rather than financingnew investment.

Exhibit I.4, below, illustrates the major trends inbilateral and multilateral official developmentfinance (ODF), while exhibit I.5 highlights the shiftfrom public to private flows over the past 3decades.

At the same time as public-aid flows reduced(while the number of recipients had increased) thecomplexity of aid increased further. With therealisation that institutions were important fordevelopment, a new focus was added. Publicgoods also appeared as being very important(health and fight against infectious diseases,protection of the environment). Poverty becamethe overarching objective. The number ofinstitutions involved in aid did not decrease – in

15

%MULTILATERAL DEBT BY INSTITUTION

Source: World Bank and IMF

Exhibit: 1.3

Word Bank RDBs

100%

90%

80%

70%

60%

50%

40%

30%

20%

10 %

0%19851980 1990 1995 1996 1997 1998 1999

EU IMF Others

The 90s saw acontinuous reduction in

public aid, in theproportion of the GNPof developed countries

and consequently in thevolume of aid

NET Official Development Finance (ODF)Amounts received 1970s 1980s 1990s 1990-1994 1995-1999 2000

$bn 1999Net ODF 57.0 76.3 73.5 76.5 70.5 57.1

Net Official Dev. Assistance (ODA) 43.4 57.1 56.9 62.1 51.6 52.8Other Official Flows (OOF) 13.6 19.2 16.7 14.4 18.9 4.3

Bilateral 30.3 42.4 47.8 50.6 45.0 33.2ODA 24.4 35.2 39.2 42.7 35.6 37.4OOF 5.9 7.2 8.6 7.8 9.3 -4.2

Multilateral 15.9 26.0 24.0 23.3 24.7 23.8ODA 9.8 14.6 16.1 16.9 15.3 14.6OOF 6.1 11.4 8.0 6.5 9.5 9.2

Other Non-DAC donors 10.8 7.9 1.7 2.6 0.8 0.1ODA 9.2 7.3 1.6 2.5 0.7 0.8OOF 1.6 0.6 0.1 0.1 0.1 -0.7

BILATERAL AND MULTILATERAL OFFICIAL DEVELOPMENT FINANCE


Exhibit l.4

fact some new organisations were created toaddress specific problems (e.g. GlobalEnvironment Facility, the HIPC 8 trust fund), and todevelop specific regions (e.g. the European Bankfor Reconstruction and Development – EBRD). Atthe same time, fora for a co-ordination of reducedfinancial support developed further, with the G7as supreme body at the top and a number ofmechanisms put in place at the country level. Newinstruments were created by aid organisations toeither facilitate private flows (e.g. partial riskguarantees), to adapt the menu of lending choicesto various situations (e.g. Learning and InnovativeLoans, Programmatic Adjustment Loans by theWorld Bank), or to facilitate debt relief. Toencapsulate both the development objectives andplans of a country, and facilitate the dialoguebetween “partners” and the co-ordinatedprovision of aid, strategic documents were refined.Two new documents were also added: theComprehensive Development Framework, and thePoverty Reduction Strategy Paper (PRSP) that isneeded for countries eligible for debt relief underthe HIPC scheme.

Finally, with the end of the Cold War, there was a

major realignment of the respective roles of thepublic and private sectors in many countries. Non-governmental organisations (NGOs) became auseful (and at times, vocal) instrument for the civilsociety to participate in public affairs wherever thegovernmental institutional setup and policiesfailed to adequately address issues of importanceto society.

Therefore at the beginning of the new millennium,the landscape of aid institutions is even morecomplex. Their menu of instruments has expandedconsiderably and new actors have appeared on thescene. The complexity of development is evenmore pronounced and debt has become a majorproblem for many countries. Flows of public aidhave decreased substantially, while private flows,after a surge in the mid-90s, are now concentratedon a few countries.

The remainder of this section summarises the keytrends that have characterised the evolution ofdevelopment aid over the last half century. Threemajor trends emerge, regarding (a) the evolutionof net flows; (b) debt restructuring; and (c) thedistribution of aid by region.

16

TOTAL PRIVATE & PUBLIC FLOWS

500.0

400.0

300.0

200.0

100.0

0.0

198819731970

$bn

199

9

Source: World Bank: Global Development Finance

Exhibit l.5

1976 1979 1982 1985 1991 1994 20001997

Total Private Flows Total Public Flows

year

Today the landscape ofaid institutions is evenmore complex. Themenu of instrumentshas expanded and newactors have appeared onthe scene. Thecomplexity ofdevelopment isintensified and debt isnow a major problemfor many countries

PRELIMINARY OBSERVATIONData on both public and private flows are extensive, but very hard to reconcile. This is partly becauseof different definitions between institutions collecting and using these data and because of changesin definitions over time. It is also partly because some of these flows are difficult to identify, capture,or segregate (e.g. flows for civil versus military uses), or because debt restructuring may or may notbe included. Also, many LDCs do not have well-established data. Sometimes it is difficult to reconciledata from creditors and those reported by debtors. 9 The OECD database is good for bilateral aid andfor ODA 10 but does not seem to capture the multilateral flows as effectively. Generally, it is possibleto have a relatively clear picture of public aid, which is normally scrutinised by representatives oftaxpayers. For private flows, discrepancies between various public and private organisations can behuge, which makes analysis very difficult. For example the Institute of International Finance reportsnet private flows of $173.1 billion in 2000, the World Bank (Global Development Finance) reports$248.7 billion, and the IMF (World Economic Outlook) reports $5 billion of net capital flows for thesame year. The major differences relate to debt flows, not FDI. After much scrutiny and research, wehave decided to use primarily the World Bank data from Global Development Finance, which is basedon data submitted by the country, while also sourcing data from the OECD for bilateral information.Data have to be interpreted with a great deal of caution, while trends are easier to capture.

8 HIPC – Heavily Indebted Poor Countries. This initiative aims at reducing by up to 80% debt service of these countries, provided they prepareand implement steadily a programme of reform and adjustment.

9 See Appendix A.1.10 ODA – Official Development Assistance – grants and concessionary funding.

Evolution of net flowsExhibit I.6 shows that private flows have largelyexceeded public flows since the mid-90s. They werebelow public flows in the 80s, were about 50%above in the early 90s, and now appear to be 4 to5 times larger.

The distribution of flows by region (see tables 1 to6 in Appendix A.2) shows, however, that the pictureis very different by region, and that the distributionacross regions of public flows is much morebalanced than that of private flows. Three quartersof private flows are directed to Latin America andEast Asia (vs. 41% for public flows), and more than90% to these two regions plus Europe and CentralAsia (vs. 64% for public flows). This is true not onlyfor net volumes of flows, but also in relation to theGDPs of the countries. Typically, net private flows toEast Asia and Latin America have been around 4-

6% of GDP in the mid-90s, as compared to 1-3% inthe other regions. The other main features are:

On the public aid side• Public aid grew up to the early 90s – to $86

billion on average in 1990-94, and has decreased

since. The 2000 level, at $42 billion, is the lowestsince the 60s. 11

• Multilateral flows are now the major source ofnet public debt flows. Bilateral debt flows werelarger than multilateral debt flows up to the 80s,and are now negative on a net basis, though theyremain important on in gross terms.

• Public grants and funding for technical co-operation are now the largest component of aid– they were two thirds of flows in the late 90s, ascompared to about 40% in the 70s. (Exhibits I.6and I.7)

17

Private flows havelargely exceeded public

flows since the mid-90s.They were below publicflows in the 80s, about50% above in the early90s and now are 4 to 5times larger but they arenow concentrated on a

few countries

Net Disbursements1970s 1980s 1990s 1990-1994 1995-1999 2000

Public $bn 1999Multilateral Long-Term (L-T) debt 9.6 18.0 17.4 15.9 18.9 10.0

Bilateral Long-Term (L-T) debt 16.9 20.3 5.2 12.2 -1.8 -2.3Total 26.5 38.3 22.6 28.0 17.2 7.7

Grants 16.6 22.6 33.4 36.9 29.9 28.6Technical Co-operation 9.6 13.6 18.9 19.6 18.2 16.5

IMF 2.1 3.3 5.1 1.8 8.3 -10.4Total Public 54.7 77.8 79.9 86.3 73.6 42.5

PrivatePrivate creditors 36.8 39.7 24.1 18.0 30.2 23.5

PNG 13.2 5.6 32.3 22.1 42.5 6.7FDI 11.7 18.7 110.9 61.6 160.3 172.2

Portfolio Equity Flows 0.0 0.9 30.2 25.8 34.6 46.3Total Private 61.7 64.8 197.5 127.4 267.6 248.7

NET DISBURSEMENTS OF PUBLIC AND PRIVATE FLOWS

Source: World Bank: Global Development Finance 2001

Exhibit l.6

FUNDS FOR PUBLIC GRANTS & TECHNICAL COOPERATION

120.0

100.0

80.0

60.0

40.0

20.0

0.0

198819731970

% t

ota

l pu

blic

flo

ws


Exhibit l.7

1976 1979 1982 1985 1991 1994 20001997

Public Grants Technical Cooperation

year

11 Partly because of substantial repayments by Korea to the IMF.

• The analysis of gross flows (see table 7 inAppendix A.2) and of net transfers (see table 8 inAppendix A.2) shows similar trends. 12

Interestingly, the data available on net transfersindicate that over the last 30 years the flow ofpublic aid has been relatively steady, even thoughit decreased in the late 90s. By contrast, privateflows have been much more irregular. The 70ssaw an average annual positive transfer of about$10 billion of private funds, the 80s a negativetransfer of about $20 billion per year, and the 90spositive net transfers of about $120 billion.

On the private side• The largest component of private flows is foreign

direct investment (FDI) that has grown fromabout $10 billion annually in the 70s to morethan $150 billion per year in the mid 90s.

• FDI appears to be more resilient to crises thanprivate debt flows. They have been, however,substantially related to privatisation programmes.With the first wave of privatisation accomplished,perhaps these flows may not continue at thathigh level in the future.

• As indicated above, private flows are heavilyconcentrated on two regions. Within theseregions there is also significant concentration ona few countries.

Debt restructuringDebt restructuring influences the picture of flows toLDCs. According to data from Global DevelopmentFinance, since the 1980s the proportion of debtservice that has been rescheduled annually hashovered around 10-15% for both public and privatedebt. This is not too surprising as in principle privateand public debtors are to be treated equally in caseof debt rescheduling or restructuring. As aproportion of the stock of debt, this figure is around

2%. This global picture masks huge differencesbetween countries. Some of the largest borrowersof multilateral institutions (China and India) neverwent through any restructuring. By contrast smallerpoorer countries mostly in Africa have regularlygone through restructuring exercises (mostly ofpublic debt), and with the HIPC countries up to80% of debt service can be rescheduled. Inbetween, some medium-sized countries,particularly in Latin America, have gone throughdebt rescheduling exercises for a large proportion ofprivate debt, particularly in the “lost decade” of the80s following the 1982 Mexico crisis.

Distribution of aid by regionExhibit I.8 below shows that aid flows are unevenlydistributed among regions. In the last ten years,when the pattern of public and private flowschanged considerably, two regions each receivedmore than a third of private flows, while threeregions received less than 5% of these flows. Bycontrast, these three same regions received 20% ormore of public flows. The contrast is strongest forSub Saharan Africa that received 3% of privateflows, but 26% of public flows. An analysisdisaggregated at the country level would show evenstarker differences.

1.1.2 Main Actors

The previous section described the evolution of theglobal aid industry, which underscored its increasingcomplexity. This section further highlights thiscomplexity by focusing on the fragmentation andproliferation of actors involved in global aid. The listnow includes global policy bodies such as the G7,various multilateral and bi-lateral institutions, and avast number of private investors and NGOs.

18

12 Net transfers are net flows minus payment of interest and charges.

Aid flows are unevenlydistributed amongregions. In the last tenyears, two regions eachreceived more than athird of private flows,while the other threeregions received lessthan 5% of theseflows... but theyreceived 20% of publicflows

1970s 1980s 1990s 1990-94 1995-99 2000 1990sPublic flows (%)

East Asia and Pacific 9.7 11.7 17.2 13.4 21.1 14.9 22%Europe & Central Asia 2.6 3.4 17.0 16.9 17.1 13 21%

Latin America & Caribbean 7.8 14.2 9.00 8.6 9.4 -7.7 11%Middle East & North Africa 12 14.8 7.8 11.5 4.1 3.5 10%

South Asia 9.2 11.3 7.9 10.9 4.9 4.7 10%Sub-Saharan Africa 13.3 22.3 21.0 24.9 17.0 14.0 26%

Total 54.6 77.7 79.9 86.2 73.6 42.4 100%Private flows

East Asia and Pacific 9.4 15.3 75.9 57.8 94.0 78.9 38%Europe & Central Asia 4.3 7.5 28.7 14.3 43.1 43.7 15%

Latin America & Caribbean 37.0 26.7 76.3 43.8 108.7 98.6 39%Middle East & North Africa 5.0 6.0 4.5 3.5 5.5 7.6 2%

South Asia 0.3 4.1 6.4 5.3 7.4 11.8 3%Sub-Saharan Africa 5.9 5 5.8 2.7 8.9 8.1 3%

Total 61.9 64.6 197.6 127.4 267.6 248.7 100%

NET FLOWS – DISTRIBUTION BY REGION, $BN 1999 PRICES

Source: Global Development Finance 2001

Exhibit l.8

Global policy settersOn the public side, the main body delineating broadnew policies or arrangements for aid is the G7 13. Itmeets once a year to discuss the overall economicsituation and prospects for the world economy, andthe kinds of initiatives and/or new policies neededto ensure more growth and stability. This is also theforum where major aspects of aid, debt and tradeare discussed, including the types of globalinitiatives and co-ordination needed to improve theeffectiveness of aid.

Two other organisations play a major role in policyaspects of aid. They are the International Monetaryand Financial Committee (IMFC) and theDevelopment Committee (DC). They each have 24members (typically Ministers of Finance or CentralBank Governors) and meet twice a year to advisethe IMF and the World Bank on critical developmentissues and on resources needed for economicdevelopment. Half of their members are fromindustrialised countries, and the other half fromdeveloping or oil-producing countries. TheManaging Director of the IMF and the President ofthe World Bank attend these meetings.

Multilateral institutions The IMF is clearly the centrepiece for macro-economic and financial stability worldwide 14, and isat the forefront of any programme of reform andadjustment in the developing world that calls forbalance of payments support. It has progressivelyshifted its focus on short-term crisis resolution tosupporting longer-term adjustment programmeswith funding for up to 3 years. In this process it hasequipped itself with relevant expertise within thecontext of agreements with the World Bank thatavoids duplication of expertise and recognises therelative roles and functions of the two institutions.The IMF has responsibility for macro-economicaspects, including the exchange rate, fiscal andmonetary policies. The World Bank is responsible forthe real economy, the social sectors, and theenvironment. The two institutions shareresponsibility for external trade and the financialsector.

The World Bank Group is composed of four mainelements. 15 The World Bank per se is the centre ofexpertise for overall development issues, with bothan operational and research function, and is thefunding arm for LDCs that can borrow atcommercial terms. 16 Its sister institution theInternational Development Association (IDA) ismerely the funding vehicle for concessionarylending, with no staff of its own. The third elementis the International Finance Corporation (IFC), whichdeals exclusively with the private sector (equity anddebt financing, advisory services). The fourthelement is the Multilateral Investment GuaranteeAgency (MIGA) that insures private investors in

LDCs against political risk, and that has experiencedremarkable growth since it was created a little morethan 10 years ago.

The regional development banks. There are four,more or less built under the same model as theWorld Bank but with a specific geographicresponsibility. They all have a private sector windowand a concessionary window, and have much less ofa research/policy function than the World Bank.They are (in historical order) the Inter-AmericanDevelopment Bank (IDB), the Asian DevelopmentBank (ADB), the African Development Bank (AfDB),and the European Bank for Reconstruction andDevelopment (EBRD) – financing primarily theprivate sector. In addition, the European InvestmentBank (EIB) that initially focused on funding the lessdeveloped parts of what is now the EuropeanUnion, is now active in all regions of the world.However, the volume of its financial support (mainlyin favour of public entities) is less significant in eachregion than the respective regional developmentbanks – with the exception of regions on the EU’s“doorstep”. While the share of these institutions inthe transfer of resources to LDCs was less than 10%up to the mid-80s, it has expanded rapidly in the90s. It now accounts for more than 25% of totaldebt owed to multilaterals, and more than half ofthe World Bank’s share (against less than 30% inthe mid-80s – see table 9 in Appendix A.2). Theseshares vary considerably by region. The IDB, theADB, and the AfDB, have signed MoUs with theWorld Bank to avoid duplication of efforts andspecialisation wherever possible.

The decreasing contribution to aid by the UN family:UN specialised agencies 17 have long been a majorsource of grants for LDCs (see table 10 in AppendixA.2). However, their share of multilateral ODA hasprogressively been reduced. At $2.5 billion in 1999,it was less than 20% of that total, compared tonearly 50% in the 70s.

The increasing contribution by the EU group: TheEU has followed a reverse trend. It now contributesabout 35% of total multilateral ODA, compared to20% in the 70s. If one were to include bilateralODA from donors in the EU figures, the total ODAcontribution from the EU would represent about60% of total ODA at present.

Bilateral donorsAlthough the share of bilateral funding in publicfunding of LDCs has declined over time, it is still amajor element at about 60% of the total grossflows (versus 80% in the 70s), though, as discussedearlier, net bilateral disbursements are nownegative. An increasing part of bilateral aid hasbeen channelled through multilateral institutions(33% in 2000 versus 27% in the 80s). In addition,some bilateral donors often co-finance programmes

19

13 US, UK, France, Canada, Germany, Italy, Japan. There are many groupings: the G5, G8 (G7 plus Russia), G10, G15 - altogether 11 groupingswith various memberships and remits, and differing degrees of effectiveness.

14 Contrary to the World Bank, the IMF deals with both developed and developing countries. While there have been few occasions where theIMF intervened financially to help developed countries adjust to crises, it still reviews every year the situation and prospects of all countries inthe world (except, North Korea and Cuba, that are not members of the Bretton Woods institutions).

15 Excluding the International Center for Settlement of International Disputes (ICSID) that is located with the World Bank.16 Only countries below a certain level of income per capita are eligible for concessionary funding. Above a certain level, they can borrow from

the World Bank at commercial terms. In-between are countries that can receive a blend of concessionary and commercial funding. In theWorld Bank jargon, countries can “graduate” and progressively stop borrowing from the World Bank. Over the years, many countries have“graduated”, but some have regressed temporarily (South Korea, Thailand). A number of others, mostly in Africa, that had borrowed atcommercial terms are now only eligible for concessionary funding (e.g. Kenya, Cote d’Ivoire, Zambia, Tanzania, and, outside Africa, Pakistan).

17 UNDP, UNTA, UNICEF, UNRWA, UNHCR, WFP are the major ones.

Bilateral aid is mostlydelivered in the form ofgrants with asubstantial componentfor technicalco-operation. Exceptfor the Netherlandsand Denmark, donorcontributions declinedin the mid-90s, and asa group now consist of0.2% of donors’ GDP– well below the agreed0.7% target

or projects that have been assessed bymultilateral/regional institutions, and thus the truediscrete bilateral funding of development is probablyless than 50% of their commitments. Bilateral aid,defined as originating in one country, 18 is mostlydelivered in the form of grants with a substantialcomponent for technical co-operation. With theexception of the Netherlands and Denmark, allbilateral donors’ contributions declined in the mid-90s, and as a group, they now contribute onlyabout 0.2% of their GDP – much less than thetarget of 0.7 % agreed long ago (Exhibit I.9).

Management of bilateral programmes is conductedthrough a specialised department in the relevantministry (e.g. DFID in the UK) and/or throughspecialised institutions (e.g. USAID in the US, AFD inFrance, KfW in Germany, JBIC in Japan). A numberof countries have established financing institutionsalong the model of the IFC (FMO in theNetherlands, DEG in Germany). Furthermore, mostof them have established an export credit agency

and a risk mitigation institution (e.g. Hermes inGermany, CGCD in Canada, OPIC and Eximbank inthe US, COFACE and BFCE in France, EXIMBANK inJapan, SACE in Italy etc.). As part of theliberalisation of the financial sector in manycountries, some of these agencies were merged ordisappeared, while international rules for the use ofexport credits were agreed upon.

Private flows There is no single institution that dominates privateflows to LDCs in the way that the IMF and theWorld Bank dominate some aspects of public aid.However, various institutions play an important rolein facilitating private flows. The IFC plays a lead rolein facilitating private investment in the emergingmarkets, and MIGA’s insurance operations haveexpanded rapidly. The major international ratingagencies have played an increasingly important rolein the assessment by private investors ofopportunities in emerging markets. In addition, the

20

18 Meaning funding from the European Union is not included, for example.

1970s 1980s 1990s 1990-1994 1995-1999 2000$bn 1999

Canada 1.4 1.9 2.0 2.2 1.8 1.7Denmark 0.6 1.0 1.5 1.4 1.6 1.9

France 3.6 5.9 6.9 7.7 6.1 4.7Germany 4.1 6.1 6.4 6.9 5.8 5.8

Italy 0.7 2.6 2.5 3.2 1.8 1.6Japan 4.8 9.3 11.7 11.9 11.6 13.0

Netherlands 1.4 2.5 2.7 2.6 2.9 3.5Sweden 1.0 1.5 1.7 1.8 1.6 2.0

United Kingdom 3.6 3.4 3.6 3.6 3.6 4.7United States 10.8 12.3 10.5 12.5 8.6 9.8

G7 29.0 41.5 43.7 48.0 39.3 41.3Other DAC donors 2.7 4.9 6.6 6.6 6.6 7.6

Total DAC 34.8 51.3 56.3 60.4 52.3 56.2

% GDPCanada 0.4 0.4 0.4 0.4 0.3 0.2

Denmark 0.5 0.8 0.9 0.9 1.0 1.0France 0.4 0.5 0.5 0.6 0.5 0.3

Germany 0.4 0.4 0.3 0.4 0.3 0.3Italy 0.1 0.3 0.2 0.3 0.2 0.1

Japan 0.2 0.3 0.3 0.3 0.3 0.3Netherlands 0.7 0.9 0.8 0.8 0.8 0.8

Sweden 0.7 0.8 0.8 0.9 0.7 0.8United Kingdom 0.4 0.3 0.3 0.3 0.3 0.3

United States 0.2 0.2 0.1 0.2 0.1 0.1

Other DAC donors 0.3 0.3 0.3 0.4 0.3 0.3

Total DAC 0.3 0.3 0.3 0.3 0.2 0.2

DONOR DETAILS – OFFICIAL DEVELOPMENT ASSISTANCE (ODA)

*Other DAC donors: Australia, Austria, Belgium, Finland, Ireland, Luxembourg, New Zealand, Norway, Portugal, Spain and SwitzerlandSource: OECD DAC online database

Exhibit l.9

There is no singleinstitution thatdominates private flowsto LDCs in the waythat the IMF and theWorld Bank dominatesome aspects of publicaid. However, variousinstitutions play animportant role infacilitating private flows

rapid development of risk-mitigating instrumentsand institutions (both public and private – seebelow) has also helped, while private sectorwindows in multilateral agencies providing equityand term finance to private investors havecontributed much, particularly to those countrieswith limited access to international capital markets.Finally, the existence of well-established exportcredit agencies (e.g. Eximbank in the US) hascontributed substantially to investment and privateflows in the developing world.

To a large extent the steep increase in private flowsto the developing world, in the context of a rapidglobalisation of financial markets, was fuelled by acombination of these and other factors. Returnswere expected to be higher than in the developedworld, where opportunities were also reduced – forexample in the early 90s. As described above, theavailability of risk insurance also helped. Finally,many LDCs had engaged in vast privatisationprogrammes and many had developed recourse toprivate investment for efficiency reasons or becauseof the tightness of their fiscal situation.

A few multinational enterprises may havedominated investment in specific sectors in thedeveloping world (e.g. Vivendi and Suez-Lyonnaisein the water utilities sector, a few US and UKcompanies in energy). Similarly, some banks mayhave dominated some areas (e.g. the Spanish banksin Latin America). However this has not always beenthe case in all regions and sectors. By contrast,private flows are known to have been concentratedon relatively few countries, and selectivity hasincreased dramatically after the East Asian crisis (seetables 11 and 12 in Appendix A.2).

One last observation: Stock exchanges have beenestablished in many LDCs, although in general theircapitalisation relative to GDP remains low comparedto that of stock exchanges in the US or in Europeanmarkets. With the progressive integration of capitalmarkets worldwide, many enterprises in LDCs tendto prefer issuing new stocks or bonds in thedeveloped countries, and thus the New YorkExchange, for example, has become a majorinstrument of long-term resource mobilisation forLatin American enterprises.

The NGOsFrom the perspective of LDCs, NGOs haveevolved from providing a humanitarian functionto a catalytic one in governance and decisionmaking that embraces poverty reduction,environmental sustainability, gender equality, anddemocracy.

The number and influence of NGOs has increased:More than 25,000 international NGOs are inexistence compared to 400 a century ago. NGOs inconsultative status with the Economic and SocialCouncil (ECOSOC) presently number 1,350,compared to 377 in 1968. A prime example oftheir influence has been their role in pushingthrough 22 HIPC (see pages 42 and 91) initiativesat end 2000.

The influence of NGOs has been helped by theirincreasing tendency to organise along commongoals or missions. Examples of such groups includeAFRODAD, the Philippine-based Freedom for Debt

Coalition, Eurodad, the Norwegian Forum forEnvironment and Development. NGOs are alsoaffiliated with the multilateral organisations:

• Two umbrella groups, Conference of NGOs(CONGO) and Department of Public Information(DPI) offer points of interchange between the UNSecretariat and the NGO community.

• The umbrella group for European NGOs is knownas CLONG. In existence since 1975 with asecretariat in Brussels, roughly 80 per cent ofCLONG’s activities are in LDCs.

• The World Bank has long been involved withNGOs. It has engaged with them on discussions ofspecific subjects (e.g. the impact of structuraladjustment programmes – the SAPRI initiative) andhas used them as vehicles for projectimplementation, particularly in the social sectors. Ithas also sought NGO participation in the countrystrategic dialogue to develop programmes ofassistance. Regional Development Banks havefollowed a similar pattern.

The increased pressure on aid budgets and thegrowing demand for transparency have led to closerscrutiny of NGOs. Government commissionedstudies in Australia, the UK and the US found strongevidence to support the positive impact of NGOs onpoverty alleviation, development sustainability andrelief efforts. However, when judged againstbroader criteria, such as effecting social andeconomic changes, the impact of NGOs was weak.

1.1.3 Main Instruments

In addition to the growing number of actorsinvolved in development aid, the global aid industryis further complicated by a fairly recent, and largelypositive, proliferation of instruments. These canbroadly be classified into 5 categories: (a)instruments for dialogue and co-ordination, (b)instruments for debt financing, including comfortinstruments, (c) instruments for debt restructuringand relief, (d) instruments for research and policydevelopment, and (e) procurement systems.

Dialogue and coordinationThe main document is a country strategy paper. It isused to help present a country’s developmentstrategy, the assistance (financial and technical) thata particular institution can provide, and how it co-ordinates with others. Various nomenclaturesprevail across the different institutions, but thecontent is basically the same. The tendency now isto have this type of document prepared inconsultation with all actors and the civil society in acountry. The most elaborate of these documents atpresent is the Poverty Strategy Reduction Paper,which is used to assess eligibility for debt relief bythe IMF, the World Bank, and other donors. Ittypically includes a matrix of policy measures thatthe country plans to take to reform and grow.

This document, together with economic analyses ofthe country, is used by both recipients and donorsto discuss the country’s main development issues,prospects, and needs for assistance. This discussiontakes place generally once a year 19 for mostcountries in a forum often called the consultativegroup meeting – although it can be calleddifferently depending upon the organiser(s) 20.

21

Debt instrumentsOver time, the multilateral and bilateralinstitutions have developed a wide menu offunding instruments adapted to the nature of theprogramme funded, the creditworthiness of thecountry concerned, and the kind of currency andterms that the borrower may prefer. Broadly, thereare now loans to support policy reform at thenational or sector level, loans to supportinvestment, modernisation and institutionaldevelopment at the sector or individual projectlevel, and loans to fund technical assistance andcapacity building. 21 Loans can be made at quasi-commercial terms for those countries consideredcreditworthy for such treatment, and theborrower may or may not have the choice ofcurrency (ies), or of the term (fixed or variable).For non-creditworthy countries, loans (credits) aremade at much longer-term (20-50 years) atconcessionary rates, out of resources generallyprovided by grant subscriptions by donors.Sometimes, grants are also used.

In the last 10 years, aid agencies have alsodeveloped comfort instruments to facilitateinvestment and flows by the private sector inLDCs. The most frequently used instrument issyndication by an agency of a private loan for aprivate sector project. This permits the lenders tobenefit indirectly from the preferred creditorstatus that the agency enjoys. Other instrumentsare typically partial risk guarantees by aidagencies for private funding of projects in LDCs –this has not been much developed. The morerecent development and the most successful hasbeen the provision of insurance against typicalpolitical risks incurred by private investors in thedeveloping world, by MIGA. While political riskinsurance is generally available from private orpublic insurers – and the development of thatmarket has been considerable in the mid-90s –MIGA plays a useful role in that it does notduplicate these private providers. Instead, MIGAfocuses on projects and countries that normallycould not benefit from private insurance, but mayassociate with private insurance providers indoing so.

Debt restructuring and reliefDebt restructuring has a long history. With thegrowing problems associated with LDC debt inthe last 50 years, new instruments forrestructuring were added. Since 1956, the maininstrument for restructuring the public debt ofLDCs has been the Paris Club. 22 Its role is to co-ordinate sustainable solutions for paymentdifficulties experienced by debtor countries,through postponement and reduction of debtservicing for public and publicly guaranteed debt.Since 1983, 344 agreements with the Paris Clubwere reached for a total of close to $400 billion.In parallel to the Paris Club, there is a LondonClub 23 that meets to reschedule debt owed toprivate creditors. Following the Mexico crisis in1982, another instrument – the Brady Plan – was

added to help debt and debt service reduction forthe private debt of LDCs. Today Brady-typerestructuring has been implemented in more than15 countries, resulting in a volume of more than$150 billion in Brady bonds. The latest instrumentfor public debt relief is the Highly Indebted PoorCountries Initiative (HIPC). The HIPC was launchedby the World Bank and the IMF in 1999 to provideup to 80% relief to poor countries facing seriousdebt problems, when traditional debt reductionschemes were not providing a sustainable debtworkout solution.

In all cases of restructuring of LDC debt, anagreement with the IMF on a suitable adjustmentand reform programme is necessary. One issuethat often complicates a debt workout is theburden sharing between public and privatecreditors. The principle is that there should besome equality of treatment between the publicand private creditors, but there are difficult issuesregarding certain types of debt (e.g. bonds issuedby the country).

Research and policy developmentTypically, all aid agencies have a wing for researchand policy that analyses both countries’ receipt ofaid and the development of operations in the aidagency itself. The tendency has been to do muchmore research on a collaborative basis withuniversities or practitioners, and to exchangeinter alia experiences and best practices. With thedevelopment of information technology, thisaspect of aid agencies is developing rapidlythrough traditional research, throughpartnerships with academia and the privatesector and through conferences. Also allmultilateral and regional banks have trainingcentres that allow for a more direct exchange ofexperience.

ProcurementThere are two aspects worth mentioning. First,procurement for projects/programmes funded byaid agencies is usually done under the form ofcompetitive bidding, to get the best qualifiedresponse at the lowest cost possible. Recipients ofaid handle procurement, and aid agencies onlyverify that the procurement rules have beenfollowed. As typically aid agencies fund only aportion of the cost of a project, the total amount ofcontracts put for bids is a multiple of the fundingagreed and thus the total amounts can be huge.There has been some movement recently in someagencies to decentralise responsibility forprocurement to the field (sometimes as part of amore general decentralisation drive), and thisshould be monitored to ensure that it does notaffect the effectiveness of the procurement process.

The second aspect relates to “tied procurement”.Typically, many bilateral agencies have preferredthat the use of their funding be reserved for theirnationals. The tendency has been to try to

22

19 Small and indebted countries go through this kind of exercise. Larger countries (India, China etc.) generally avoid them. 20 It can be the country, the World Bank, the UNDP, or other donors (e.g. the EU, or a Regional Development Bank).21The variety of loans is expanding fast. Following the Asian crisis, the IMF and the WB introduced some kind of quick-response loans for crisis,

or anticipated crisis situations. The WB has loans for innovation, learning, sustaining over time a series of reforms. 22 Called Paris Club because it meets in Paris under the chairmanship of the French treasury.23 It typically meets in London under the chairmanship of the bank with the largest debt.

progressively reduce this “tied procurement” as itaffects the overall effectiveness or procurementbecause of limited competition. Some progress hasbeen made, but much more is needed.

1.1.4 Business Segments

The previous sections have underscored thegrowing complexity of the international aidlandscape by charting its evolution over the past sixdecades, and describing the expanding set of actorsand of financing products. This final sectionsynthesises the interplay of actors and products tocharacterise the aid industry by its componentbusiness segments (segmented by customer needs).This additional perspective helps better analyse theunderlying trends and behaviours of the industry,and is also a starting point for the structural analysisundertaken in Chapter 2.

The combination of players and products describedearlier results in five business segments, of whichthree are in the public part of development aid, andtwo in the private domain. As with allsegmentations, some degree of overlap betweensegments remains, though the overall approachprovides useful working distinctions between themain categories of users.

A comparison of some of the key parameters, suchas age, growth, or key drivers, begins to explain thebehaviours encountered in these sub-businesses.This analysis can be summarised in the followingtable.

Exhibit I.10 provides the basis for two hypotheses.The first hypothesis is that the main historic growthof the development aid industry originated in twokey business segments, the structural support andproject finance segments. These are now both

becoming relatively mature and are suffering fromvarious structural issues in their business drivers.These issues are, in turn, reducing the twosegments’ rate of growth. The second hypothesis isthat the other segments do not have the businessdynamics to offset the slowdown in the structuraland project finance segments. These other businesssegments are susceptible to the economic cycleand/or other random events, and in the case of theNGOs have hitherto not had the financial resourcesto match the project finance and structural lendingsegments.

Another way of looking at these hypotheses is thatthe various segments of the development aidbusiness are at different stages of the “life cycle” ofbusiness maturity. The structural and project financesegments are considered relatively mature while theNGO segment is younger and growing. The othertwo segments, FDI and emergency aid, are volatileand move with the economic cycle and the need foremergency relief, as well as other variables.

The two business segments in the mature part ofthe life cycle are slowing down, and in order togrow again they need to re-define their businessdynamics. So far, it is not evident exactly what formthis re-definition will take. The key components ofthat re-definition depend on an assessment of theirstrategic performance to date, as well as anassessment of their markets’ needs going forward.

In summary, the growing complexity ofinternational aid described in the previous sections

is one of the key reasons to undertake afundamental reassessment of the industry. The nextsection argues that in addition to becoming morecomplex, aid has also had a mixed track record inachieving its development objectives.

23

24 Of course these are strong generalizations applying to the bulk of activity in the business segment. Exceptions can be found; for examplevarious churches were active in their version of development aid from the 1600s onwards in colonial environments, and similarly old tradingcompanies were providing FDI in that period.

25 Again this applies to the total and not individual suppliers within the business category.26 This category is intended to capture the most basic social requirements of an LDC’s population, and would likely include healthcare, primary

education and rural development infrastructure, amongst others.27 This segment differs from Specialised Support in both scale and objectives. Projects in this segment are clearly focused on more advanced,

generally commercial applications (eg: major infrastructure works, industrial projects, etc.)

CHARACTERISTICS OF DEVELOPMENT AID BUSINESS SEGMENTSExhibit l.10

Business segment Age24 Drivers Growth rate25 Significance

Specialisedsupportfor basic needs26

Young(10-15 years)

Direct, close NGO &sub-sovereign

interactionRapid and recent

Influentialbeyond “dollars”

provided

Emergency aid Medium/old(30-40 years)

Natural disasters,epidemics, conflict,

droughtand others

Fluctuates withneed & disasters

Short-term“high”

according toneed

Structuralsupport

Medium/old(20-30 years)

IFI & Governmentpolicies

Slow/medium Moderate

Project finance27 Old(50-55 years)

Project supply Slow, almoststatic

Declining

Directinvestment

Medium/young(15-20 years)

Economic cycles Volatiledepending on

cycles

Recently highand visible

The growth ofdevelopment aid wasdriven by structuralsupport and project

finance, two maturesegments whose

business drivers sufferfrom structural issuesthat now reduce their

growth rates. The othersegments do not havethe business dynamics

to offset this slowdown,and are susceptible toeconomic cycles and

other events

1.2 MIXED TRACK RECORDTO DATE

1.2.1 Economic and Social Development

Aid has a mixed track record of meeting objectivesfor economic and social development, for four mainreasons:

(a) Growth in the post war period – the golden age– was considerably offset by unexpected populationexpansion. (b) Over the past 30 years, LDCs havecontinued to sustain high levels of growth, but thishas become highly volatile, with the volatilityunderscoring greater vulnerability to externalmarket shocks. (c) Average growth rates maskmajor variations in performance across regions andcountries. (d) There appears to be a weakcorrelation between the volume of aid a countryreceives, and its performance in delivering growthand reducing poverty.

The Post-War Period: Growth offset by expandingpopulationThe big push in development assistance during thepost World War II period was accompanied byimpressive improvements in economic performance.Between 1950 and 1970 most LDCs experienced rapidgrowth, with average annual GDP growth exceedingthat of the industrialised countries (Exhibit I.11).

Within the total, sub-Saharan Africa grew at thesatisfactory rate of 2.4 percent per year per capita,and among the developing regions only South Asiawas lagging behind.

Not only did the LDCs’ growth match that in theindustrial countries but social indicators improvedmarkedly. Life expectancy increased for all groups ofcountries, and primary school enrolment increasedsignificantly for middle-income countries (ExhibitsI.12 and I.13).

However, much of the increase in income was offsetby rapid population growth, which came to be seenas a prime obstacle to raising living standards in thedeveloping world. The population “explosion” wasunexpected. In 1951, the United Nations projectedthat the growth of population in Africa and Asiawould be in the range of 0.7-1.3%. With thereduction in mortality rates resulting fromimprovements in health, by the mid-1960’s it wasaveraging around 2.5% a year.

Against this background, the Pearson report calledfor an increase in the volume of aid as well asefforts to make aid “administration” more effective.

The Recent Past: vulnerability to market shocksOver the last 30 years (1970-2000), LDCs as a groupcontinued to sustain higher per capita growth than the

24

Aid has a mixed trackrecord of meetingobjectives for four mainreasons: (a) unexpectedpopulation expansionoffsetting growth, (b)high volatility of growthand vulnerability tomarket shocks, (c) highgeographic variations inperformance, and (d)low correlation betweenaid and development

COMPARATIVE ANNUAL GROWTH RATES 1950-67

Source: Partners in Develpment, Pearson Report, 1969

Exhibit: l.11

Developed countries Developing countries

6%

5%

4%

3%

2%

1%

0%Real GDP growth Real GDP per capitaPopulation

LIFE EXPECTANCY AT BIRTH, 1960-1970Exhibit: l.12

Low income countries Middle income countries

80

70

60

50

40

30

20

10

0

1960 1970

High income countries

year

s

Source: World Bank Development Indicators, 1983, 1985

developed countries, driven increasingly by trade andprivate investment. Although growth rates fell during the1980’s – promoting the description of the “lost decade”– they recovered during the 1990’s (Exhibit I.14).

However, year-on-year changes were highly volatile,with at least 7 periods of decelerating growth overthe period, reflecting a range of external factors(Exhibit I.15).

25

NUMBER ENROLLED IN PRIMARY EDUCATION 1960-1970

Source: World Bank Development Indicators, 1983, 1985

Exhibit: l.13

Low income countries Middle income countries

120

100

80

60

40

20

01960 1970

High income countries

year

s

COMPARATIVE GDP PER CAPITA GROWTH RATES 1971-2000

Source: Global Economic Prospects 2001

Exhibit: l.14

Developed countries

4

3

2

1

0

1971-1980 1991-2000

Low & Mid income countries

perc

enta

ge

1981-1990

ANNUAL GROWTH RATES 1970-2001

14%

9%

4%

-1%

-6%

-11%

-16%

%p

a

Source: World Economic Outlook 2001 and Development Committee

Exhibit l.15

1970 1975 1980 1985 1990 20001995

Transition countriesLDCs Developed countries

1 23 4 5

6

7

Over the last 30 years,LDCs as a group

sustained higher percapita growth than

developed countries,driven increasingly by

trade and privateinvestment. Although

growth rates fell duringthe 80s – promoting the

description of the “lostdecade” – they

recovered during the90s

An analysis of the 7 periods of decelerating growthhighlights the key forces at work, and reveals somemajor vulnerabilities of LDCs. These are: (a) vulnerabilityto economic conditions in the developed world; (b)vulnerability to rapid changes in capital flows; and (c)vulnerability to commodity prices.

The first major challenge for LDCs was provoked bytwo consecutive oil price shocks (1973 and 1979) thatwrought havoc with the development expenditures ofmost oil-importing countries (downturns 1 and 2,Exhibit I.15). The share of export earnings needed tofinance oil imports rose suddenly, often leaving littlefor capital goods imports, let alone for servicingforeign debts. Exhibit I.16, below, illustrates theinverse relationship between oil prices and the currentaccount balance.

During this period, many industrialised economies,including the United States, experienced slow growth aswell as inflation (a combination known as stagflation).With the exception of Japan, the East Asian “Tigers”,and a few oil-exporting countries, most countries wentthrough painful years of slow economic growth.

The period of economic malaise following the 2-stepoil price increases affected development assistance ina number of ways. First, the serious economicproblems of most industrial countries (and of the USin particular) overshadowed what interest the public

had shown for overseas development issues. Puttingone’s own house in order came first. Second,increasingly vocal demands for a ‘New InternationalEconomic Order’ on the part of developing nations(including members of OPEC) polarised opinion and,on balance, eroded political support for developmentassistance. Third, poor economic performance inmany LDCs (as well as civil unrest and armedconflicts) led to increased scepticism about theefficacy of development assistance.

In the event, high (real) oil prices proved to be a short-lived problem for energy importers, but the LDC growthhas continued to be sensitive to the level of economicactivity in the industrialised world, and has been evidentagain in 2000/2001 (downturn 7, Exhibit I.15).

The second major challenge was provoked by the LatinAmerican debt crisis, starting in Mexico in 1982, whichreduced global LDC growth to its lowest rate duringthe whole period (downturn 3, Exhibit I.15). Thisepisode demonstrated the vulnerability of LDCs tochanges in capital flows that was to be underscored inthe late 1990’s when financial crises hit Asia and Russia

(downturn 6, Exhibit I.15). Sovereign lending dried up,resulting in an effective disengagement betweenprivate investors in developed countries and LDCs.Exhibit I.17, below, illustrates the curtailment ofcommercial bank lending of the late 1980s.

26

CURRENT ACCOUNT BALANCE DEFICITS VS OIL PRICES

Pric

e/g

allo

n (c

on

stan

t 20

00 d

olla

rs)

Source: World Bank, World Economic Outlook 2001

Exhibit l.16

Current Account balance Crude prices

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

1970 1974 1978 1982 1986 1990 1994 1998

-6%

-4%

-2%

0%

2%

4%

6%

CrudePrices

CurrentAccountbalance

Acc

ou

nt

bal

ance

as

% o

f G

NP

An analysis of the 7periods of deceleratinggrowth highlights thekey forces at work andreveals some majorvulnerabilities of LDCs.These are vulnerabilitiesto economic conditionsin the developed world,to rapid changes incapital flows and tocommodity prices

Am

ou

nt

EDS*

(U

S$ m

illio

n)

COMMERCIAL BANK LENDING


Exhibit: l.17

1.500

1.000

500

0

1982 1987 19901983 1984 1985 1986 1988 1989

* The face value of the debt

In the 1990s, there have been renewed private sectorfinancial flows to LDCs, driven by the new market-friendly paradigm, the lowering of global trade andinvestment barriers, and the fall in communicationsand transport costs. As a result, private capitaldisplaced official development finance as the mainsource of external financing for LDCs (Exhibit I.18).

However, private flows are heavily concentrated on anarrow range of countries, sectors and borrowers.Around 75% of net private capital flows go to adozen countries _ albeit including the largest LDCs(Exhibit I.19). This leaves over 100 LDCs with littleaccess to private financing. Even in those countries

that do receive private capital, borrowing is limited toa small set of “top tier” companies and is mainly forextractive industries, infrastructure and financialsector activities.

The composition of private capital flows has alsodiversified. Prior to 1985, bank lending was the

predominant source of foreign capital for LDCs.During the 1990’s foreign direct investment (FDI) andportfolio equity investment became increasinglyimportant, as seen in Exhibit I.20.

During the Asian crisis, a massive reversal of capital flowscontributed to the collapse of currency and financialmarkets across the region.28 This led to severe criticism ofthe risks involved for LDCs in the liberalisation ofinternational capital markets and thus to proposals forrestrictions and/or taxes on capital markets.

In general, private capital flows make a significantcontribution to economic growth.29 However, capitalinflows, through their volatility, can imposesignificant costs. Large-scale capital inflows placeincreasing demands on the domestic policies andinstitutions of the recipient countries (monetarystability, realistic exchange rates, financial riskmanagement, regulatory capacity, and governance).Weaknesses in these areas increase vulnerability.

In particular, as demonstrated by the Latin Americanand Asian crises, the risks and costs of unregulatedcapital flows are substantially greater for short-termforeign currency denominated bank loans. Whilethe direct impact of the financial crises wasconcentrated in middle-income countries, poorercountries were also affected through the impact ofcontagion in the capital markets.

Thus, the benefits for LDCs of the liberalisation ofcapital markets depend on:

• The form of investment (in general FDI is mostbeneficial because it is more stable and improves

27

FINANCIAL FLOWS TO DEVELOPING COUNTRIES

350

300

250

200

150

100

50

0

19901970

US$

bill

ion


Exhibit l.18

1980 2000

Private net resource flows Official net resource flows

PRIVATE FLOWSCONCENTRATION, 1995-1999Exhibit l.19

Country Average (%)1995-1999

China 18.6%Brazil 12.8%Mexico 8.9%Argentina 7.9%Korea 5.1%Chile 3.4%Russian Federation 3.3%Malaysia 3.2%Poland 3.0%Thailand 3.0%Colombia 2.1%Indonesia 2.0%India 2.0%TOTAL in US$ billions 968% of total private flows 73%

As a percentage of total private flows

Source: Global Development Finance, 2001

The 90s saw renewedprivate sector financialflows to LDCs, driven

by the new market-friendly paradigm, the

lowering of global tradeand investment

barriers, and the fall incommunications andtransport costs. As aresult, private capital

displaced officialdevelopment finance as

the main source ofexternal financing for

LDCs

28 See International Monetary Fund, World Economic Outlook, May 1998.29 World Bank, Global Development Finance, 2001, especially Chapter 3.

the quality of domestic investment throughtechnological transfer and spill-over effects).

• The policy and institutional framework of therecipient country. A key question is whetherincreasing capital flows will support or detract

from measures to promote pro-poor (labourintensive) growth.

The third source of weakness has been thevulnerability of commodity prices that are a major

28

INVESTMENT FLOWS TO DEVELOPING COUNTRIESExhibit: l.20

Private loans Foreign Direct Investment

245

195

145

95

45

-5

1990 1998

Portfolio Equity Investment

US$

bill

ion

at 2

000

pric

es

1991 1992 1993 1994 1995 1996 1997 1999 2000


COMMODITY PRICES, 1970-2000

Source: Global Economic Prospects 2001

Exhibit l.21

Petroleum Non-Energy commodities

250

200

150

100

50

01970 1980 20001990

Ind

ex (

co

nst

ant

1990

do

llars

)

However, private flowsare heavily concentratedon a narrow range ofcountries, sectors andborrowers. Around75% of net privatecapital flows go to adozen countries.Borrowing in thosecountries that do receiveprivate capital is limitedto a small set of “toptier” companies and ismainly for extractiveindustries,infrastructure and thefinancial sector

REAL INTEREST RATES*, 1970-1999

Source: World Bank, IMF

Exhibit l.22

10

8

6

4

2

0

-2

-4

LIB

OR

min

us

US

GD

P d

efla

tor

( Pe

rcen

tag

e)

1970 1975 1980 1985 1990 1995

* Calculated as LIBOR minus US GDP deflator

29

MATRIX SHOWING RELATIVE PERFORMANCE OF LDCs MEASUREDIN GNP PER CAPITA COMPOUNDED ANNUAL GROWTH RATE

(CAGR) BETWEEN 1973-199930

Exhibit l.23

ImproversPositive consistentTrack

Negative consistentTrack Decliner

BotswanaSeychelles

ChadCote d’IvoireCameroonRwandaMaliSudanCentral AfricaBurkina FasoGambiaBeninComorosKenyaSenegalMalawiGuineaSouth AfricaRwandaPapa New GuineaSolomon IslandsIndiaNepalSyriaIranRomaniaVenezuela

GhanaEthiopiaZimbabweNigeriaNigerCongo Rep.BurundiTogoMadagascarUnited Arab Emirates

Congo Dem. RepublicZambiaSao Tome e PrincipeSierra LeoneBulgariaNicaragua

TaiwanHong KongSingaporeChinaMaldivesSt. Kitts

>10%

MauritiusLesothoSwazilandGabonPakistanSaudi ArabiaIraqTunisiaJordanIsraelMaltaDominicaBarbadosBrazilBelizeParaguayBahamasTrinidad TobagoHaitiEcuador

IndonesiaMalaysiaPhilippinesThailandTongaCape VerdeCambodiaBhutanBangladeshEgyptCyprusHungaryAntigua &BarbudaSta LuciaSt Vincent & GrenadineGrenadaUruguayArgentinaEl SalvadorColombiaCosta RicaMexicoChileDominican RepublicGuatemala

TanzaniaFijiNamibiaPolandPanamaBoliviaPeru

UgandaLaosJamaica

Equatorial GuineaSri Lanka

Guyana

Mozambique Angola

Guinea Bissau

5- 9,99%

2,5-4,99%

0-2,49%

<0%

30 This matrix assesses the performance of developing countries by comparing the GNP per capita CAGR from the 1970's against the GNP percapita CAGR in the 1990's being:- Improvers: developing countries which have increased two or more pre-defined tranches - Decliners: developing countries which have decreased more two or more pre-defined tranches- Positive consistent track: developing countries which have maintained a positive performance- Negative consistent track: developing countries which have maintained a negative performance

source of foreign exchange earnings for many LDCs.The impact of low commodity prices was signalled in1985-86 (downturn 4, Exhibit I.15), when a slowdownin the industrialised countries led to then record low

(real) prices for non-fuel commodities. Oil importersgained from the drop in oil prices but this was morethan offset by declines for their other exports. Over theperiod as a whole, commodity prices, particularly for

non-oil products, have suffered a secular decline in realterms of 50% as shown in Exhibit I.21.

For heavily indebted countries, the loss of exportrevenues was compounded by the persistence(during the 1980’s) of the historically high level ofinternational interest rates (Exhibit I.22).

The structure of the world trade system resultingfrom multilateral negotiations – which discriminatesagainst LDCs both as regards tariffs on theirmanufactured exports and subsidisation ofagricultural production by industrialised countries –has perpetuated this source of vulnerability of thepoor countries. Rectifying this imbalance in traderelations remains a critical element in improvingtheir economic and social prospects. (This theme isrevisited in sections 1.3.3 and 3.5).

Overall, LDCs as a group have achieved satisfactorygrowth during the past 30 years. Exhibit I.23identifies a substantial number of good performersthat have achieved a consistently high rate ofeconomic growth throughout the period, includingnot only the Asian Tigers but also Egypt, Mexico andBangladesh (albeit starting from a very low base).

This table demonstrates the reason for concernabout the performance of LDCs after 50 years ofaid, but also offers ground for hope if the lessons ofthe winners can be learned and applied.

Geographic variations in performanceIn addition to the increasing volatility andvulnerability of LDC growth to market shocks,global average growth rates also mask majorvariations in performance between regions. Asillustrated in the following chart, East Asia hadachieved consistently high growth (until the Asiancrisis of 1997). In contrast, Africa has stagnatedwith income growth failing to keep pace withpopulation growth. Latin America, Eastern Europeand the Middle East have a less consistent record,experiencing periods of rapid growth and recession,as shown in Exhibit I.24.

There have also been wide differentials between goodand poor performing countries within regions. Exhibit

I.25, ranks countries by their average growth rate overthe whole period (1973-1999). This table identifiesthe “winners” and “losers”. It demonstrates that theregional average rates – and the stereotypes they haveengendered – hide a more complex picture. There are(a few) winners in Africa, such as Botswana andMauritius, and some losers in Asia.

To date, the benefits of international economicintegration have not been universally shared,leading to (the perception of) increased Polarisationbetween rich and poor. As shown in Exhibit I.26,the gap between the richest and the poorestcountries has progressively widened.

At the same time, some middle-income countrieshave grown faster, so that the gap in averageincomes between them and the industrialisedcountries has started to narrow.

The number of people living in poverty (< $2/day)has increased, including many in middle-incomecountries, as shown in Exhibit I.27 that presents theregional breakdown of poverty in LDCs.

In reaction to the imperfections of the distributionof benefits in a globalised economy (and theinstitutions that represent it), there have beenincreasing pressures for improved Participation andGovernance in decision-making and service deliveryassociated with aid. Indeed as shown in Exhibit I.28economic growth does not guarantee improvementin living standards, particularly for the poorersegments of the population.

This realisation has prompted a re-evaluation of theobjectives and strategies of development aid alongthe following main lines:

• Concentration on social (poverty reduction) ratherthan monetary (income) indicators of welfare.

• Recognition of the complexities of the requirementsfor successful economic and social development,including the limits of government (and IFI)intervention aimed at “correcting market failures”.

• In addition, donors – especially the IFI’s – are underincreasingly critical scrutiny both to resist thetemptations of “mission creep” and to subject their

30

% a

nn

ual

gro

wth

REGIONAL VARIATIONS IN PER CAPITA GROWTH

Source: Global Economic Prospecta 2001

Exhibit: l.24

1971-1980 1981-1990

7

6

5

4

3

2

1

0

-1

-2

-3East Asia South Asia Latin America Europe

Central AsiaMiddle East Sub-Saharan

Africa

1991-2000

operations to external review and criticism. In theUnited States, the Meltzer report recommendsrestricting the scope of WB and MDBs. In addition,UK/Canadian proposals have been formulated tolimit scale of IMF operations, e.g. Argentina.

Overall, LDCs have achieved substantial increases inincomes over the past 30 years. And most of thetransition countries of Central and Eastern Europehave accomplished a striking recovery following thedisruption of their centrally controlled economies.However, in spite of this broad based progress,

more than 40 LDCs with 400 million people havehad negative or zero per capita income growth overthe past 30 years. In these and in other countries,absolute poverty is still widespread, albeitgeographically concentrated in a few LDCs. Thusthe challenge of development remains.

Weak correlation between aid and developmentIn general, the amount of (official) aid a countryhas received has not led to a proportionatelyhigher rate of growth as shown in Exhibit I.29.

31

MATRIX CLASSIFYING LDCs DEPENDING ON THEIR GNP PER CAPITA CAGR(COMPOUNDED ANNUAL GROWTH RATE) PERFORMANCE (1973-1999)

Exhibit l.25

Europe andCentral Asia

Middke Eastand North Africa

Latin Americaand the Caribbean

>10%

MaltaCyprusHungaryTurkey

RomaniaPoland

Bulgaria

5- 9,99%

0-2,49%

<0%

St. Kitts-Nevis

Antigua & BarbudaSt. LuciaDominicaSt Vincentand GrenadineGrenadaBarbadosUruguayArgentinaEl SalvadorBrazilColombiaCostaRicaBelizeMexicoParaguayBahamasTrinidad & TobagoChileHaitiDominican RepublicGuatemalaEcuador

PanamaBoliviaPeruJamaicaHondurasVenezuela

Guyana

Nicaragua

IsraelSaudi ArabiaEgyptJordanTunisiaLebanonPakistanIraq

MoroccoIranBahrainSyriaYemen

Untied Arabemirates

South Asia

Maldives

BhutanBangladeshSri LankaPakistan

IndiaNepal

East Asiaand Pacific

TaiwanHong KongChinaSingaporeKorea Rep.

ThailandTongaFrenchPolynesiaMalaysiaVietnamCambodiaIndonesiaChinaPhilippines

FijiLaosSolomonIslandsPapa NewGuineaVanuatu

KiribatiMongolia

BotswanaSeychelles

MauritiusCape VerdeEquatorialGuineaGabonLesothoSwaziland

GuineaRwandaSouth AfricaBurkina FasoMaliCameroonComorosNamibiaCentralAfrican Rep.BeninGambiaMalawiChadCote D’IvoireSenegalSudanUgandaKenyaTanzania

TogoGhanaCongo Rep.BurundiEthiopiaZimbabweMadagascarNigerGuinea-BissauNigeria

Sao Tome and P.Sierra LeoneMozambiqueZambiaAngolaCongo Dem, R.

Sub-SaharianAfrica

2,5-4,99%

Overall, LDCs haveachieved substantialincreases in incomes

over the past 30 years.Yet, more than 40

LDCs with 400 millionpeople have had

negative or zero percapita income growthover the same period.

Absolute poverty is stillwidespread, albeit

geographicallyconcentrated. Thus the

challenge ofdevelopment remains

Nor does economic growth guaranteeimprovements in the social indicators of thequality of life. For example, in Botswana, whichhas had one of the highest rates of GDP growth,life expectancy has gone down because ofAIDS/HIV (see Exhibit I.28)

Globally, the benefits of aid in terms of economicand social development in LDCs have not been

enough to sustain support for continued aid in thecurrent world environment (cf. decline in ODA/GDPsince 1997). The economic development argumentfor aid has been put in doubt, and appears weakrelative to the case for market-generated growth.The end of the Cold War had already weakened thepolitical case for aid, and the role of aid in the “waron terrorism” has yet to be made.31 Finally, even themoral argument for aid loses force, if it cannot be

32

GAP BETWEEN THE RICH AND THE POOR

Source: IMF

Exhibit l.26

Developed countriesDeveloping countries

30,000

25.000

20,000

15,000

10,000

5,000

0

Per

cap

ita

GD

P in

do

llars

1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

POVERTY IN LDCs, REGIONAL BREAKDOWN

Source: Global economic prospects, 2002

Exhibit l.27

Number of People living onless than $2 per day (million)

Head count index (percent)

Region

East Asia and Pacific

excluding China

Europe and Central Asia

Latam and Caribbean

Middle East and North Africa

South Asia

Sub-Saharan Africa

TOTAL

Region

East Asia and Pacific

excluding China

Europe and Central Asia

Latam and Caribbean

Middle East and North Africa

South Asia

Sub-Saharan Africa

TOTAL

1990 1999

1,084 849

285 236

44 91

167 168

59 87

976 1,098

388 484

2,718 2,777

1990 1999

66.1 46.2

57.3 40.4

9.6 19.3

38.1 33.1

24.8 29.9

86.8 82.6

76.4 75.3

61.7 54.7

31 The U.K Chancellor of the Exchequer, Gordon Brown has proposed (a) a US$ 50 billion annual trust fund to help meet the InternationalDevelopment Goals by 2015 and (b) a US$ 300 billion 4 year “Marshall Plan” for Afghanistan and the entire developing world, but has notindicated how these programmes would be implemented.

demonstrated that the conditions of thedisadvantaged have been improved.

To conclude, it is clear that thirty years on, the situationremains substantially as described in the Pearsonreport. The widening poverty gap is still “a centralissue of our time”. Even though an impressive numberof countries have “graduated” to middle incomestatus, the residual poor remain marginalised.

1.2.2 Flaws in delivery mechanisms

The previous section argued that aid has had amixed track record, for four reasons. First, much ofthe early economic growth has been offset by anunexpected population explosion. Second, growthhas become increasingly vulnerable to exogenousfactors. Third, average figures mask significantdifferences between regions and countries. Finally,there is little evidence of a correlation betweenlevels of aid, and performance.

This section identifies the weaknesses in currentdelivery mechanisms for aid, as a potential contributorto aid’s under-performance. Six issues emerge: (a)donors have not discriminated effectively between

recipient countries; (b) there has been insufficientfocus on poverty alleviation; (c) implementationmethodologies have been flawed; (d) conditionalityhas failed; (e) TA has had mixed effectiveness; and (f)NGOs have had a mixed track record.

Lack of discrimination by donorsDonors have not discriminated effectively betweencountries: in Africa, countries with good policiesreceived less assistance than countries with poor ormediocre policies, as shown in Exhibit I.30

On the other hand, multilateral (IDA) aid has beenmore closely linked to country performance thanother ODA (mainly bilateral). This is because Bilateralaid has been heavily influenced by politicalrelationships, and many donor programme allocationsare driven by supply side considerations, whichcreates an “approve and disbursement” culture thatlimit their responsiveness to country performance.

Insufficient focus on poverty alleviationEven when donors effectively allocate aid accordingto performance, this does not always adequatelyaddress the needs of poverty reduction.

33

Botswana 11.50% 57 40Lesotho 6.20% 48 45Swaziland 5.70% 47 47Gabon 5.60% 44 53Rwanda 4.90% 47 40Burkina Faso 4.30% 42 45

DISPARITIES BETWEEN ECONOMIC GROWTH AND QUALITY OF LIFE

*Compounded annual growth rateSource: OECD DAC Online database

Exhibit l.28

Life Expectancy (Years)1970 - 1999

GNP per capita CAGR* (%)1970 - 1999

AID AND ECONOMIC GROWTH

Low incomecountries

Exhibit: l.29

All developingcountries

Aid/GDP (%) Per capita GDPgrowth (% P.A.)

2.10%

1.10%

1.60%

1.20%

Source: Dollar and Burnside, 1997

Six weaknesses emergein the current delivery

mechanisms of aid, as apotential contributor toits under-performance;

poor donordiscrimination betweencountries, insufficient

focus on povertyalleviation, flawed

implementationmethodologies, failure

of conditionality, mixedeffectiveness of TA,

and mixed track recordof NGOs

As argued by Hansen and Tarp in “Aid EffectivenessDisputed” (Foreign Aid and Development, page 124):“Using past performance as an indicator of futureperformance is especially dubious…given the existinglimited understanding of the interplay between aid,macro-economic policy and political economy variables.”

Maximising marginal productivity of aid will notaddress problems of residual poverty, and if recenttrends persist, Africa will continue to lag other regions.

Weaknesses in implementation methodologiesThe implementation of evaluation methodology isfar from perfect. The capacity and quality of theevaluation efforts of donors vary substantially, asshown in Appendix A.3.

The World Bank is a leader with a mixed record. Byits own admission, the Bank’s contribution to

institutional development at the country level hasbeen modest, and the Bank’s diagnosis ofinstitutional, political and governance constraintsgenerally has been weaker than its economic andtechnical diagnosis. The quality of the Bank’s ESW islower in poor performing countries, and the qualityof WB projects in Africa continues to be significantlyless satisfactory than other regions (Exhibit I.31).

Other donors do not appear to fare any better, as theirapproach suffers from resource, organisational orconceptual weaknesses. For example, evaluation unitsare too small and resources allocated remain limited.They fail to incorporate lessons learned from evaluationinto improving the design of new projects/ programmes.

Failure of conditionalityConditionality has failed as mechanism for inducingbetter performance.

34

DEVELOPMENT ASSISTANCE TO SELECTED AFRICAN COUNTRIES

Source: World Bank, Aid and Reform in Africa, 2001

Exhibit l.30

Successful reformers Post-socialist reformers

9

8

7

6

5

4

3

2

1

0

Aid

/GD

P %

1978-81 1982-85 1986-89 1990-93 1994-97

Mixed reformers Non-reformers

REGIONAL VARIATIONS IN WORLD BANK PROJECT PERFORMANCE

Source: Review of Annual Development Effectiveness Report, 2000

Exhibit l.31

Africa East Asia and Pacific

90

80

70

60

50

40

% S

atis

fact

ory

Europe and Central Asia Latin American and Caribbean

Exit FY 90-94 Exit FY 95-98 Exit FY 99-00

Middle East and North Africa South Asia

First, donor-designed reforms have been poorlyadapted to specific country constraints and havebeen inflexible in responding to obstacles.32 Multi-tranche loans are not sufficiently flexible to adapt tothe complex processes of institutional change.

Second, the implicit “leader-follower” relationshipmilitates against autonomous commitment toreform by recipients. As argued by J. Stiglitz in thePrebisch Lecture, 1998: “Rather than encouragingrecipients to develop their analytical capacities, theprocess of imposing conditionalities underminesboth the incentives to acquire those capacities and…confidence in the ability to use them”. The recentassessment that “adjustment lending can supportpolicy changes and reforms at the macro-economicor sectoral levels but only when a critical mass ofstake-holders become convinced of the need anddirection of reform” (ARDE 2000 page 28) is akin todefining the problem away.

Third, donors have frequently failed (or been unable)to apply conditionality. Operations EvaluationDepartment (OED) 1992 reports that althoughcompliance rates for Structural Adjustment Loans(SALs) were less than 50%, tranche release was nearly100%.33 This pattern is driven by a pervasive “approveand disburse” culture among donor agencies.34

Changing this culture (e.g. by abandoning volume

measures as goal) is an essential condition forimproving aid effectiveness. The failure of the IMFprogramme for Argentina (2001) is a dramaticexample of donor weakness. The Financial Timesobserved: “Though the IMF knew the dangers ofexcess government borrowing, it found it hard to stopeither the government from borrowing or privatesector investors from lending to it” (November 2001).

Finally, recipients have learned to “play the game”,as illustrated by Kenya’s example where the recipientturns weaknesses into strength and distorts theintended allocation process while remainingdependent on the flow of aid (Exhibit I.32)

A new orthodoxy in development thinking nowaims to overcome the problems associated withcoercive conditionality by promoting a participatoryapproach to development assistance, as formalisedin the World Bank’s Comprehensive DevelopmentFramework (CDF).35 This revolves around the basicprinciple that recipient countries should “own anddirect” their development strategy, which theyshould be encouraged to articulate in a PovertyReduction Strategy Paper. A broad range of otherpartners should co-operate (or be consulted) in the

35

32 Cf Elliot J Berg, Aid and Failed Reforms, in Foreign Aid and Development, ed Finn Tarp.33 World Bank, Structural and Sectoral Adjustment Operations: the Second OED Review, OED report 10870, 1992.34 Evidence of the persistence of these practices is given in W. Easterly, The Elusive Quest for Growth: Economists’ adventures and misadventures

in the Tropics, MIT Press, 2001.35 World Bank, Partnership for Development: From Vision to Action, 1999.

1 Government secures annual pledge of aid

2 Government fails to implement reforms

3 Donors threaten withdrawal of aid

4 Government offers “placatory rabbit”

5 Donors confirm aid pledge

KENYA’S “MATING RITUAL”

Source: The Economist, 1995

Exhibit l.32

Project Phase % of ProjectsIdentification 12%Design 31%Implementation 39%Evaluation 8%

EXTENT OF PRIMARYSTAKEHOLDER PARTICIPATION

IN WORLD BANKPROJECTS 1994-98

Source: World Bank OED, Participation Process Review 2000.

Exhibit l.33

KEY FACTORS FOR PARTICIPATIVE DEVELOPMENT

Source: Girishankar, N. and N. Manning, Sequencing in the Public Sector, World Bank, PREM, 2000.

Exhibit l.34

High

Low

• Strong institutions• Ample supply of skills• High degree of state captures• Little political demand

for reform/governance

• Weak institutions• Limited supply of skills• High degree of state captures• Little political demand for

reform/governance

• Strong institutions• Ample supply of skills• Low degree of state capture• Political demand

for reform/governance

• Weak institutions• Limited supply of skills• Low degree of state capture• Political demand for

reform/governance

Capacity Weak Strong

Will for Reform

process of formulating and implementing the CDFincluding donors, civil society, the private sector etc.However, implementation of the principles has beendifficult and uneven, particularly as many of the keycountries (for which PRSPs have been prepared) areamong the poorest with limited institutionalcapacities. For WB projects, enhanced participationhas been limited, particularly in the key design phase,or has had only a modest impact. (see Exhibit I.33)

The major constraints on greater participation (citedin World Bank CDF Secretariat, ComprehensiveDevelopment Framework: Meeting the Promise?September 2001) are:• Political resistance among recipient country

governments. • Limited capacity of stakeholder institutions. • Incremental cost and time requirements, for

governments, donors and Civil Society Organizations(CSOs) (can exceed 10% of total project costs).

• Need for change in donor management and staffattitudes.

• Inflexible multi-year donor programmes.

Thus, the more comprehensive the concept, themore complex the execution. There remains a majortask of securing understanding and support among

the political elite in recipient countries asparticipation requires both will and capacity. This isshown in Exhibit I.34, which illustrates the keyfactors involved in Participative Development.

Mixed effectiveness of Technical AssistanceWeaknesses of institutions and skills have beenincreasingly recognised as critical to development.36

Technical Assistance (TA) is the primary aidinstrument for building capacity, particularly incritical “turnaround” countries.

However, the performance of TA has been widelycriticised37 as being overly supply driven. TA’s over-reliance of long-term resident advisors is costly,confuses accountability and creates resentmentamong key recipient counterparts. Furthermore, thetreatment of TA as a “free good” debases itspotential benefits but does not avoid theopportunity costs to both donors and recipients.Finally, the absence of effective evaluation for TAhas limited its required quality improvement, andthe decentralisation of decisions on donor fundedTA has resulted in a less transparent process.

The key factors for success in TA are generallysimilar to those for aid:

• Political support from recipient.• Effective management.• Availability of local counterparts.• Focus on implementation (capacity utilisation vs.

capacity building).

Mixed track record of NGOsSince the 1980’s, NGOs have been increasingly usedas a delivery mechanism for multilateral andbilateral aid programmes, particularly because oftheir field networks. In 1998, half of World Bankprojects had NGO involvement.

However, NGOs are far from a magic solution toimproving aid performance, as can be seen inExhibit I.35, where NGO involvement in selectedWB supported projects was deemed to beunsatisfactory on over half the cases. A DAC ExpertGroup found that although 90% of NGO projectswere achieving their immediate objectives, therewas a tendency for NGO projects to focus onoutputs rather than objectives. Financialsustainability was usually very doubtful.38

1.3 UNCLEAR FUTURE

Previous sections emphasised that aid should reformbecause of its growing complexity and its mixed trackrecord in delivering results. Finally, we also argue thatsignificant issues remain to be resolved: the landscapeis becoming increasingly challenging, and while a newaid paradigm has emerged, it still fails to address somecritical long-term issues.

1.3.1 Increasingly challenging landscape

One can assume that in the foreseeable future, the basicrationale for public aid, namely that rich countries shouldhelp poorer ones, partly for simple solidarity andhumanitarian reasons, partly because such helpcontributes to making the world more coherent andstable, will continue to prevail. One could even argue thatrecent and prospective developments in the world shouldprovide additional incentives for public aid to increasesubstantially. Typically, proponents of more public aid claimthat its volume should double to permit to reach in areasonable period of time the international developmentgoals39 that have become the benchmarks for progress.

36

36 cf World Bank, Knowledge for Development, World Development Report 1998.37 Arndt, C. Technical Co-operation, in Foreign Aid and Development, ed Finn Tarp.38 Cracknell, B.E., Evaluating Development Aid: Issues, Problems and Solutions, 2000.39 The most important is to halve poverty by 2015.

# Projects % Of totalHighly satisfactory 6 16

Satisfactory 12 32Unsatisfactory 19 51

Total 37 100

OUTCOME OF NGO INVOLVEMENT IN SELECTED WORLD BANKSUPPORTED PROJECTS

Source: World Bank, Non-Governmental Organizations in World Bank-supported Projects: a Review, 1999

Exhibit l.35

Four issues will influence the evolution of aid in thefuture. These are: (a) the continuing process ofglobalisation and liberalisation worldwide, (b) theapproach to the debt problem, in particular theissue of new flows versus debt relief, (c) theincreasing demand for international public goods,and (d) performance in aid utilisation and in themanagement of aid.

Globalisation and liberalisationThe continuing impact of globalisation is likely tocall for an increase in aid.

Nobody disputes that globalisation andliberalisation of trade and capital markets arebringing opportunities for all countries, eventhough it results in stiffer competition and inexacerbating income disparities. Thus, from thepoint of view that aid helps reduce disparities andcontributes to improving long-term stability, moreaid is needed to alleviate the increase in incomedisparities. In addition, to take advantage of theopportunities brought by liberalisation, LDCsneed to equip themselves with the institutionalcapacity to operate effectively in those areasaffected by liberalisation. In the trade sector,much more is needed to put in place thecapacities to implement the Uruguay round, andthis is an area where aid will continue to focus.Similarly, in the financial sector, most LDCs remaina long way from having efficient structures thatcan effectively mobilise domestic and foreignsavings, and thus this is another area where moreeffort, and support, are needed.

While LDCs have done a lot to open theireconomies, under much prodding from the IFI,their ability to compete for exports is oftenseverely hampered by the substantialprotectionism that exists in the developedworld, not only in the agriculture sector, butalso in some manufactures (textiles forexample). In that context, aid, interpreted in alarger context where trade becomes animportant element, is necessary to level theplaying field so that competition becomesmore equitable. This is a political dimension ofaid that has to be addressed directly by thedeveloped world, rather than by thedeveloping one.

While capital, goods, and to a lesser extent,services have been liberalised extensively, thefree movement of labour and people has notfollowed the same trend, and indeed at presentseems to be regressing. This brings two adverseconsequences. One is the lack of opportunitiesfor people from LDCs to gain experience andexpertise and bring them back to their homecountry. The second is the likely effect that thisrestriction will have on remittances, which in anumber of countries contribute much tobalance of payments equilibrium, and to themobilisation of savings. Again, this is an area onwhich aid, in a very broad and politicaldefinition, could focus to help alleviate theconstraints resulting from this particular kind ofprotectionism.

Debt financing - new flows versus debt reliefThe stock of debt by the developing world is huge:about $2.5 trillion or close to 40% of its global GDP.Typically, about 10-15% of its servicing (or 2% ofthe stock) is rescheduled every year.

The debt problem is not going to disappear, andmost likely, new developments will occur. First, theissue of grant versus concessionary debt for poorestcountries, which surfaced recently, will continue tobe debated, and the very slow progress on the HIPCside will presumably argue for more, rather than less,grant. Second, the scope of burden sharing hasprogressively increased in the last years beyondbilateral loans and commercial loans to bond holders.One could envisage that this scope would be furtherexpanded. The recent case of Argentina, to whichthe IFIs have a very large exposure, is likely to posethe question as to whether the IFIs can continue notparticipating in debt workouts and will not be forcedto engage in some official restructuring of their ownexposure40. The packages recently put together bythe IFIs for medium to large middle-income countriesin serious trouble (Turkey, Argentina) have been quitelarge by traditional standards and have taxed furthertheir financial systems. Currently no private lendingcan be envisaged for these countries (which goesagainst the traditional concept of sharing the burdenfor inflows) and one could envisage that privatelenders will show much more cautiousness than inthe past in resuming lending. It is therefore likely thatthe IFIs will have to continue with a very largeexposure to such countries, and the issue may behow to manage this exposure through restructuringof their current exposure, rather than new lending toreplace old loans. The current proposition that theIMF help establish an organised bankruptcyprocedure for countries in dire trouble is anotherelement reflecting this lack of a satisfactory approachto a perennial problem.

A critical question in the future is going to be when,and under which conditions, private debt flows willresume and become steadier worldwide, beyondthose few countries that have access to this form ofinternational finance. Many LDCs are facing severefiscal constraints that result in hampering futuregrowth because of lack of public investment. At thesame time recourse to the private sector to fundand/or manage public utilities has becomeextremely difficult partly because of some politicalbacklash against this solution in LDCs (caused inpart by some failures) and essentially becauseprivate commercial funding is mostly not availableat present. As indicated above, FDI has been muchmore resilient than private debt flows since theAsian crisis. However, the first privatisation wave,that accounts for a large part of FDI, is now over,and there could be some question as to the politicaland economic sustainability of funding via FDI fiscaldeficits and development through transfer ofownership of public domestic assets to foreigninterests41. The IFIs have developed risk-mitigatinginstruments to facilitate private funding of LDCprojects and programmes. It may be necessary towiden the scope and coverage of theseinstruments, if private funding continues at this verylow level and/or private risk mitigation is not able toprovide the necessary comfort.

37

Four issues willinfluence the evolution

of aid in the future; thecontinuing process of

globalisation andliberalisation

worldwide, theapproach to the debt

problem, the increasingdemand for

international publicgoods, and performancein aid utilisation and inthe management of aid

40 The IFIs have occasionally and informally done in the past some ersatz restructuring through additional lending to allow for debt repayment.41 One should note that this is not purely a North/South issue, as it would appear that nearly half of FDI in 2001 is coming from developing

countries.

International Public goodsThe demand for international public goods has grownwith globalisation. Some of the most pressingdevelopment goals can be pursued only acrossborders, requiring internationally co-ordinated effortsand resource transfers. Examples of such public goodsare controlling disease, limiting climate change,containing instability, and safeguarding global peaceand security. Traditionally, official developmentassistance has been anchored around countryprogrammes, and funding of international publicgoods has occurred mostly on an ad-hoc basis, veryoften to respond to an emergency (e.g. onchocerciasisin Western Africa, AIDS more recently, reform of theglobal architecture after the East Asia crisis).

Putting in place co-ordination mechanisms for theeffective supply of public international goods is noteasy, as economic agents do not normally take intoconsideration the shared benefits and costs of theiractions, and those benefits and costs may be valueddifferently in different countries.

Still, an increasing share of development assistancehas been channelled to support programmes inthese areas, usually through a trust fundmechanism to manage the specific programme –the CGIAR42 and the Global Environmental Facilityare good examples of that approach.

With demand for international goods increasing,new avenues will have to be explored to ensureadequate supply of these international goods,possibly through association between the IFIs orother aid organisations and the private sector,including foundations that in many cases haveplayed a pioneering role in this area.

The still valid and essential country focusThe comments above deal mostly with aspects ofaid flows to LDCs that are related to an everincreasingly interconnected and interdependentworld, and attempt to provide some perspective inthe evolution of supply and demand, and of someof the instruments used.

Nevertheless, for evident reasons, the main framearound which aid can be supplied and effectivelymanaged has to be the country. This is where longterm socio-political objectives are, or should be,defined in a cohesive fashion, and where effectivemobilisation of resources – domestic as well asforeign – can help in achieving these objectives. Thisraises several issues. First, how to reconcile thecountry’s specific aspirations43 with the objectives andvalues of the suppliers of assistance, who typicallytake a geographically broader view and have theirown political or social priorities. Second, if povertyreduction is the overarching objective, how to reachthe poor in situations where governance andinstitutions are weak. Third, what proportion of aidcan be channelled through international and localNGOs without circumventing the state andundermining local political processes. And, ultimately,how performance in utilising aid by the receivers andsuppliers of aid is measured, and what criticalingredients are necessary to improve performance.

PerformanceThe basic idea is that aid is a scarce commodity, andtherefore that its effective use is indispensable foraid flows to continue being provided, let aloneincreased. Three aspects of performance ought tobe measured: (i) progress against objectives thatmay not be fully convergent among aid suppliersand receivers, (ii) performance of the receiver, and(iii) performance of the suppliers. Each of theseaspects – and they are interrelated – raises trickyissues of measurement. Numerous researchers haveextensively dealt with these aspects, which we willnot revisit in detail.

Measuring progress against a country’s developmentobjectives is a challenging task. Measuring growthand poverty reduction is relatively simple. Measuringother objectives such as gender equality, governance,or environmental sustainability, is more difficult.Measuring progress against objectives related tointernational public goods is even more difficult. Asdevelopment is a rather complex subject, objectiveshave tended to multiply.44 In general, the more microthe objectives, the easier to measure performance,since at the macro-level, many more parameters anddeterminants (both indigenous and exogenous)come into play.

Measuring the performance of the aid receiver – andwhy some do better than others – has also beenstudied extensively. There is general agreement thatcountries having sound policies and good institutionsuse resources (including aid) better, although there aremany diverse views on that subject.

Measuring the performance of public aid, andpublic aid suppliers, has been studied by manyinstitutions and researchers, and is intimately linkedto the performance of recipient countries inmeeting agreed objectives. The main reason is thata lot of public aid originates in the budgets ofdonors and convincing the taxpayer to fund moreaid needs some evidence of success, both on thepart of the recipients, and also the institutions thatchannel aid. As a greater share of public aid hasbeen channelled through multilateral institutions,more evidence of performance by the IFIs has beenneeded. However, some bilaterals may haveobjectives that are different from, orcomplementary to, development objectives. Forexample, some bilaterals have had, and still have,political objectives (developing their area ofinfluence, getting business for their constituentsetc…) and they may try to influence policies of aidinstitutions in which they participate to reach someof these objectives. There is much less availableinformation on the progress made in reaching theseobjectives, which is regrettable as it would permit tosee how much of the aid effort is in fact distortedby political ambitions, and how much this affectsaid effectiveness. Leaving this aspect aside, it seemsthat aid suppliers have generally made progress indelivering aid in an effective fashion.

Surprisingly, there has been much less research onthe measurement of the performance of privateflows, in aggregate, at the country level, or at eitherthe supplier or receiver end. This could be because

38

42 Consultative Group on International Research.43 Now reflected in the Comprehensive Development Framework and the PRSPs, which are supposed to be documents produced by the country

itself, and used as a basis for determining assistance from aid organizations in a coordinated way.44 One author has mentioned the “creep” in the World Bank’s mission because of this multiplicity of objectives which the institution tries to meet.

The prevention offurther internationalterrorist attacks requiresnot only enhancedsecurity, but also effortsto address the hugeincome and opportunitygaps which subsistbetween developedcountries and LDCs –and the sense ofinjustice that this hasengendered. This arguesfor a need for additionalaid and support totackle the root causes ofthese gaps

these flows have been concentrated on a fewcountries, or because of a belief that instrumentsand/or institutions of corporate governance (ratingagencies, auditors, SEC type institutions etc…)perform their role adequately, at least in thesupplier’s country. It is certainly not true in manyLDCs, where legal, financial, or fiscal institutions arein dire needs of improvement. It is also true that asubstantial part of these flows is directed towardsspecific micro projects at the enterprise orinstitution level, where measurement of achievingthe objectives initially set is easier. However, in asmuch as private flows have become a powerfulingredient in the funding of development needs, itwould be useful to have some more information onthe results reached, and how to measure theiroverall performance. Some of the issues relating topublic aid (e.g. fungibility) would seem to also applyto some extent to private flows.

Bleak outlook for aidThe discussion above indicates that there appear tobe good reasons why, assuming steadyimprovement in performance, more aid – in anincreasing variety of forms and instruments – shouldbe provided. However the outlook is rather bleak atpresent, despite some recent indications by majoraid donors that they will somewhat increase theircommitments in the near future.

The prevention of further international terroristattacks requires not only enhanced security, but alsoefforts to address the huge income and opportunitygaps which subsist between developed countriesand LDCs – and the sense of injustice that this hasengendered. This argues for a need for additionalaid and support to tackle the root causes of thesegaps. However, the effect of additional aid will notbe felt immediately, and the pressing need to fightterrorism may take priority over the short term. Thismay even incite some to emphasise the politicalshort-term objectives related to this fight in the useof aid, and in the choice of beneficiaries. From alonger-term perspective, this renewed politicisationof aid is regrettable. It also introduces some elementof uncertainty in the ability of LDCs to plan theirprogrammes. Research has demonstrated that thestability of aid flows is an important driver of aideffectiveness. If a substantial part of the flows isrelated to short term political considerations andthus subject to frequent changes, LDCs ability touse aid effectively will be hampered.

Second, in the past 20 years, crises that hadaffected flows of private debt to LDCs have had anasty but relatively limited effect – both in terms ofthe risks of contagion and in terms of their duration(e.g. Mexico crisis of 1982, Tequila crisis in 1994).Unfortunately, this is no longer the case. With a fewexceptions, the flow of private debt to thedeveloping world has not resumed substantiallyafter the Asian crisis, and contagion has taken placeand is continuing. The issue therefore is whetherpolicy makers in LDCs should assume that suchflows are highly unlikely to resume in reasonablevolumes in the years to come. If this is borne out,and if at the same time public flows remain modest,then policy makers will need to place even higherpriority on their effectiveness in mobilising,allocating, and using their own resources. Onecould argue that in any case this has to take placeirrespective of the volume of aid received. This is

true, but internal resources in many countries arevery meagre and securing additional resources isnecessary to provide a useful boost on the way togrowth and development.

Third, after many years of rapid growth, theeconomies in larger industrial countries are in asemi-recession, and thus electorates in thosecountries are likely to focus much more on incomeand employment at home, at the expense ofaltruistic objectives linked to LDCs.

One could therefore conclude that pressure todemonstrate improved performance in the use ofaid would increase. Such pressure will be appliednot only to recipient countries, but also to theproviders of aid whether public or private (includingNGOs).

So the entry into the 3rd millennium is much lessencouraging than anticipated a few years ago. LDCneeds are greater, but are unlikely to be met by anincrease in ODA – that has further lagged behind asa proportion of GDP in developed countries. Inaddition, a number of countries face severe fiscalconstraints, and both public and private investmentremain at a very low level, affecting future growth.The magnitude of rescue packages for somemiddle-income countries in trouble will further taxthe availability of public and private financialsupport to the developing world.

Despite the efforts of donors and aid recipients,progress in reducing the gaps between rich andpoor, and alleviating poverty, is still very limited. Ata time when recession hits the world, getting donorcountries to increase aid volumes is likely to beextremely difficult.

How can donors demonstrate that aid flows will beused more effectively so as to convince taxpayersthat, beyond the purely social aspects of transfers, amassive effort is required to ensure more equality inthe distribution of wealth and income worldwide?Despite James Wolfensohn’s expectation that theevents of 11 September 2001 have created “aninternational recognition of interdependence”,several donor countries are not willing to increasetheir aid expenditures. During the current discussionfor the replenishment of IDA resources, France,Germany and Japan all want to reduce theircontribution to the agreed global target of US$12.5 billion, citing domestic budgetary constraints.In particular, EU countries now bound by theMaastricht treaty stability and growth pact to keeptheir budget deficits to less than 3% of GDP willfind it difficult to respond to calls for increased aidduring an economic downturn.

1.3.2 A new paradigm for aid

As illustrated in section 1.1.1, the paradigm for aidhas evolved considerably. Over the last 25 years, therelative roles and responsibilities of the various aidagencies have expanded and diversified due toprofound changes in: (a) aid philosophy including are-balancing of the roles of the private and publicsectors, and (b) the emergence of new major issues.

Before the demise of the centrally planned system,bilateral agencies tended to cater to the geopoliticalpriorities of their governments. This was

39

The entry into the 3rdmillennium is much less

encouraging thananticipated. LDC needs

are greater, but areunlikely to be met by an

increase in ODA.Some countries face

severe fiscal constraints,and both public and

private investmentlevels remain low

Despite donors’ and aidrecipients’ efforts,

progress in reducing thegaps between rich and

poor and alleviatingpoverty is still very

limited. At a time whenrecession hits the world,getting donor countriesto increase aid volumesis likely to be extremely

difficult

manifested, for example by the UK’s and France’sfocus on their ex colonies. Similarly, the US focusedon supporting countries that would help it win thecold war economically or politically at the UN (e.g.the large programme for the numerous Caribbeancountries to get their votes at the UN, or support toPakistan to help out the Soviet Union fromAfghanistan). Most of the bilateral funding was tiedto national procurement. In addition, aid was alsoused as a vehicle to befriend countries with a richresource potential irrespective of their regimes.

In the pursuit of these geopolitical goals, the majorwestern countries did indeed try – sometimes rathersuccessfully – to use the IFIs to support their ownobjectives. This sometimes had a positive focus – such asthe US getting the IMF and the IBRD to assist Zaire, orFrance lobbying for French speaking African countries. Inother cases, the focus was negative – such as themoratorium on World Bank lending to Chile during theAllende regime, or the lack of support to Ethiopia whilethe Mengistu regime was in place and had not initiatedcompensation for expropriation of foreign assets.

This geopolitical aspect in bilateral aid is not totallyforgotten – witness the huge US programmes still inplace for Israel and Egypt to foster a permanentpeace following the Camp David accord, asillustrated by Exhibit I.36.

There are also signs that some major westerncountries are still considering using their leveragewith the IFIs to provide rewards for “goodbehaviour” – e.g. Pakistan or some Central Asiancountries following the September 11th events.

Generally, the evolution of aid patterns, particularlyin the last 15 years, has moved progressively awayfrom supporting direct political interests, and infavour of broader objectives of social progressleading to peace and stability in the world. Withglobalisation, benefits can be shared better, butpoverty and inequalities can also generatepowerful, even violent reactions, as demonstratedby the September 11th 2001 – and more recent –events. Therefore, from a broad geopolitical pointof view, as well as from a social point of view,eradicating poverty, generating incomes andreducing disparities has become a very pressingpriority and aid, properly utilised, should be apowerful lever. This was recognised in theagreement on the institutional development goalsunder the auspices of the OECD in 1996; the twomain goals were reduction by half of people livingin extreme poverty by 2015, and universal primaryeducation by that year. Achieving these goals wouldrequire a doubling of aid – this is not happening yet.

In parallel, the role of the multilateral agencies (IFIs)became more complex. They had to equip

themselves to deal with the new areas of focus andto try to avoid that these developments reflectedmore the vision and values of the industrialisedcountries than the genuine hopes and aspirations ofthe people in the developing world. They also hadto create or refine instruments to allow for co-operation between assisted and assistants, andamong assistants themselves, and deliver productsadapted to the new needs.

The realignment of roles is not happening easily.Questions have been raised as to what distinctivecontributions individual agencies are making to thedevelopment effort, e.g. between the IMF and theWorld Bank and between the World Bank and theregional development banks. Competition can leadto better services, and can also be useful to spreadfinancial exposure and risks. However, duplicationalso has costs. Surveys have indicated thatgovernments and implementing agencies spend alot of their time responding to the various demandsput to them by the numerous agencies that assistthem, rather than meeting their responsibilities. Theadministration of aid at the international level alsosuffers from the proliferation ofinstitutions/groupings. These have no doubt all hadtheir raison d’être at some time in some context,but it is easier to add than to subtract. For example,the G7 (later G8) was initially supposed to be a

rather informal mechanism for discussion – but nowhas become an intricately prepared event involvingmore and more people and institutions.

Within the complex institutional structure of the aidcommunity, there is still some recognition of the needto clarify the mandates and areas of competence ofindividual agencies. Clearly, the IMF has anestablished role in financial crises resolution (and also,now, prevention) and its lead in the macro-economicarea. The World Bank has taken leadership in sectoraland institutional policy areas. And there is evidence ofcollaboration between institutions – for example, theWorld Bank Group (WBG) is progressivelywithdrawing from Central Europe where the EU, theEIB, and the EBRD are now the major financiers.Similarly, the AsDB and the WB have had for long anagreement to co-operate effectively on the Pacificislands. And in the context of financial rescuepackages for East Asia or South America, the role andcontributions of the various financiers was clearlydelineated and agreed. There has been progress incarving out relative contributions of the various aidagencies in the context of consultative groups, donorsgroup and decentralisation of some agencies to thefield has also permitted the country itself to play moreof a lead role in this programming exercise.

Within the complex structure of the “aidcommunity”, more could be done to define and

40

Generally, aid hasmoved away fromsupporting directpolitical intereststowards broaderobjectives of socialprogress. Withglobalisation, benefitscan be shared better,but poverty andinequalities cangenerate powerful, evenviolent reactions.Therefore, fromgeopolitical and socialperspectives, eradicatingpoverty, generatingincomes and reducingdisparities are pressingpriorities and aid,properly utilised, shouldbe a powerful lever

1971-74 1975-79 1994-99Total (1999 US$ million) 3,230 4,705 7,942Share of Israel 2% 20% 16%Share of Egypt 1% 19% 12%Israel and Egypt 3% 39% 28%

US AID COMMITMENTS TO EGYPT AND ISRAEL

Source: OECD

Exhibit l.36

develop the comparative advantages of the majordonor institutions, yet developing in parallel theconcept of “competition” to serve their clientsbetter.

In part due to the demise of central planning, a newparadigm for aid has evolved around a smallnumber of general prescriptions designed toprogressively improve the quality of life in the LDCs:

• Focus on poverty reduction (including health andeducation) for all members of society, rather thanincreasing average income levels.

• Free market principles, and progressiveglobalisation resulting in rapid growth ofinternational trade (and transfer of technology).Appropriate government policies were defined bythe so-called Washington consensus.

• Trade has long been recognised as a veryimportant factor in growth and development.Overall, trade has grown at about twice the rateof growth of GDP over the last 15 years. Globaltrade is now about 45% of GDP, and higher inLDCs (70% in East Asia). However, the share ofLDCs in the world trade remains low, at about25%. All now agree that international trade hasthe potential to act as a powerful source ofeconomic growth and poverty reduction, but thatit is not a substitute for aid. In parallel, someeconomies (China, South Korea) demonstratedthat a carefully managed liberalisationaccompanied by an effective industrial policy cancontribute effectively to steady growth and toexport competitiveness.

• Importance of democracy and human rights –improvement in these areas were conditions forEU support to formerly centrally plannedeconomies in Europe.

• Overwhelming role of the private sector as adriver for growth. The role of governmentshould be kept at a minimum, but progressivelyit became clear that it was crucial in a numberof areas (such as social protection) or as aregulator.

• Substantial debt relief is considered a necessarycondition for effective poverty reduction,particularly in the poorest countries.

• Finally, it has been recognized that developmentis a very complex process, and that theparticipation of the civil society is critical.

Eradicating poverty, generating incomes andreducing disparities has become a very pressingpriority and aid, properly used, should be apowerful lever for achieving this.

Finally, it has to be mentioned that the internationalcommunity is increasingly aware of the urgency ofimproving the situation of the poorest countries, andof the complexity of the tasks involved in developingthis new aid paradigm. Recent initiatives like theMillennium Declaration and the MillenniumDevelopment Goals (MDGs), covering a broad rangeof development goals to be achieved and beingeffectively monitored by the UN Secretary General,result, indeed, in a major international commitment.

1.3.3 Critical long-term issues outstanding

While the new aid paradigm is intended to provide acomprehensive framework for approaching the futureof aid, a number of critical long-term issues still needto be addressed, in a systematic, decisive, way. In ourview, the five most important are the following.

Aid and TradeSection 1.3.1 argued that globalisation andliberalisation would call for an increase in aid tooffset growing income disparities and to developinstitutional capacity. We argue here thatcontinuing protectionism on the part of developedcountries will continue to pose significant obstaclesto poverty reduction in LDCs.

The reduction of trade and investment barriers,combined with technological developments thatreduced communications and transport costs haveled to the integration of world markets for goodsand services, financial flows and information. Thereare sharply divided views on whether the process ofglobalisation has benefited or discriminated againstpoor countries.

In general, in our view, globalisation has had apositive impact on growth. As shown in ExhibitsI.37 and I.38, more open economies and those thathave accelerated the process of integration have

41

Gro

wth

Rat

e (%

)

RAPIDLY OPENING DEVELOPING COUNTRIES


Exhibit: l.37

6

5

4

3

2

1

0

1970's 1990's1980's

recorded higher rates of growth. This holds true forpoor countries also: a group of 18 rapidly openingdeveloping economies have achieved acceleratingrates of growth.45

However, there are costs of trade liberalisation, inparticular the loss of employment and disposal ofassets in non-competitive import substitutionindustries that can be exacerbated byinappropriate or unstable macro-economicpolicies. The burden of over-indebtedness ofmany of the poorest countries – to which IFIs andsome bilateral agencies have contributed – hasserved to highlight that financial flows involveliabilities as well as assets.

To ensure LDCs benefit from globalisation willdepend on creating a fairer international tradingsystem, in which the World Trade Organisation(WTO) (and its members) commit themselves topoverty reduction as an objective and to helping thepoorer countries to challenge the discriminatorypolicies and practices of stronger trading partners.

Trade has long been recognised as a very importantfactor in growth and development. An InternationalTrade Organisation was proposed to be createdalong the World Bank and the IMF – but never gotoff the ground. In the eighties, the neo-classicalschool of thought went so far as to state thatliberalisation of global markets would make aidredundant. This is no longer accepted. All nowagree that international trade has the potential toact as a powerful source of economic growth andpoverty reduction, but is not a substitute for aid. Inparallel, some economies (China, South Korea)demonstrated that a carefully managedliberalisation accompanied by an effective industrialpolicy could contribute effectively to steady growthand export competitiveness.

However, the waves of trade liberalisation in the lasttwenty years also led to greater diversity and inequitiesamong many LDCs, and to the need to governglobalisation and manage liberalisation. The so-calledUruguay round agreements were reached in 1995after 10 years of long and protracted tradenegotiations between industrialised countries andLDCs that began in 1986 at Punta del Este (Uruguay).Agreements reached included the creation of the WTOand wide-ranging aspects of trade in goods andservices, amongst which the protection of intellectualproperty rights. Of particular importance wereagreements on agriculture: to convert all non-tariffbarriers to tariffs equivalents. As a major result of theUruguay round, LDCs need to equip themselves withthe capability to implement and monitor theagreements reached, and to take advantage of theflexibility that has been incorporated in some of theagreements. They should also prepare carefully for thenext round to ensure that they get a better deal, inparticular for the identification of export sectors ofinterest to them, and the equal treatment of capitaland labour in relation to the supply of services.

While LDCs have generally reduced considerablytheir tariffs, the industrialised countries maintainstill high tariffs and non-tariff barriers on someproducts that are of considerable interest to LDCs(agriculture and labour-intensive goods). They alsocontinue providing substantial export subsidies tothe agriculture sector, which affects development ofthat sector in the developing world – where a largepart of the population still gets its income fromagriculture production. Agriculture subsidies inOECD countries are close to $ 1 billion per day – alarge multiple of all aid and all debt relief providedto the developing world. Tariffs facing LDCsmanufactured exports to high-income countries areon average 4 times those facing exports fromindustrialised countries.

42

Gro

wth

Rat

e (%

)

OTHER DEVELOPING COUNTRIES

Source: Dollar and Kraay, 2001

Exhibit: l.38

4

3

2

1

0

-11970's 1990's1980's

45 Dollar and Kraay, Trade, Growth and Poverty, 2001.

To ensure LDCs benefitfrom globalisation willdepend on creating afairer internationaltrading system, inwhich the WTO (andits members) committhemselves to povertyreduction as anobjective and to helpingthe poorer countries tochallenge thediscriminatory policiesand practices ofstronger tradingpartners

Upper middle income Up from 8% to 11% Now above 25%Poorest 48 economies Stable at 4% Stable at less than 10%

Source: World Bank data

Exhibit l.39

Countries Share of world trade 1990-98 Trade/GDP1990-98

The recent WTO summit in Doha fortunately resulted inbuilding up, after some difficult compromises, a degreeof consensus between developing and developedcountries to engage into a new round of tradediscussions. However, the experience of the last decadealso demonstrates the difficulties of reducing tradebarriers or subsidies in the EU or the US, given the verystrong political lobbies in these countries. The Clintonadministration could not secure the authorisation forfast track negotiation of trade agreements from the USCongress, and the agriculture lobbies in the EU areknown to be very powerful. At a time when the worldis in recession, it is likely that resistance to change willcontinue to be strong in the US and in the EU. Howeverthere is relatively little more that LDCs have to do toopen their economies, and there is much that thedeveloped countries should do – eliminating tradebarriers would progressively add $1.5 trillion to LDCincomes, and lift 300 million people out of poverty by2015. The specific areas in which progress is the mostimportant would be:

• Ensuring that the phase out of the Multi-FibreAgreement is completed as planned in 2005 - itis presently delayed.

• Ensuring that the implementation of the Trade-Related Aspects of Intellectual Property Rights(TRIPS) do not result in affecting LDCs ability tofight infectious diseases.

• Ensuring that poorest countries get free accessfor their exports to the US and the EU.

• Increasing grant financing of assistance to LDCsfor building up the institutional capacity toimplement the Uruguay Agreement.

Fungibility and Aid AllocationAid is said to be fungible if the marginal increment inexpenditure to an aid inflow is not the expendituretoward which the aid was given. While there has beensome disagreement on the extent to which aid is indeedfungible, it is generally agreed that there is somefungibility. If this is the case, then the ability of anycountry to allocate its resources in the most effectiveway becomes of utmost importance, even if theparticular project financed by aid has very high returns.The issue then becomes that in the absence of goodpolicies and capacity to allocate public expenditures inan economic way, the impact of aid may becomeminimal or even negative. Research on that aspect hasshown that in well managed environments, 1% of GDPin aid translates in a sustained increase in growth of atleast 0.5%, and in a reduction in poverty of 1%.

As a result of this, overall policy performance(taking into account external shocks) has become inmany aid agencies a major criterion for distributingaid among countries, which leads to two questionscurrently debated:• In the case of good performers with effective

ability to allocate resources, should not aid beless directed toward specific projects, and moretoward funding a certain percentage of publicexpenditures? And would it be possible fordonors to pool resources and let the recipientcountry use it (or part of it) relatively freely undersome agreed set of principles, which wouldminimise the administrative costs of aid? In some

ways, this should build on the experiencedeveloped with sector loans, which use thisapproach in a limited fashion, though rarely withmore than one donor.

• In the case of bad performers but very poor countrieswith little institutional capacity, how can aid be usedselectively but effectively for programmes with higheconomic social returns, without risking somemisuse given the weak environment, and assumingsome willingness to improve it.

The response to the last question is not an easy one,but typically calls for a combination of support forpolicy and institutional improvements together withtargeted support to poor people, social sectors,micro-finance in projects designs that often include ahigh participation of civil society, communities andNGOs. In addition, it is important to ensure that thereis some continuity of aid. While difficult todocument, it is generally accepted that steady flowsof aid have a correlation with effectiveness in its use.

Debt – Problem or Solution?Debt problems have continuously affected manyLDCs, and not only the low-income ones, asdemonstrated recently by the Argentina crisis.Without some more permanent solution to this debtproblem, progressively more generous levels of debtrelief has been granted to LDCs. This culminatedrecently in the so-called enhanced HIPC Initiative.

As shown in the beginning of this Chapter, theproportion of grant funding in aid netdisbursements has increased over the last 25 years.For middle-income countries there is littlejustification for providing all aid in the form ofgrant, as it would defy the accepted objective thatthese countries should progressively establish theability to mobilise their external resources directlyfrom the international markets (the so-calledgraduation process in the WB jargon), and aid isonly a temporary help during this process. Howeverthe issue still remains valid for low-incomecountries, and the question can be centred onwhether concessionary resources should be used forspecific programmes or projects to provide partialdebt relief to highly indebted poor countries.

IFIs argue that providing relief purely as grant wouldreduce the flow of aid as it would reduce therepayments from previously disbursed concessionaryfunding. Because of the co-operative nature of theinstitutions, granting full debt relief to some wouldpenalise others as reflows could not be used for newcommitments.46 Furthermore, borrowing even underconcessional terms47 is a first step toward progressivelygetting access to private international markets. In anycase, the argument goes, there is nothing wrongabout funding development from debt – as evidentfrom success registered by a number of countries interms of growth and poverty reduction, and the HIPCshould be seen as a one-time action.

The issue is still very much alive. The poorestcountries are far from being able to tap theinternational capital markets, so receiving aid in theform of grant rather than debt (even concessional

43

There is relatively littlemore that LDCs have

to do to open theireconomies, and there is

much that the developedcountries should do –

eliminating tradebarriers would

progressively add $1.5trillion to LDC

incomes, and lift 300million people out of

poverty by 2015

46 HIPC countries have been receiving an average of $10 billion per year in grants and concessional loans; after HIPC debt relief is taken intoaccount, their debt service will fall to less than $2 billion a year. If that debt service is not forthcoming because of total cancellation of debt,aid flows would be reduced by about 20%, according to the argument.

47 Note that the terms of concessional aid provided by the IFIs have hardened somewhat, precisely to ensure higher reflows in the context ofdeclining aid volumes. The real issue is not the terms, but the willingness to provide more aid – assuming continuous progress in its use.

debt) hardly jeopardises the provision of aid forothers. In addition, the process to benefit from theHIPC initiative is long and arduous. As of August2001, only 23 of the 42 designated HIPCs hadreached their “decision point”, which confirmseligibility, and 15 of those had not sustained theirpolicy “track record” in terms of implementation oftheir macroeconomic programmes. One cantherefore wonder whether the HIPC initiative is notproving “too little too late” in reducing the debtoverhang of the poorest countries.

The Impact of CorruptionCorruption features prominently in discussions ofgovernance. There is a growing consensus thatdevelopment efforts will not have the desiredimpact unless well-functioning political andeconomic institutions are in place and areoperational. Corruption plays a very negative role inthe performance of the Institutional Infrastructure.The most common forms relate to bribery of publicofficials, improper use and abuse of public fundsand the extraction of economic rents for personaluse/gain by those in positions of political orcommercial power. The consequence is (ultimately)to reduce the economic well being of an economy.Indeed a number of studies have examined the

ways in which the Institutional Infrastructure canstem corruption.48

How does one measure corruption?49 Up until the mid-1990s, most of the empirical findings on corruptionrelied on anecdotal evidence. Over the past seven years,there have been many efforts to provide an empiricalmeasurement. These efforts have relied for the mostpart on opinion surveys that poll the generalpopulation, the private and public sectors. The mostquoted one has been the ‘Corruption Perception Index’(CPI) provided annually by Transparency Internationalfrom 1995. Other surveys are examined in Exhibit I.41.For the most part, these surveys have tried to measurethe extent to which the further development ofbusiness has been hampered by corruption.

The CPI (Corruption Perception Index), which is themost widely quoted source, puts countries on acontinuous scale facilitating comparison on the extentof corruption. The CPI collects perceptions frombusiness people and risk analysts.50 The CPI is acomposite index – a survey of surveys. It draws on 14-different data sources from seven different institutions:the World Economic Forum, the World BusinessEnvironment Survey of the World Bank, the Institute ofManagement Development (Lausanne), PriceWaterhouse Coopers, the Political and Economic Risk

44

THE ENHANCED HIPC INITIATIVEExhibit l.40

Two principal considerations led to the enhanced HIPC Initiative (2000). The first recognisedthat highly indebted poor countries needed more debt relief than provided traditionallyunder rescheduling via the Paris and London Clubs, even when that relief had becomemore generous over time. The second recognised that the multilateral institutions neededto participate in debt relief, but in a way that did not impair their creditworthiness orability to borrow from the markets. The enhanced HIPC Initiative aims at reducing thedebt service of highly indebted poor countries by up to 80% (more in difficult cases),provided that these countries implement a strong programme of reform leading tosustained resumption of growth and reduction of poverty.

The details of the HIPC initiative are rather complex, and call for countries to prepare aprogramme (the Poverty Reduction Strategy Paper – PRSP) through an internal consultationprocess. Once finalised and reviewed by the IMF and the WB, this PRSP becomes the basison which programmes of assistance by aid agencies will be delineated. This would includesupport by the IMF (Poverty Reduction and Growth Facility - PRGF that replaced the ESAF),IDA (Poverty Reduction Support Credit –PRSC) and other MDB’s concessionary windows.

Steady implementation of the PRSP leads to finalising the agreement to provide debtrelief – the key signposts are the decision point when the PRSP is finalised, and thecompletion point, when the PRSP has been correctly implemented for some time.

Thirty-eight countries are expected to benefit from the enhanced HIPC initiative – nearlyall of them in Africa. By October 2001, twenty-four had reached the decision point and3 the completion point.

The total cost - in terms of foregone debt servicing - for 34 countries is estimated at about$33 billion in 2000 NPV terms, of which about half for bilaterals and half for multilaterals. The funding of these costs comes from a Trust Fund managed by the WB, from contributionsby bilaterals, MDBs (from their profits) and the EU, and from grants and concessionarylending by the IFIs.

This will free up around $50 billion in payments, which in turn will allow additionalspending on social and developmental projects of around $1.7 billion per annum in thecountries affected. However, despite these considerable successes, the total mountain ofdebt facing the HIPCs is estimated at around $460 billion - debt relief still has a long wayto go.

Source: Global Development Finance, 2001

48 USAID “Investors Roadmaps’ for 40 countries”; OECD (1998) “Recommendation on Improving Ethical Conduct in the Public Service”.49 The following paragraphs rely on segments from the 2001 Annual Report of Transparency International.50 Unlike previous years, the 2001 index did not include a survey of the general public, owing to the scarcity of these surveys.

Consultancy (Hong Kong), the Economist IntelligenceUnit and Freedom House’s Nations in Transit.

Corruption is defined as the misuse of public power forprivate benefit, which includes the bribing of publicofficials, kickbacks in public procurement and theembezzlement of public funds. Exhibit I.42 examines theCPI for 1997 and for 2001. The term ‘level of corruption’in Exhibit I.42 includes the frequency of corruption andthe total value of bribes paid. The countries are rankedby score. Those countries where corruption is ‘highest’are those in the 0-3.99 group, while those in the middleare in the 4-6.99 group and the least evidence ofcorruption is found in the 7-10 group for both 1997 and2001. Only six countries changed their ranking between1997 and 2001 (highlighted in bold on Exhibit I.42).Botswana, Brazil and Peru moved from a high perceptionof corruption to a medium perception (the individual

country scores in 1997 were 3.6, 3.58 and 2.9respectively, while the Slovak Republic (3.65) andGuatemala (3.87) did not move in the four-year period).Japan, Chile and Spain moved from a mediumperception of corruption to a low perception from 1997to 2001. (France and Cyprus with higher scores in 1997had not made the transition by 2001).

Notes: Although this grouping uses all of the scoresallotted, not all countries were ranked byTransparency International, as some countries did notreturn the requisite number of surveys (four). Scoresapproaching 0 indicate full corruption, while thoseapproaching 10 indicate no corruption.

The Place of Private Sector FinancingAgain, as shown at the outset of this Chapter,private net flows to LDCs increased rapidly up to

45

CORRUPTION SURVEYSExhibit l.41

Source: Transparency International: Annual Report, 2001.

Significant differencesbetween small, mediumand large enterprises.Over 60% of respondentsin East Asian LDCsreported irregularpayments to governmentofficials – just 28% ofLatin American and 12%of OECD respondentsreported such payments.

Pending

Number of companiesdeterred from investingin high corruptioncountries has increased.Number of companieswith anti-corruption codesis increasing.

Single most importantstimulus to developmentof anti-corruptionstrategy is the leadershipand commitment ofsenior management

Ranked 119-exportingcountries based onperceptions

Where political patronageis low, organisationalperformance tends to behigh. Reward orrecognition of individualstaff performance bysenior staff leads toincreased productivity,even in high patronageenvironments

82% of US-basedcompanies had explicitcodes prohibitingemployees from offeringitems of value togovernment officials,compared with 66% ofJapanese companies and50% of South American-based companies

Survey Organisation Coverage Measure Results

WorldBusinessEnvironmentSurvey

PrivateSectorSurvey

Control RiskGroupSurvey

TheConferenceBoard

Bribe PayersIndex

PREMNetwork

Dow JonesSustain abilityGroup Index

Incidence ofirregular paymentsto governmentofficials

Estimating theadverse effects ofpublic sector opacityon the cost andavailability of capitalin several countries

Perception ofbribe-paying in orderto win businessabroad

Major companiesthat performparticularly wellagainst a variety ofenvironmental,economic and socialindicators

10,000enterprises in 80countries

Chief FinancialOfficers of majorcompanies,equity analysts,bankers, andPWC employees

121 Companiesin US andNorthern Europe

Interviews, focusgroups andworking groupswith executives of151 companiesfrom all majorindustries andregions

119 leadingexportingcountries

7,011 publicofficials in 16countries

Private sectorsustainabilityleaders

World Bank

PriceWaterhouseCoopers

TransparencyInternational

World Bank

1996, when they reached more than $300 billion.Following the East Asian crisis that year, debt flowsprecipitously fell – and have been negative for thelast three years. Direct equity investment has beenmore resilient, in part due to the large privatisationprogrammes in many emerging countries. Flows ofboth debt and equity have been concentrated on afew countries, mostly in Asia and Latin America.

Prospects for a recovery are dim at present and arehighly sensitive to what may happen to Argentina(that has about 25% of outstanding sovereign bondsissues from emerging countries) and Turkey, as well asto the evolution of burden–sharing between publicand private creditors at times of difficulties.

Before the East Asian crisis, there was general optimismthat the continuation of substantial flows of privatemoney to LDCs would accelerate growth and wouldmarginalise the IFIs, particularly as regards the mediumto high-income countries. Since then, some hoped thatflows would resume rapidly as had been the casepreviously, including after the so-called Tequila crisis in1995. This is not likely to happen, particularly during arecession, as investing in emerging markets is generallymuch more risky than in the EU or the US – even if thereturns or the spreads are larger.

The effect of this prolonged crisis may be quitedetrimental to the LDCs, particularly at a time whenpublic investment in many of them is severelyconstrained by fiscal restraint. One could fear that,even when the recession subsides, LDCs may notshare in renewed growth as much as they couldbecause of lasting reluctance on the part of privateinvestors. In addition, privatisation programmes in avariety of forms have contributed substantially toequity and debt flows; in some countries there are notthat many attractive public assets left for privatisation,and in many there is greater reluctance to undertakesuch programmes, for political and social reasons.

Evidently, part of the solution is to develop as quicklyas possible efficient capital markets in the LDCs, and tosupport programmes that do this while at the sametime trying to have a more direct social effect (SME,micro-finance). The impact of these efforts will not beimmediate (financial sector development) or modest(SME, micro-finance). In parallel, it should be possiblefor the aid agencies to be more innovative in trying tohelp mobilise private capital from abroad in a way thatreduces the fears that the “jewels of the crown” aresold to foreigners.

On paper, many of the IFIs have precisely this role. TheEBRD was launched to boost private investment inCentral and Eastern Europe. The World Bank andother IFIs have developed instruments (partial risk andcredit guarantees) that are geared at mobilising privatefinance for both private and public projects. The IFCand other multilateral or bilateral agencies have beenmobilising both equity and loan finance for privateinvestment in developing markets. Also, since it wascreated 10 years ago, MIGA has been very successfulat developing its capacity to provide political riskinsurance for private sector investments in developingmarkets. Finally, private or bilateral forms of politicalrisk insurance for investments in LDCs haveexperienced substantial growth, at least until recently.

When the World Bank was created, it was envisaged thatits main focus would be providing guarantees rather thandirect lending. Its evolution has shown a different path,and its guarantee programme (and that of the other IFIs)has stayed at a very low level, partly because ofcompetition with lending, partly because of strong views(some would even say prejudices) both in some LDCs andin the institutions, against guarantees. Given the currentdismal picture as regards private flows to LDCs, it wouldappear that a serious renewed effort at developing thiskind of instrument or other risk management devices byaid agencies would be warranted. This should not be atthe detriment of an increase in aid flows.

46

One could fear that,even when the recessionsubsides, LDCs maynot share in renewedgrowth as much as theycould because of lastingreluctance on the partof private investors. Insome countries there arenot that many attractivepublic assets left forprivatisation, and inmany there is greaterreluctance to undertakesuch programmes, forpolitical and socialreasons

CORRUPTION SCORES FOR 1997 AND 2001 RANKEDINTO 3-CLASSES, HIGH, MEDIUM, LOW.

Exhibit l.42

Rank Score 1997 Score 2001

Albania, Algeria, Angola, Argentina,Bahrain, Bangladesh, Belarus, Bolivia,Botswana, Brazil, Bulgaria, Cameroon,China, Colombia, Cuba, Ecuador, Egypt, ElSalvador, Ghana, Guatemala, Honduras,India, Indonesia, Iran, Iraq, Ivory Coast,Kenya, Lebanon, Libya, Mexico, Morocco,Myanmar, Nigeria, Oman, Pakistan, Panama,Paraguay, Peru, Philippines, Qatar, Romania,Russia, Saudi Arabia, Slovak Republic, Syria,Tanzania, Thailand, Turkey, UA Emirates,Uganda, Ukraine, Venezuela, Vietnam,Yugoslavia, Zaire, Zambia, Zimbabwe

Argentina, Azerbaijan, Bangladesh, Bolivia,Bulgaria, Cameroon, China, Colombia,Croatia, Czech Republic, Dominican Republic,Ecuador, Egypt, El Salvador, Ghana,Guatemala, Honduras, Ivory Coast, India,Indonesia, Kazakhstan, Kenya, Latvia,Malawi, Mexico, Moldova, Pakistan, Panama,Philippines, Romania, Russia, Senegal, SlovakRepublic, Tanzania, Thailand, Turkey,Uganda, Ukraine, Uzbekistan, Venezuela,Vietnam, Zambia, Zimbabwe

Belgium, Chile, Costa Rica, Cyprus, CzechRepublic, Estonia, France, Greece, Hungary,Italy, Japan, Jordan, Kuwait, Malaysia,Nicaragua, Poland, Portugal, South Africa,South Korea, Spain, Sri Lanka, Taiwan,Uruguay

Botswana, Belgium, Brazil, Costa Rica,Estonia, France, Greece, Hungary, Italy,Jordan, Lithuania, Malaysia, Mauritius,Namibia, Peru, Poland, Portugal, Slovenia,South Africa, South Korea, Taiwan, Trinidadand Tobago, Tunisia, Uruguay

Australia, Austria, Canada, Denmark,Finland, Germany, Hong Kong, Iceland,Ireland, Israel, Luxembourg, Netherlands,New Zealand, Norway, Singapore, Sweden,Switzerland, United Kingdom, United States

Austria, Australia, Canada, Chile, Denmark,Finland, Germany, Hong Kong, Iceland,Ireland, Israel, Japan, Luxembourg,Netherlands, New Zealand, Norway,Singapore, Spain, Sweden, Switzerland,United Kingdom, United States

0-3.99

4-6.99

7-9.99

2.1 ‘TOP DOWN’ ANALYSIS

2.1.1 Business Dynamics analysis

Many objectives have been formulated fordevelopment aid since the business was launchedwhen the Bretton Woods institutions startedoperations. These do shift over time to reflect newpriorities and currently the overall objective is thereduction of poverty. Although this overall objectiveis clear enough, and measurable, the breadth of thisobjective can be made more “operational” byfocusing on two sub-objectives in the overallmission to reduce poverty:

• First, to improve the operational effectiveness of publicflows, i.e. ODA. This can be measured, as presentlyhappens with widespread evaluation analysisundertaken by the international financial institutions,nearly always on an ex-post basis. But apart from suchmeasurement, the objective also aims to improve theperception of effectiveness by financiers as well asbeneficiaries. These perceptions will drive the volumeand terms of financing available for this business.

• Second, to improve the stability and volume ofbeneficial private flows, both of debt financing aswell as FDI.

These two sub-objectives are inter-related. If thefirst is achieved, it is likely that this will promote theachievement of the second.

One of the most authoritative recent studies concludesthat aid has been “highly effective, totally ineffectiveand everything in between”51. While noting that donorshave been slow to respond to new developmentchallenges (HIV, Asian crisis, and conflict situations), the

report observes that aid has been “effective” in a goodpolicy and institutional environment. Indeed, as shownin Exhibit II.1, countries with a positive environment canalso attract private investment by giving confidence toinvestors and supporting the delivery of public services.Aid can also help attract private investment in much thesame way. However, for the recipients to realise thebenefits of private investment depends on havingeffective and equitable regulatory and governancestructures and practices (key elements in goodinstitutional environment).

These conclusions are not widely shared. Themethodology of the study has been challenged,especially for ignoring the time lags between aidand growth52. Furthermore, the policy environmentis not always stable. “Successful reformers”frequently backslide, such as Ghana in 1992, while“Transitional” economies of CEE have achieved arapid turnaround. Finally, effectiveness also dependson exogenous environmental factors, such as termsof trade, export stability and climatic conditions53.

While this is an important conclusion, it does not yetpinpoint the “magic formula” to make alldevelopment aid “highly effective”. The Pearsonreport’s conclusion moves a little closer to identifyingthe “key factors for success” in its general statementthat “further growth will require that aid, trade, andinvestment policies are integrated in a single strategywhich rests firmly upon the performance of the LDCsthemselves and the sustained commitment of thericher countries”. This identifies at least two keyingredients for greater future success: the integrationof public and private aid and trade and investment,and also the performance of the LDCs together withthe commitment of the richer nations.

47

CHAPTER 2:

THE ROLE OF INSTITUTIONALINFRASTRUCTURE (I.I.)

51 Dollar, David and L. Princhett, Assessing Aid: What Works, What Doesn’t and Why, Oxford University Press, 1999.52 Bretton Woods Project report 1999.53 Guillamont P., and Chauvet, L., Aid and Performance: a Reassessment, Clermont Ferrand, 1999.

Sati

sfac

tory

pro

ject

s (%

of

tota

l)

PROJECT PERFORMANCE AND "GOOD POLICY ENVIRONMENT"

Source: World Bank, 1997

Exhibit: ll.1

Institutional quality

Economic policy

80

60

40

20

0High Low

Low

High

However, these are still very “macro” recommendationsand are not easily translated into action at the practicallevel. In order to achieve the objective of povertyreduction, the development aid business needs torestructure aspects of its two older and moreimportant business segments: project finance andstructural/programme lending. In order to move towardssuch actionable recommendations, it is necessary toexamine the business dynamics of the aid business i.e.the interaction between the IFIs, their clients(beneficiaries), and the private financiers. Most of thatanalysis will deal with the IFIs and their clients, as privatefinanciers tend to react directly to the policies andinstitutional environment, which are themselves aproduct of the interactions between these clients and theIFIs. This analysis of the IFI business dynamics reveals that:

• Some of the IFIs development aid businesses arenow “mature” and need re-defining.

• The “business processes” in the IFIs reveal about fivemain areas for re-definition, especially viewed against“generic benchmarks” drawn from other businesses.

• Of these five main re-definition areas, improving theInstitutional Infrastructure in client states will havethe widest and most beneficial impact on ODAeffectiveness as well as boosting private financing.

We assess the IFI structural and project financesegments for their strategic performance andbusiness by using only generic strategic andbusiness process analysis tools to review thesebusinesses. Our approach is, therefore, that of an“outsider” analysing the aid business. This analysistends to reflect the main features of the industry,and some caveats need to be made:

• Diversity: There are significant differencesamongst IFIs, and a uniform presentation of theiroperating ways does not do justice to some ofthem.

• Evolution: The business is evolving rapidly,particularly in the past few years. We are awarethat some of the characteristics defined are in theprocess of changing in specific institutions.

• Self-analysis: A remarkable characteristic of theIFIs is, precisely, their capacity for introspectionabout their role, which is regularly reviewed indepth, generally with significant intellectualhonesty. This results in a somewhat “fluid”situation, which our analysis cannot fully capture.

With these caveats, the key findings of our analysisare tabulated as follows:

48

IFIs STRUCTURAL AND PROJECT FINANCE BUSINESS SEGMENTSSTRATEGIC PERFORMANCE ASSESSMENT

Key business variable Performance assessment

Although a well-defined market, it appears to be mainly supplier-driven with little evidence of strong demand-side drivers in the overallshape of the business. A wide range of customer segments existsrequiring multi-variable categorisation and management.

Notwithstanding some overlaps, the key providers operate almost onan oligopolistic basis and there is little effective competition in thebusiness.Indeed, discussions are regularly under way to precisely define“territories” and avoid overlapping of mandates.

Overall business objectives are mainly determined by the “suppliers”,and there is a regular failure to achieve publicly-stated targets. Somecontradictory objectives co-exist at the same time.

The key products have not been fundamentally changed in nature(rather “adapted” to the “perceived” priority needs). Although thereis regular dialogue with the customers about their needs, there islittle product “R&D” to design new products driven exclusively bycustomer needs.

Despite sector, strategy, and poverty alleviation papers etc, it is nota “consumer-led” business. This may be because customers have littleinterest in the product, or do not have the capability to lead asconsumers.

Linked to the oligopolistic supplier situation, there is little “marketresearch” and less knowledge of real customer needs per customersegment than prevails in other businesses.

Processing times are long and driven mostly by supplier’s “internal”considerations.

Although re-designed and increasingly decentralised, key policy andoperational decision making remains mainly centralised.

The organisation structure is not fully transparent to customers oroutsiders and is designed around internal objectives.

Operations appear “mono-lingual” in that there is a standardisedindustry speak which reflects the slow, somewhat bureaucraticoperating culture and format- and process-driven operations

An overall impression of surprise at a business that is supplier-driven,not very close to its customers, and which has developed an inwardlooking culture that does not encourage adopting business practicescommonly found in other industries.

Market Characteristics

Competition

Business Objectives

Products andservices provided

Customer interaction

Marketing techniques

Operations

Distribution

Operating systemand organisation

Operating culture

Results

Our “outsider” status leads to some somewhatradical conclusions. Little that is commonly found inother businesses is recognisable in thesedevelopment aid business segments. Instead, itappears to be a supplier-driven business that issomewhat removed from its customers and hasdeveloped a strong inward-focused culture.Although there has been change over past decades,these changes have not served to introducetechniques widely used in other businesses, butinstead have mostly created adaptations in its own,inward looking culture. And it is difficult to knowwhether this amounts to successful strategicchange or not.

Five recommendations emerge as the best way tore-design the operating processes of thesesegments in order to enhance their future growthand effectiveness. These are (a) strengthening the‘demand side’ of the operations, (b) introducingmore competition amongst IFIs, (c) enhancingproduct innovation and adaptation, (d) re-designingthe business processes underlying the operatingefficiency of the IFIs, and (e) improving theoperating culture of the IFIs, as follows:

• First, strengthen the demand/customer side atthe operating level. This needs various actions.One element is the development of the“clientele” in the use of the key businessparameters and rules of the game so that theycan function as an equal counter-weight to thesuppliers (i.e. IFIs) in the business. This willrequire developing institutional capabilities inrecipient countries on a grand scale, which willthen allow many client LDCs to be moreassertive in defining the development projectsand programmes which they want, and alsodetermining how, and from where, these shouldbe financed. Another element is to create a“market research” line in the operating budgetsof the IFI suppliers so there is an in-depthcontinuous programme of broad marketresearch. Based on this market research, outrightmarketing strategies and roles need to becreated. Another element is a re-design ofdistribution and organisation around customerprocesses, not internal functional disciplines.And perhaps the most important element is todevelop multi-variable customer segmentationtechniques that allow for detailed adaptations inproducts and operations per customer segment.

• Second, encourage competition amongst theproviders of ODA. Notwithstanding the fact thatODA will be considered a “public good”, it is notnecessarily true that it should be allocated anddistributed by quasi-monopolies. To the contrary,the public good will be allocated more efficientlyand effectively if there is some competition whichleads to strategic differentiation amongst the IFIsuppliers. Competition provides a yardstick tomeasure themselves against, it provides productsand techniques to copy from competitors, itprovides the incentive to develop strategicspecialisation, and it provides an externaldisciplining mechanism for internal efficiency.Rather than campaigning for “public good”resources from “shareholders” to be allocated onan exclusive basis to a “few players”,competition should be welcomed andencouraged – within the geographic remit ofeach institution.

• Third, modernise and design customer-suitedproducts. Research needs to be increased inorder to design truly adapted financial andadvisory products relevant to customers todayand capable of replacing the dated project-finance parameters initially used in the 1950s. Aproduct “R&D lab” could be considered, possiblyto be “housed” in a leading IFI but operatingautonomously.

• Fourth, step up efficiency. The long processingtimes that characterise the bulk of productdelivery in the IFI business tend to turn offcustomers and reduce value added. Radicalbusiness process re-design is needed.

• Fifth, change the operating culture. This refersto the soft variables that characterise the way inwhich an industry does business, includingelements such as customer responsiveness,processing methods and speeds, real decisionprocesses (as opposed to written procedures),morale and initiative, innovation, etc. In manyways this intangible improvement is the mostdifficult to achieve, but it must be tackled inparallel with the other elements of the list, as ititself serves as the facilitating mechanism forachieving them.

This list is long and the question naturally arises; canthese all be achieved at once, or are some moreimportant than others? This is a difficult judgement,but in our view the most important priority is thefurther full development of the InstitutionalInfrastructure in client countries. Not only will thishave the greatest impact in itself, but it will alsohave the highest “knock-on” effects in two ways:

• First it will help improve other aspects of thepublic finance ODA business. This will occurthrough strengthening the “customer-drive” and“customer-control” by developing theInstitutional Infrastructure. This, in turn, will forcea response by the IFIs and make other changeshappen.

• Second, as also observed in Chapter 1 of thisreport, development of the InstitutionalInfrastructure should improve the volume andstability of private financing flows as these aredetermined in large part by policies and thebusiness environment.

The key question then is: what is InstitutionalInfrastructure? This will be discussed in the nextsection.

2.1.2 Impact of Institutional Infrastructure

The “Institutional Infrastructure” of a country canbroadly be defined as the business framework andits operations. This in turn has a number ofcomponents covering about 8 major areas,including but not necessarily limited to:

• Political System (democracy)• Legal Framework• Financial system (including Central Bank

independence and regulatory)• Corporate Governance (comprising the crucially

important concepts of corruption, ethics andgovernance)

49

Little that is commonlyfound in other

businesses isrecognisable in the twomain development aid

business segments.It appears to be a

supplier-driven businesssomewhat removed

from its customers andwith a strong inward-

focused culture

Five recommendationsemerge to re-design theoperating processes of

these segments;strengthen the demandside of the operations,

introduce morecompetition amongst

IFIs, enhance productinnovation and

adaptation, redesign thebusiness processes

underlying the IFIs’operating efficiency,

and improve the IFIs’operating culture

• Trade, customs and competition• Employment and labour skills• Infrastructure services• Media (embracing the important concept of

information and public scrutiny throughtransparency)

It is widely acknowledged that these areas areessential pre-conditions for successful developmentand various similar notions have been promoted inprevious calls for development aid reform. The“enabling environment” concept had a similarthough not identical perspective, and the more recent2002 World Development Report deals broadly anddeeply with many aspects of the same theme.

But, in terms of improvements, identification ofthese 8 broad areas is not enough. A finer set ofaction areas must be distinguished in order tocreate a programme that can develop theInstitutional Infrastructure. In our view, for each ofthe 8 areas, there are three distinct dimensions thatneed to be “right”. They are:

• The policies • The institutions • The management of operations

For example, the financial system policies areenshrined in its laws and regulations (e.g. theBanking Act etc). Its institutions comprise thesupervisory authorities and banks, insurancecompanies etc. Finally, its management of operationscomprises many aspects, such as the ability to reliablytransfer funds from one account to another in 2working days (or less). Another example could relateto the legal framework. Here the policies are theapproved laws, such as the Commercial Code, orProperty law. The institutions comprise the judiciary,i.e. the courts and their professional standards andskills. The management of operations comprisespractical aspects such as being able to claim title toan item of real estate in a fast 3-month claimsprocedure, or being able to clarify rights of minorityshareholders in a commercial dispute in a streamlined4-month process. These policy, institutional andoperational management processes are therefore allimportant in determining the overall effectiveness ofthe Institutional Infrastructure.

The Institutional Infrastructure of a countrycomprises the following matrix:

There are a number of important hypotheses andgeneral observations relating to this broad conceptof Institutional Infrastructure:

First, unless all three aspects – policy, institutionaland management of operations – work well foreach broad area of Institutional Infrastructure, thearea will “fail” in its ability to deliver what ODA andprivate investment requires from it. So policies,institutions and management of operations are allimportant and it is not enough to have one or twoof the three at acceptable, recognised, internationalstandards – they all need to be there.

Second, in general the policies and institutions aspectshave received more effort, attention and technicalassistance than the third area – management ofoperations – which has been neglected in relativeterms. Given the interdependence and need for allthree aspects to work well before the area will deliverwhat is needed, this implies that much of theinvestment in new laws and institutional strengtheningis wiped out by the relative failure of operationalmanagement. For example, it is of relatively little valueif there is a “good” Commercial Law if the judicialsystem for implementing it fails to operate to adequatelevels of competence, and independence. This alsoimplies that the last column in the matrix is where thebulk of future effort should be made.

Third, there is simultaneously an interdependence,but also a sequence of priorities in the 8 InstitutionalInfrastructure areas. They all need to be up to requiredstandards, or else failings in one or two areas coulddestroy the achievements in others. That is theinterdependence. Yet at the same time it is fair to saythat for development aid to be successful it will rely onthe Institutional Infrastructure areas in theapproximate order of priority indicated in the matrix.

So this is the full breadth of the InstitutionalInfrastructure concept, and it is indeed broad asacceptable, recognised, international standardsneed to be achieved in 24 different areas. There aretwo implications for development aid of achievingacceptable, recognised, international standards inInstitutional Infrastructure.

The first concerns the changes in behaviour andperformance by the beneficiaries, or client countries.

• It is expected that client countries will developmore in-depth skills to independently formulatetheir pipeline of projects and adjustmentprogrammes. This should mean that the selectedprojects/programmes reflect their own priorities

and needs more convincingly, and generatehigher commitment. At the same time theproject/programme specification will be at full

50

The most importantpriority is the furtherfull development of theInstitutionalInfrastructure in clientcountries. Not only willthis have the greatestimpact in itself, but itwill also have thehighest “knock-on”effects

Unless all three aspects– policy, institutionaland management ofoperations – work wellfor each broad area ofInstitutionalInfrastructure, the areawill fail in its ability todeliver what ODA andprivate investmentrequire from it. It is notenough to have one ortwo of the three atacceptable, recognised,international standards– they all need to bethere

DEFINITION OF INSTITUTIONAL INFRASTRUCTURE

Policies Institutions Management of operations

Political System

Legal framework

Financial system

Corporate Governance

Trade and Competition

Employment & Labour

Infrastructure services

Media

international standards. That should also makethem more attractive and acceptable forinternational financing from the IFI and privatecommunity.

• It is also expected that greater sophistication inthe formulation of development projects andadjustment programmes will be matched withgreater demands, and sophistication, in how theycould be financed. That in turn will lead to more“shopping” for international financing, andgreater demands for product and serviceadjustments from the IFIs.

• And there is expected to be a significantimprovement in the implementation effectivenessof the projects and programmes formulated byclient countries. This is driven mostly byenhanced implementation abilities, but is alsodue to the assumption of greater commitment toprojects generated by the greater InstitutionalInfrastructure capabilities.

These implications for beneficiaries are matched byvarious changes amongst the IFI and developmentaid financiers. These will evolve slowly, and in manyways are a reaction to the changes in the“customer” community outlined above.

• First, the IFIs could expect to face morecompetition. In response to more aggression and“shopping” for financing, the client countrieswill be more demanding and seek out othersources of finance. The semi-automatic annualprogramming link between an IFI and a clientcountry may be broken if that country chooses toshop for funding. Even though development aidis considered a “public good”, it should be apositive development to inject some competitionin response to customer’s seeking choice.

• The IFIs are also likely to develop more strategicdifferentiation. As it becomes clear to customersthat certain types of adjustment programmes orinvestment projects are handled better by someIFIs than others, the demand for such financingfrom that source will increase. And so strategicdifferentiation will develop amongst IFIs as somebecome known for being better in some product,service or advisory dimension. That in turn willlead to the development of market positions andstronger “brands” in the IFI community.

• And all these trends should result in a highersupply of ODA development finance. This will bein reaction to a chain of events comprising betterproject formulation and higher commitment tocertain projects, which in turn enhancesproject/programme implementation quality, andthus achievement of objectives. This enhances“consumer power” and promotes the ability toshop for ODA funds, which in turn will lead tomore differentiation and efficiency amongst theIFIs. That should help convince the donorcommunity and markets to provide more fundsto the IFIs.

Finally, improvements in I.I. should play animportant positive role in attracting privatefinancing. Indeed, while IFIs have typically disbursedaid on the basis of need, the private sector hasalways channelled funds to opportunities promisingthe most attractive risk/reward trade-off. In doing

so, private investors have always, and will continueto, assess the enabling environment of recipientcountries. Achieving internationally recognisedstandards of I.I. will clearly have a very favourableimpact on this assessment - thus likely to pave theway for greater and more stable flows from theprivate sector.

2.1.3 Institutional Infrastructure and long-termissues

As argued in the previous section, building theInstitutional Infrastructure in recipient countries willaddress the problems highlighted in our structuralanalysis of the aid industry. Beyond this, however,we believe that Institutional Infrastructure will go along way in addressing the long-term issuesoutstanding in the aid business, raised in section1.3.3 – namely the fungibility of aid, indebtedness,corruption, private sector financing, and trade.

Fungibility of aid:Greater institutional capacity will translate into anenhanced ability to allocate resources effectively tothe highest impact projects, thus maximising theeffectiveness while minimising the administrativecosts of aid. The combination of appropriatepolicies, independent institutions and world-classmanagement will enable the recipients of aid toidentify and assess suitable projects, manageimplementation, and funnel support from thesuppliers of aid.

Debt:A stronger Institutional Infrastructure, particularly inthe financial sector, will better position a recipientcountry’s access to international debt markets,through a legal framework that protects creditors,greater sophistication and understanding of availableproducts and better transparency for debt analysts.While stronger I.I. may not fully tackle the problem ofthe current debt overhang, it will significantly curtailthe risks of excessive future indebtedness, given agreater appreciation of the potential risks.

Corruption:The role of institutions in tackling corruption hasbeen documented in numerous studies, asdescribed in Chapter 1. A stronger legal framework,independent institutions, open (and critical) mediaand the resources to investigate allegations will allcontribute to address levels of corruption.

Private sector financing:I.I. will provide the basis for developing efficientcapital markets and a stronger financial system tochannel resources to the most appropriate projects.In doing so, it will create the conditions forattracting and retaining FDI.

Trade:We leave the discussion regarding trade until last asit is likely to be the only issue for whichimprovements in I.I. will only have a partial impact.To a certain extent, stronger managerial capabilitieswill result in a more robust and sophisticatedbargaining position in future trade talks. Thereremain, however, broader political factors that arelikely to have a far greater influence on the courseof negotiations on trade. This issue is discussedmore extensively in Chapter 3.

51

Building theInstitutional

Infrastructure inrecipient countries will

address the problemshighlighted in our

structural analysis ofthe aid industry.

Beyond this, however,we believe that

InstitutionalInfrastructure will go along way in addressing

the long-term issuesoutstanding in the aid

business

2.2 ‘BOTTOM UP’ ANALYSIS –THE COUNTRY STUDIES

2.2.1 Objectives and approach

We have thus concluded that to improve efficiencyof aid – defined as including both public and privateflows – there is a major need to enhance theInstitutional Infrastructure (I.I.) of LDCs and, inparticular, its operational effectiveness. Public aidagencies have strongly recognised that adequateinstitutional capacity in the LDCs is a must and are,increasingly, providing assistance - both financialand other resources - to improve the policy andgeneral institutional environment in the LDCs at themacro and sectoral levels. These improvements arealso viewed as a pre-requisite by the providers ofprivate capital to LDCs which have favoured thosecountries that have a more effective policy andinstitutional environment. But little has been doneto define the essential operational capabilities –primarily managerial capacity – of the institutionsconcerned, and programmes need to be put inplace to assure the capacity to implement aidprogrammes effectively – both with public and withprivate funds.

The next step of the study was designed to test thevalidity of these general conclusions against therecord of 8 specific countries. More specifically, theobjective of the country studies was to analyze inthe field and for a selected number of countries:

(a) the components of the I.I. matrix and theirimportance and “alignment” (or lack thereof), testthe correlation between effectiveness in the use ofpublic and private aid funds in the country and theI.I. components, particularly adequatemanagement capacity at the institutional level and

(b) what are the main issues faced at the level of themanagement of the operations of institutionsrelevant to aid implementation and the kind of

actions/solutions that could be envisaged toimprove these implementation difficulties.

This ambitious objective has been adapted to thebudget limitations and to the resulting need to: (i)limit the scope of the countries to a“representative” sample of countries, (ii) focus thefunctional coverage of the country studies to themain aspects of the I.I. matrix, and (iii) centre thisanalysis in the institutions and issues that have a

direct impact in the operational efficiency of the aidactivities in the country. Each of these aspects ispresented below.

Country selection. The aim has been to use thefollowing broad criteria:• limit to eight the countries to analyse as this

provides a large – yet manageable enough –sample to allow for a minimally -in-depth analysisper country

• to have a “mix” of two cases per major LDCcontinent (Africa, Asia and Latin America) onerelatively successful and one unsuccessful, plusone each – in Middle East /North Africa andCentral and Eastern Europe.

• to select countries that are not outliers (i.e.: GNPper capita compound rate of above 10% p/a, orbelow 2.5% in the last 30 years, as illustrated inExhibits I.23 and I.25 in Chapter 1). The countrieschosen, therefore, have experienced somemodicum of progress in the development of theireconomies in the last 30 years.

• to define “successful and unsuccessful” caseswithin the above group using “soft” criteriaresulting mainly from the country’s more recentevolution particularly in the area of economic andinstitutional reform i.e.: countries where suchreform programmes have taken place aredeemed more “successful” than others wherethey have not.

• introducing one “small” and one“large”/country, in population terms, in thesample with the other six having populationsbetween 15 and 40 million.

• considering countries that have beenbeneficiaries of aid resources to varying degreesi.e.: from high dependence to low reliance –given other resources available to them – andeverything in between.

As a result of these criteria, the countries chosen forthe studies are:

Focus of I.I. analysis in each country study. Five ofthe eight elements of the Institutional Infrastructure listedas forming the I.I.55 matrix were considered as beingpriorities to carry out the evaluation in each country:

1. The Political System2. The Legal Framework3. The Financial System4. Corporate Governance5. Trade and Competition

52

Public aid agenciesrecognise that adequateinstitutional capacity inLDCs is a must and areproviding assistance toimprove the policy andgeneral institutionalenvironment in theLDCs. Also, providersof private capital havefavoured countries witha more effective policyand institutionalenvironment. But littlehas been done to definethe essential operationalcapabilities of theinstitutions concerned

Ivory Coast

Malaysia

Morocco

Pakistan

Peru

Poland

Trinidad & Tobago

Uganda

16.4

22.2

28.5

141.1

27.4

38.6

1.3

24

PopulationMillion

2.9%

7.2%

4.9%

5%

4.4%

3.5%

5.8%

2.8%

GNP per capitagrowth (1)

Unsuccessful

Successful

Unsuccessful

Unsuccessful

Unsuccessful

Successful

Successful

Successful

Reform Performance54

(1) Compound rate 1973 - 1999

54 Ingoing assessment based on IFI analysis of reform programmes, which encompassed a broad range of criteria, beyond economic growth.55 The full list included also Media (communications /information), Employment and the labour market, and Infrastructure services. It is arguable

that there might be others with significance influence in a country’s Institutional Infrastructure, like, for instance, the importance of a CivilSociety, and its impact on policy design, priorization and implementation; and the Education System.

Each element was assessed in terms of thefollowing three basic questions:

1. Is the “policy” framework in place? This includeslaws, rules and codes of conduct to achieve thedesired outcomes.

2. Are there organisations in place to administer andenforce the rules? Given the time and budgetconstraints, the country analysis focused on a fewkey institutions as a proxy for the entire I.I. selectedin each case according to the local situation andpeculiarities and by applying three basic criteria:simplicity, relevance and comparability.

3. Are these organisations effectively managed?Here we looked at how well, in practice, theycarried out their assigned role.

The scope of the analysis can be summarised in thefollowing matrix:

Centre the analysis on institutions and issues thathave a direct impact on aid effectiveness. Thismeans, in practice, paying special attention togovernment agencies, ministries and financialinstitutions, as they are normally the conduitsthrough which aid flows have been managed andhave important roles in creating the enablingenvironment for attracting foreign private capital.

Given the “plethora” of such potential conduits fordevelopment aid flows – and for implementing aidprogrammes – judgement has been exercised ineach country to identify the most relevant ones. Aparticular effort has been made to carry out theevaluation of the role and impact of NGOs in eachof the countries studied, seen mostly – but notexclusively – from the perspective of implementersof aid programmes (rather than providers of fundsto finance these programmes).

Country reports and fields visits. Theseassessments have been based on a combination ofrigorous research/desk analysis and field visits to eachcountry. The detailed work plan listing, per topic, thekey issues/information required, the research sourceto use and the field work visits to undertake arepresented in Volume II. They present themethodology used to carry out the analysis requiredto achieve the objectives defined in the ToRs.

We have summarised the conclusions of theseanalyses in two scorecards per country studiedcovering:

• Overall Institutional Infrastructure Assessment,and

• Institutional Infrastructure: Management

In each case and for each item forming theAssessment, we have rated the performance of ona scale from 1 i.e.: “Fundamentally Unsound” to 6

i.e.: “Consistently good”. Models of these twoscorecards are attached in Volume II. These ratings,based on our best professional judgement of thesituation in each country, provide a quantitativebasis for inter-country comparisons and testing thegeneral validity of our overall conclusions.

Each country report has three parts:

1. Development Performance, summarising themain aspects of the country’s developmentperformance mainly in terms of

• Economic performance• Development Aid• Poverty reduction• Relative performance compared with other

LDCs• Role and impact of NGOs

53

Five of the eightelements of the

InstitutionalInfrastructure listed asforming the I.I. matrix

were considered asbeing priorities to carry

out the evaluation ineach country: the

political system, thelegal framework, the

financial system,corporate governance

and trade andcompetition

Are the administrativeagencies of governmenteffectively managed?

Does the court systemoperate effectively? (e.g.speed, cost, integrity)

Do the regulatoryinstitutions operateeffectively? What about thebanks and capital market?(use a selected sample)

Are these organisationseffectively managed?

Are these organisationseffectively managed?

Policies Organisations Management

Political System

Legal Framework

Financial System

CorporateGovernance

Trade andCompetition

Are the political institutionseffective anddemocratically responsive?

Is the court system soundlyestablished? Includingstaffing by qualifiedjudges.

Are the regulatoryinstitutions (Central Bank,SEC, etc.) soundlyestablished? Mandate,staffing, etc

Are there organisations inplace to administer andenforce the rules?

Are there organisations inplace to administer andenforce the rules?

Does the Constitution(written or not) provide aneffective and stable basisfor the exercise of politicalpower?

Do the laws of the countryprovide an effective andstable basis for settlingdisputes (particularlyregarding commercialactivities)?

Do the rules (laws andregulations) provide asound basis for thedevelopment of a sound(a) banking system and (b)capital markets?

Are there adequate rulesdefining the application ofthe Principles of CorporateGovernance?

Do the rules (laws andregulations) provide a basisfor open access andcompetition in all sectorsof the economy?

2. Evaluation of Institutional Infrastructure in thecountry; Policies, Institutions and Managementof:

• Political System• Legal Framework• Financial System• Corporate Governance• Trade and Competition

3. Conclusions: The final section of each countryreport highlights the major distinguishingfeatures of the I.I. and assesses its overall quality.The detailed country studies are presented inVolume II of this report.

2.2.2 Overall findings

Our detailed, “bottom-up”, assessment of 8countries shows a marked difference in the qualityof their Institutional Infrastructure, based on a scaleranging from 1: “Fundamentally Unsound”, to 6:“Consistently Good”.

The full scorecards are presented at the back of thissection. Exhibit II.2, below, illustrates how onlythree countries, Malaysia, Trinidad & Tobago, andPoland have overall assessments above the averageof 3.3. The first two constitute the only cases whereexisting Institutional Infrastructure can beconsidered clearly “satisfactory - good”, withPoland moving towards “satisfactory” whereasPeru, Uganda, Pakistan, Morocco and Ivory Coastassessments can only be described as between“inadequate and unsatisfactory”. Admittedly thescores reflect the fact that the sample was weighted(a) towards lower income countries and (b)deliberately included the same number of failures asof successes.

We have benchmarked the ratings of ‘successful’against ‘unsuccessful’ countries in each of themajor LDC regions. Exhibit II.3, below, shows thedifferentials in the ratings obtained betweenUganda (successful) and Ivory Coast(unsuccessful); Malaysia (successful) and Pakistan(unsuccessful); and Trinidad (successful) and Peru(unsuccessful).

54

Rat

ing

(o

ut

of

6)

OVERALL RATINGS OF INSTITUTIONAL INFRASTRUCTUREExhibit: ll.2

5,0

4,5

4,0

3,5

3,0

2,5

2,0

1,5

1,0

0,5

0,0Morocco Ivory

CoastUganda PakistanPoland PeruMalaysia T&T

DIFFERENTIALS BETWEEN SUCCESSFULAND UNSUCCESSFUL DEVELOPERS

Exhibit: ll.3

Rules Structure

2.0

1.5

1.0

0.5

0.0Uganda / Ivory Coast Trinidad & Tonago / Peru

Management

Dif

fere

nce

In R

atin

gs

Malaysia / Pakistan

This provides some empirical confirmation of theconnection between the quality and solidity of acountry’s Institutional Infrastructure with itsdevelopment performance, which is the themeestablished in Chapter 2. Furthermore, in bothAfrica and Asia, the biggest differentials areencountered in the management ratings, whichalso underscores how effective management is akey distinguishing feature of the successfulreformers.

As illustrated in Exhibit II.4, these differences inmanagement ratings are generally consistent acrossall 5 categories – the political system, legalframework, financial system, corporate governanceand trade & competition – with two exceptions:

(i) The differential in favour of Ivory Coast vs.Uganda on the Management of its CorporateGovernance is due to the very weak capabilitiesin that area existing in Uganda.

(ii)The same happens in Peru in the area of Tradeand Competition compared with Trinidad andTobago given the relatively high level ofcapabilities in that area in Peru (including in thecustoms area), an anomaly in the country.

More generally, our management ratings aresystematically below the overall ones for all of thecountries studied. This reflects the general“dysfunction” between the I.I.’s “set-up” (asdefined by the rules, regulations and the structure ofthe five elements forming the I.I. of the country),and the operating management performance of this“set-up”, including implementation capacity andresults, to “do” things as they are supposed to bedone. Indeed, our overall rating is - at 3 - rated as“unsatisfactory” for the eight countries as a whole.

In summary, we are confident that our ‘on theground’ analysis of 8 countries provides a sound basisfor arguing that Institutional Infrastructure can, to asignificant extent, explain the different levels ofeffectiveness of aid. This analysis must, of course, betreated with some caution, and we make 4 caveats:

1. Even if we have debated them as a team andconsidered country differences in comparingresults, there remains an element of subjectivity

in the assessments, which is impossible toeliminate completely.

2. In assessing rules, structure and operatingmanagement in each of the five areas we have notassessed the value, or otherwise, of reformprogrammes envisaged, recently announced, orunder way. This is because our assessment shouldbe based on facts rather than on declaredintentions, irrespective of their solidity, inherentvalue, or consistency with objectives. This meansthat, in some cases, if one were to have scored thecontents of these reforms, it may have scored themhigher – or lower – than what we actually did.However, our objective in the country studies isbasically to find explanations as to why things haveor have not worked. This can only be done on thebasis of what exists, has happened, and why, not bytrying to assess the quality of reform programmesunderway or their likelihood of success.

3. The scorecards give equal weighting to eachelement in the I.I. matrix. This reflects our beliefthat every item in the matrix needs to be up torequired standards, and that failings in one or twoareas could offset the achievements in others.

4. It could be noted that the two countries thatcome on top in our I.I. assessment - Malaysia andTrinidad and Tobago - are “petroleumeconomies”. Indeed, this is true but what theevolution of these two countries, whencompared with others as petroleum rich if notmore than them, like Nigeria, Venezuela, etc.,shows is that what matters is how theseresources were used, not just simply havingthem. Our point is that the “good” effectiveresource utilisation can only take place if theadequate Institutional Infrastructure is built, andthat has been the case of Malaysia and Trinidadand Tobago.

2.2.3 Country-based findings

While the numbers support the thesis that I.I. is animportant driver of effective development, theargument is brought to life by a qualitative, case-by-case discussion of the 8 countries reviewed. Each

55

% a

nn

ual

gro

wth

DIFFERENTIAL MANAGEMENT RATINGS FOR ELEMENTS ININSTITUTIONAL INFRASTRUCTURE

Exhibit: ll.4

Politicalsystem

Legalframework

4.0

3.0

2.0

1.0

0.0

-1.0

-2.0Uganda / Ivory Coast Trinidad & Tobago / Peru

Financialsystem

CorporateGovernance

Trade andCompetition

Malaysia / Pakistan

We are confident thatour ‘on the ground’

analysis of 8 countriesprovides a sound basis

for arguing thatInstitutional

Infrastructure can, to asignificant extent,

explain the differentlevels of effectiveness of

aid

country study, of course, tells a unique story, andthese are captured in some detail in the CountryStudies, presented in Volume II of this report.However, for the purpose of supporting our thesis,we have categorised our case discussions into threegroups:

a) Malaysia – a potential “role model” for otherLDCs, and the most compelling case example ofthe impact of I.I. on development.

b) Poland and Trinidad & Tobago – the “strongrunners-up”. These countries have developed astrong Institutional Infrastructure, but have beenheld back from achieving their full potential bygaps in management capacity.

c) Ivory Coast, Morocco, Pakistan, Peru and Uganda– the “missed opportunities”. These countrieshave failed to meet their development objectives,despite significant aid flows, because ofsignificant gaps in their InstitutionalInfrastructures.

a) The Malaysian Role ModelMalaysia’s development performance has been anunqualified success. Following its initial years ofindependent economic development based on a“laissez-faire” export-oriented agriculturaleconomy, in the last 30 years Malaysia’s GNP percapita has increased tenfold to around $3,600. Thisunderpins an overwhelming and impressiveeconomic success story supported by, at least, fouroverall reasons:

• A broad selection of macroeconomic indicatorsshows strong to very strong performance in all,with GDP growth averaging 7% per annumduring the last 30 years, unemployment at 3.1%in 2000 and annual inflation down to 1.6% inthe same year. Export-led growth results inbalance of payments showing a healthy currentaccount surplus throughout, to an equivalent to10% of GDP in 2000 and foreign reserves equalto 52 months imports.

• Poverty eradication has been achieved with theproportion of households below the poverty linedropping from almost 50% in 1970 to about7.5% in 1999, and a target of 0.5% by 2005 ontrack. Most social indicators have beenconsistently improving since 1980 and theycompare favourably with other selected Asiancountries.

• Public sector finances have been prudent formost of the period and the rate of nationalsavings is high (mostly above 30% of GDP) andhas outstripped investment in recent years.National development expenditures on the socialsectors (education, health and housing) haveincreased from 24.8% in the 1986-90 to 34.1%in the 2001-2005.

• The trade structure has been transformed froman agriculture/extractive economy (43.2% ofGDP in 1970) to a manufacturing and servicesone (81.4% of GDP in 2000) with a dramaticshift in the composition of exports from anoverwhelming natural resources one in 1970 to85.5% from manufacturing today.

This success has been achieved by applying anindependent and pragmatic development model -Malaysia’s own - which has been largely self-financing and which is tailored to the real needs ofthe country rather than representing a wholesaleadoption of standard recipes provided by outsiders.This is a powerful illustration of the thesisdeveloped in section 2.1.2 – that structuralshortcomings in the ‘supply’ of aid can best beaddressed by reforms on the ‘demand’ side. Thisdevelopment model displays four distinctivefeatures in Malaysia:

• It shows strong elements of being “demanddriven”, in that it exercises consumer choice andrejects those products and services of theinternational development model that do not suitits objectives.

• It has used little official finance/aid in theimplementation process – official aid representsless than 1% of GDP throughout the entire 90s –relying instead on private capital flows, andespecially FDI, for its international funding.Annual net private capital flows averaged $7.9bill in the 90s56 compared to $3 bill during the80s and an already substantial $1.7 bill in the70s.

• It does not constitute a standard recipe orideology. It applies instead a pragmatic collectionof tools to suit specific objectives correspondingto realities, but which do not add up to aconsistent policy ideology as generallyunderstood. It has to be said that these policy“inconsistencies” are often of a temporarynature and are designed to steer the countrythrough a difficult period or achieve otheradjustments.

• It has responsiveness to the lessons of setbacksand openness to improve further and deal withstrong cyclical and structural challenges, whichshould set the stage for further innovation in thenext decades of economic development.

Doubtless, one reason for Malaysia’s strongeconomic development performance is theattractive natural resource endowment that thecountry enjoys (i.e.: rubber, tin, palm oil, timber,petroleum) as well as a strong human resource baseand its strategic geographical location at thecrossroads of important trade routes and maritimeconnections. But other countries with similar, orbetter, resource endowment have failed to fuel theengine of economic development. It is not a matterof simply having natural and human resources, it isa matter of how they are deployed. Here Malaysiahas excelled: it is the high quality management ofthe economy and solidity of its InstitutionalInfrastructure that provide the main explanation ofits economic success.

Our assessment of Malaysia’s InstitutionalInfrastructure as presented in the overall scorecardshows a rating of 4.6, the highest of the eightcountries studied, with the Management Scorecardranked similarly as befits the high qualitymanagement that the country has been able toenjoy and develop. The key considerations of our

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Each country study, ofcourse, tells a uniquestory, and these arecaptured in some detailin the Country Studies,presented in Volume IIof this report. However,for the purpose ofsupporting our thesis,we have categorised ourcase discussions intothree groups: theMalaysian role model;Poland and Trinidad &Tobago as the strongrunners-up; and themissed opportunities

56 Indeed, Malaysia is not an exception to the dramatic fall in FDI experienced in all LDCs in 2002: it has declined from M$ 18 billion in 2001 toM$ 2.2 billion in the first six months of 2002.

assessment could be encapsulated in the followingfive key elements:

(i) Political Framework and Public AdministrationMalaysia enjoys a democratic political systemproviding stable governments that are prepared totake tough decisions combined with a high qualitypublic administration to achieve effectiveimplementation of its policies.

It is frequently acknowledged that the British leftbehind an efficient administrative system, whichindependent Malaysia subsequently proceeded tobuild upon. Today, the public administrationmachinery is a professional civil service with a highlydeveloped set of rules and structure. There areextensive regulations, and institutions at severallevels are of several types: the federal institutions,state and local, and the administration branch andimplementation agencies. In all there are around900,000 people on the state payroll in thesenumerous public bodies. The Auditor Generalexercises financial control, the MalaysiaAdministrative Modernisation and ManagementPlanning Unit (MAMPU) exercises operationalcontrol, and the National Institute of PublicAdministration (INTAN) is responsible for trainingand development.

While the rules and structure of the politicalframework and the public administration areextensive and sophisticated, it is the operationalmanagement that has some impressive featureswhich provide interesting lessons:

• The public administration is managed tightly onaspects that boost its operational effectiveness.Many of these measures, such as mandatorytraining, ISO 9000 accreditation, service charters,exchange programmes and anti-corruptioninitiatives are implemented by INTAN.

• There is significant innovation and a commitmentto reform and improve in many areas ofGovernment, as evidenced by significant ITinvestments, and a clear willingness to reduce redtape.

• The financial structure of Government containssome practical checks and balances which boostthe operational management of the entiregovernment machinery, such as the separation ofrevenue collection and spending, and the

maintenance of competition for funds based onperformance.

These aspects provide some indication of the highlevels of efficiency and effectiveness in theoperational management of the publicadministration. Not all these aspects are unique toMalaysia, and indeed some of these principles arealso found in most OECD countries. But overall theyillustrate the general notion that “things work” andGovernment is aware that it needs “to improvefurther”. This includes spending to improve;investing in IT, investing in training, investing in newfacilities etc.

It should be noted that in spite of the positiveobservations above, concerns have been raised aboutMalaysia’s democratic system. These include thewidespread affirmative action programmes in favourof Malaysia’s indigenous bumiputra population, thelong-standing tenure of the Prime Minister, and therecent treatment of dissenting voices.

While the force of democratic process is animportant background for a well functioningInstitutional Infrastructure, it is not an integral partof it – and is hence not a core focus of this study.We would argue that Malaysia’s track record indelivering growth and stability to date – i.e. ofincreasing the “size of the pie” – has beenimpressive. As illustrated by Exhibit II.5, below, theBumiputra share of corporate equity ownership hasincreased from 2.4% in the 1970s to 19.1% by1999, primarily at the expense of foreign investors,whose share has declined from 63.3% to 32.7%.More importantly, the total market capitalisationhas increased from RM 5.2bn to RM 310bn. Thisshould provide a basis for drawing lessons for othercountries, but does not guarantee success in thefuture.

(ii) Macro-economic managementMalaysia has an unusually pragmatic, hands-on,economic management process that is business-likeand open, puts a strong emphasis oncommunications and information, and is able toeffectively combine sophisticated planningtechniques with an open economy marketmechanism.

The rules and structure of the macro-economicmanagement machinery comprise the normal key

57

It is not a matter ofsimply having natural

and human resources, itis a matter of how they

are deployed. HereMalaysia has excelled:

it is the high qualitymanagement of the

economy and solidity ofits Institutional

Infrastructure thatprovide the mainexplanation of itseconomic success

CORPORATE EQUITY OWNERSHIP (% TOTAL)Exhibit ll.5

Target % ChangeAchieved

1970 1990 1990 1995 1999 1991-99Bumiputra (indigenous) 2.4 30.0 19.93 20.6 19.1 12.3Other Malaysians 32.3 40.0 46.8 43.4 40.3 10.5Chinese 27.2 45.5 40.9 37.9 10.0Indians 1.1 1.0 1.5 1.5 18.0Other 4.0 0.3 1.0 0.9 29.9Foreigners 63.3 30.0 26.4 27.7 32.7 15.6Nominee 2.0 8.5 8.3 7.9 11.4TOTAL (% Total) 100.0 100.0 100.0 100.0 100.0 12.4TOTAL (RM bn) 5.2 108.4 179.8 310.1

Government ministries, such as the Ministry ofFinance, but with several important additions.

The first feature is the widely quoted andsophisticated economic planning system. Thiscomprises long-term planning (20-30 year strategicvisions and targets e.g. “Vision 2020”); medium-term planning (five year development plans andreviews); and short-term planning (the annualbudgets).

Second, the planning system is driven by severalspecialist institutions and groups, of which the keyplayer has been the Economic Planning Unit (EPU)of the Prime Minister’s Office. It has a permanentspecialist staff that conducts the necessary analysisand provides several important committees andinter-agency groups with the required reports fordecision taking. Since 1998 the National EconomicAction Council (NEAC), which was initially chargedwith crisis management, has been added as animportant senior group providing inputs onlonger-term strategic aspects to the planningprocess.

And third, as an over-arching concept, the macro-economic management is driven by “MalaysiaInc.”, which basically views the country as abusiness and has a number of working committeespromoting aspects of that business.

The rules and structure of this planning frameworkare possibly the most elaborate of any marketeconomy nation, but it is the operationalmanagement of this macro-managementframework that has the really interesting featureswhich provide important lessons:

• The management of the planning processprovides a number of important benefits – suchas guidance and information, a strong sense ofpurpose, and close and intensive consultationbetween the public and private sector – that feeddirectly into the impressive economicperformance of Malaysia.

• The control of implementation associated withthe planning process is another importantadvantage of this macro-management tool. TheADB has also commented favourably onMalaysia’s capacity for implementation, quotingin its country assessment report; “Overall, ADB’spost-evaluation experience in Malaysia has beenfavourable”. First, project implementation isusually left to specialist agencies and authorities.Second, implementation is controlled andmonitored by the Implementation and Co-ordination Unit (ICU) that evaluates progress.

• The planning process is also an effective vehiclefor launching new initiatives. One prominentexample of this is the several initiatives driven bythe National Information Technology Council(NITC), which is building on the Multi-MediaSuper Corridor (MSC) and driving a wide range ofprogrammes to promote the spread oftechnology amongst different communitygroups.

(iii) Financial systemMalaysia’s financial sector has responded to pastshortcomings and is being swiftly restructuredadopting many aspects of international bestpractice.

At first sight, the rules and structure of the financialsystem look impressive. But in fact the operationalmanagement of the sector reveals a number ofsevere issues. In order to obtain a realistic picture, itis necessary to separate the pre-1998 crisis periodfrom the more recent 3-4 year period.

The pre-1998 period was characterised by threemajor problems which came to a head in the crisis.The first problem was significant institutionalfragmentation in the sector, which in turn triggerednumerous other operational weaknesses in financialinstitutions which were basically too small. Thesecond issue related to over-heating andinadequate risk management, which lead to non-performing loans reaching around 20% of totalbanking assets before deducting interest insuspense and specific provisions. This problem wasconcentrated in the construction and real estatesectors, as well as lending for the purchase ofsecurities. And a third issue, closely linked to thefirst two, was that financial sector supervision didnot yet include all financial institutions, so therewere several un-regulated development financeinstitutions etc.

But what has happened over the last 3-4 years,post-crisis, is more relevant to an assessment of theoperational management of the Malaysian financialsector. On the whole, the actions and planning ofremedial re-structuring have been impressive andtogether read like a thorough analysis of world-classbenchmark targets and actions. Althoughimplementation is still underway and it is prematureto evaluate many of the results, some of the positiveaspects of recent action include:

• BNM, the central bank, has developed a“Financial sector master plan; building a securefuture” that is truly masterly57. It reads like atextbook containing all the right actions andobjectives over a wide range of financial sectorissues. It defines the vision, details theconsolidation process which is envisaged58, lists awide range of operational improvements banksare expected to achieve, opens up the sector byallowing foreign banks greater operationalscope, and increases the supervisory net toinclude non-bank financial institutions. Similarobjectives are set for the insurance sector. Boththe banking and insurance sector restructuringwill be achieved in three phases.

• For the capital markets a high quality “masterplan” also exists that the Securities Commissionhas developed.

• Through the operations of Danaharta andDanamodal, two specialist institutions set up todeal with the bad debt problem and required re-capitalisation, the non-performing loans problemis being tackled quite aggressively.

• All this has happened quickly and with top-levelattention to ensure that implementation is rapid

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57 The documentation and analysis produced by BNM is first class. The institution has been rated the second most operationally effective centralbank of emerging markets by a US research company.

58 The target is to move to 10 domestic banking groups each comprising a commercial bank, an investment/merchant bank, and a financecompany.

and effective, at least in comparison with othercountries attempting to do similar things. So byend-2000 capital adequacy ratios were around12.4% on average and have remained at thoselevels. In the words of the ADB: “Malaysia hasmade considerable progress in financial sectorrestructuring”.

• But some crisis-management measures are still inplace that will need to be reviewed for thefinancial sector to flourish again, such as theselective capital and currency controls. There isnow some debate on their relaxation.

Overall, the financial sector recovery plan and thefirst achievements under that plan are impressive.But there is still a long road to travel and the threephases of the master plans need years to becompleted.

(iv) Competition and tradeMalaysia has a highly driven competition and tradestructure at the international level that has fuelledeconomic growth notwithstanding the – normallytemporary – existence of some subsidies and otherdistortions.

The rules and structure of competition in Malaysiaare dominated by extensive consumer protectionlegislation which is considered to be best-practicestandard, and on the international side by theCustoms & Excise Department and the Ministry ofIndustry and Trade. There is no agency to controlmonopolistic actions.

Generalising, the economy is characterised as amarket economy with free competition. It is also anopen economy where growth has been largelyexport-led. Malaysia is a member of the WorldTrade Organisation and complies with itsrequirements, and Malaysia will also be a foundermember of Asia Free Trade Association (AFTA)which is in the process of establishment.

The operational management of the competitionstructure suggests that the general trend is to boostthe competitive “openness” of the Malaysianeconomy. Some of these measures are quite recentand include:

• Reductions in tariffs • A liberalisation of the financial sector, with

prospective greater freedoms for foreign banks(see section (c) above)

• Relaxation of foreign equity ownership restrictions 59

(v) Corporate GovernanceLike the financial sector, a review of governanceshould be split into the pre- and post-crisis period.

The pre-crisis period before 1998 has not beenreviewed for this report. However, the reforms ingovernance practices after the crisis were triggeredby the shortcomings of the system that prevailedbefore. This included accusations of inadequatedisclosure, cronyism in top job appointments, andareas of insufficiently defined standards.

But governance in the post-crisis period is moreencouraging and headed in the right direction. Theactions are largely based on the Finance Committeeon Corporate Governance report of March 1999and comprise three thrusts which affect the “rules,structure and operational management” ofgovernance and standards:

• Transparency and disclosure are to improve 60

• Codes and acts are to be reviewed 61

• Institutions are to be more pro-active and effective 62

In order to give some teeth to these measures, theSecurities Commission (SC) 63 has restructured itsenforcement department and placed greateremphasis on corporate compliance with assistancefrom the Attorney General’s office. The SC reportsnon-compliant corporate activities to the AttorneyGeneral who holds the power to prosecute. 64 Thepowers of the KLSE have also been strengthenedconsiderably following the Securities Commission(Amendment) Act in 2000. Moreover, in 1999, theKLSE introduced a memorandum on merger andacquisition rules designed to improve transparencyin the business conduct of stockbroking firms.

With this broad array of new measures and newinstitutional powers and responsibilities, as well aswith the compulsory director’s training courses atthe Securities Commission, it can confidently beexpected that corporate governance and standardsare improving and will improve further. With a littlemore time, these improvements - in transparency,disclosure, compliance control, corporate reporting,accounting standards, minority shareholder’srights65 and creditor’s rights - will filter through toimprove the overall quality of business decisions andinvestor confidence.

However, the process needs time. New institutionalresponsibilities need to be properly resourced andgenerally need to “find their feet”. In addition thereneeds to be real “will” to ensure that theappointments to top jobs are based on merit; thoseperforming poorly need to be removed and newappointments should be based on provencredentials for the task. There will be a time gapbetween achieving an improvement in governancestandards and others perceiving that this is truly areliable improvement. During 2001, Malaysia

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59 Permitted foreign ownership will now increase to 100% in the manufacturing sector, 61% in the telecommunications sector, 49% in stock-broking, and 51% in insurance.

60 The main actions are to set additional accounting and disclosure standards, enhance monitoring and surveillance, increase the accountabilityof company directors, and protect minority shareholders rights.

61 The Securities Commission (Amendment) Act 2000, passed by both houses of parliament in April, introduces enhanced disclosure obligationson issuers and stringent sanctions for false and misleading information in prospectuses. It grants the right to investors to pursue civil actionagainst companies, directors and their advisors where there has been a contravention of the law. The SC is also empowered to pursue civilaction on behalf of the investors when it is in the public interest to do so. The Malaysian code on corporate governance is voluntary in natureand sets out broad principles of good governance and best practices for listed companies. The amendment to KLSE’s listing requirementsrequires companies to disclose in their annual report a narrative account of how they applied the principles of the code to their structuresand processes and the extent to which they have complied with it. Finally the new listing will require directors to attend compulsory trainingprogrammes (mandatory accreditation of directors).

62 This has triggered changes in rules and operations at the Securities Commission, the Kuala Lumpur Stock Exchange (KLSE), the MalaysiaCentral Depository, the Security Clearing Automated Network Services, the Malaysia Accounting Standards Board, the Auditor General’sOffice and other organisations. It has also led to the establishment of the Minority Shareholders Watchdog Group.

63 The SC is financially independent and reports to the Minister for Finance. It submits its accounts annually to parliament. 64 Since 1999, the annual report of the SC sets out details of enforcement actions taken, details of complaints received and the status and names

of those who have been charged. In 1999 the SC investigated 54 cases and initiated 23 prosecutions. 65 These rights are affected by, for example, listing rules, representation, board structure and duties, legal actions against directors, etc.

appeared to be exactly in that time gap asinternational investors (e.g. ING Barings, MorganStanley) reduced their Malaysia weightings. Failingsin corporate governance practices were still cited asthe main reason based on the continuedperception, lagging behind changes in the reality, ofshortcomings in corporate governance.

(vi) Commercial law and stabilityThe rules and structure of the Malaysian courtsresemble those of England. Laws are both written(the Constitution and the acts passed by Parliament)and unwritten (i.e. like “common law” as practisedin England). Islamic law applies to Muslim citizenswith respect to personal status matters.

The subordinate courts comprise the magistrate andsessions courts, and there are three superior courts;two High Courts for peninsular Malaysia and thestates of Sabah and Sarawak, the Federal Court(formerly Supreme Court) and the Court ofAppeal66. There is also an Attorney General, and thethree legal “roles” found in Malaysia are that oflawyer, notary public and commissioner for oaths(again resembling the system in England).

The review of the legal system is restricted to itscommercial aspects, which are most relevant to theissue of economic development. No comments aretherefore made on various international accusationslevelled at the “independence” of the Malaysiancourt system67.

The operational management of the commercialaspects of the law prompt the followingobservations:

• Through tough laws and penalties, social stabilityand “law and order” has been high. This hasprovided a welcome environment for business,especially considering the less stable situationsprevailing from time to time in other Asiancountries.

• Although time consuming, interviewees did notcomment adversely on foreclosure on collateraltitle, nor on commercial dispute resolution. Ifanything, there were signs of recentimprovements and “title” was usually clear.

• The International Centre for Commercial Lawcomments that “While foreign investors do notrelish the prospect of going to court in Malaysia,their view is generally that the legal system doesnot present a problem to entry and that it offersa satisfactory level of protection”.

b) The “strong runners-up”Poland and Trinidad & Tobago share similarattributes in that both countries have broadly soundInstitutional Infrastructure – particularly in terms ofrules and policies, and in terms of institutions – andboth have enjoyed generally successful economicdevelopment.

However, both countries fall short of their fullpotential because of insufficient managementcapacity. Poland can, generally speaking, beconsidered a success story created in a short 10-year

period. However, its development has not reachedall parts of society mainly because of managementconstraints at the public administration level, whichare also beginning to undermine the ability of thecountry to absorb EU funds effectively. In Trinidad &Tobago, poor implementation capabilities due topatronage and under-resourcing have underminedthe country’s ability to effectively tackle poverty.Both examples illustrate how insufficientmanagement capacity can undermine an otherwisestrong Institutional Infrastructure.

Poland – the EU ‘magnet’ as an engine forwealth creationPoland’s growth record has been impressive. Afteran initial contraction of the economy following itstransition to a market economy in 1990, and withthe blueprint provided by the unprecedentedeconomic reform plan known as the EconomicTransformation Programme, the country has seen aremarkable period of unbroken growth with GDPaveraging 5% per annum since 1992. Thisdecreased marginally to above 4% since 1999 as aresult of the fallout from the Russian crisis and theslowdown in EU demand. The reforms whichfuelled this growth record were driven by the rapidexpansion of the new private sector, which today,generates 70% of GDP. External debt which was atthe crisis level of 83.7% of GDP at the beginning ofthe transformation period decelerated annually toreach 35% in 1999. This was helped by agreementsreached with the official creditors in the Paris Clubin 1999 and with private creditors in the LondonClub in 1994 that included generous forgivenesspackages. As a result, Poland returned to theinternational capital markets in the mid-90s, withStandard and Poor’s raising their sovereign debtrating for Poland to BBB+ in 2000. Foreign trade inPoland was very limited before the implementationof the Economic Transformation Programme. Inspite of its three fold growth in the decade, itremains low compared to Central and EasternEuropean countries with similar levels ofdevelopment (Poland’s exports represent 19% ofGDP in 1997 compared to 47% in the CzechRepublic and 55% in Slovakia).

Official Aid played an important role in the earlystages of the reform period, helping the country toinitiate economic reforms and to set up theinfrastructure to attract private investment. Yet aidas a proportion of GDP has hovered in the 1-3%range and followed a declining trend in the secondhalf of the decade, when net private capital flows –averaging a significant $ 5.6 bill per year during the90s – escalated significantly. Net private capitalflows increased from 0.1% of GDP in 1990 to 6.7%in 1999, largely driven by FDI. However, aidinstitutions had a significant role in promotingreforms in all sectors and are now focusedexclusively on supporting Poland’s access to the EUin 2003 by helping the country meet the Accessioncriteria (the “acquis communautaire ”).

However, this growth has not reached all parts ofsociety, particularly those in rural areas. Despite theimpressive performance of the economy in the last

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66 There is also a Special Court to hear cases brought against rulers.67 While this report does not analyze the legal system as a whole, it is worth noting that in June 2002, the Asia Intelligence Report quoted the

Political and Economic Risk Consultancy (PERC) as stating: “Malaysia arguably has the best legal system in Asia and has largely overcome thequestions of its independence raised during the trial of former Deputy Prime Minister Datuk Sri Anwar Ibrahim. Throughout that controversialperiod, a lot of debate over the integrity and independence of the legal system was carried out by lawyers and judges. This is, therefore, anexample of the checks and balances that still exist in Malaysia”.

Poland and Trinidad &Tobago share similarattributes in that bothcountries have broadlysound InstitutionalInfrastructure –particularly in terms ofrules and policies, andin terms of institutions– and both haveenjoyed generallysuccessful economicdevelopment. However,both countries fall shortof their full potentialbecause of insufficientmanagement capacity

decade, poverty – affecting 18.4% of thepopulation – remains relatively high compared withother advanced transition countries. Factors thatdetermine poverty in Poland are similar to those ofother transition countries: the unemployed, largefamilies and low levels of education being the mainones. Unemployment at a high rate of over 17% atthe end of 2001 hits particularly strongly the ruralareas. While Warsaw registers a 3% unemploymentrate some rural areas in the east of the countryrecord rates above 25%. Job losses stemming fromprivatisation and declining exports to Russia,together with declining farm incomes as a result ofdepressed producer prices, have been exacerbatingthe situation in what is an overly restrictive andinflexible labour market.

It is noteworthy in any discussion of poverty inPoland to mention the role of the very large butunevenly organized NGO sector in Poland. Nearly30,000 registered NGOs - though many are small,under-funded or inactive - have been active ineducation, healthcare, social welfare, culture,human rights, local economic development and theenvironment. Some of these NGOs are importantprofessional associations including those dealingwith gender issues, one with a 1 millionmembership. Many polish NGOs, remain financiallydependent on international donor support forsubstantial parts of their budgets but, currently agrowing number of them are developing othersources of revenue particularly forming partnershipwith the local Government. The sector is alsobeginning to evolve from organizations based on itspioneer founders into more institutional structures.But the main problem is that NGOs still do not havelegal representation and their contacts and dialoguewith the Government are weak in practice, thuslimiting their impact.

The new Government has asked the World Bank tohelp it prepare a comprehensive programme tofacilitate private investment and the creation of newjobs in rural areas, focusing on: rural infrastructure,human capital development, and private sectordevelopment. The programme is “demand driven”with local government responsible for preparingand implementing their own projects from themenu of activities supported under the programme.In spite of the uneven distribution of its growth tothe detriment of the rural areas, Poland has beencapable to improve most of the social indicators inthe last 3 decades and is well above the average ofmost social indicators when comparing with similarcountries in particular concerning infant mortalityand life expectancy.

Institutional Infrastructure. Our assessment overPoland’s I.I. as presented in the overall Scorecardsshows a rating of 3.6 with high assessments given tothe Financial Sector, the Political System and theTrade and Competition Structure. Poland constitutesa clear example of how weak management andimplementation capabilities – mainly at the publicsector level – represent an increasing source ofconcern as it represents a serious drawback from anotherwise satisfactory and comprehensive set ofpolicies, rules and institutional structures in practicallyeach of the areas analyzed. As a result, theManagement Scorecards shows an average rating.

Poland has strengthened many aspects of itsInstitutional Infrastructure:

• a rationalized, reformed, financial sector with aproperly functioning independent central bankand commercial banks dominating the sector andan increase in privatisations and foreignparticipation together with a rapidly developingcapital market constitute a good base forefficient distribution of financing to corporates,but not to the SME sector.

• rapid trade liberalization as a pre-requisite forAccession and the, parallel, creation ofcompetition bodies have taken Poland intoincreasing alignment with the EU in this area(except that smuggling is still a problem, beingaddressed).

However, significant weaknesses remain in itsmanagerial capacity:• Poland has been able to efficiently establish a

well functioning democratic process within allinstitutions, but it suffers from very poorprovision of public services. In particular, thesmall percentage and quality of the civil service(i.e.: the managers) within the overalladministration is a cause of serious concern,together with local Government’s ability toservice delivery together with its lack oftransparency and accountability. The magnitudeand importance of the reforms and changesbeing put in place in a fairly short period of timeis putting an additional strain on a publicadministration which already does not havesufficient human and financial resources to copewith the existing situation.

• a similar drawback occurs in the legalframework where an elaborate, democratic,wide ranging Constitution sees its impactseriously diminished by the lack ofimplementation capabilities resulting in seriousbacklogs, practical inefficiencies (i.e.: law onbankruptcies and the exit of firms) and, to someextent, corruption.

• corporate governance structures, recentlydeveloped, are not effective in stemmingcorruption – particularly in public procurementof works, goods and services – and in applyingadequate principles of corporate governance inthe private sector. Indeed, recent governanceindicators indicate that Poland has worsened inpractically all of them in the last 3 years.

Trinidad and Tobago - Building success on astrong heritageTrinidad & Tobago has achieved growth withdiversification. In the last 30 years real GDP andGDP/capita growth rates evolved following oil pricefluctuations but in the last ten, in particular,successive governments diversified the economy,divested state assets and rationalized publicagencies. As a result, in the last decade the role ofthe oil sector in the economy decreased from 26%to 23% of GDP and the economy has grown at a4% p/a in the last 7-8 years. T and T has become avibrant manufacturing and business centerproviding financial and commercial services, allfuelled by a very attractive legal and regulatoryframework to encourage foreign and local investorswith the result that more than 130 internationalcompanies are now established in the islands. Thecountry has today a Moody’s (sovereign) rating ofBa 1 and has a relatively easy access to capitalmarkets, having escaped the successive Mexican,Brazilian, Russian and Asian financial crisispractically unaffected.

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Poland’s growth recordhas been impressive and

its reform record verysignificant, but this hasnot reached all parts ofsociety, particularly in

rural areas

Trinidad & Tobago hasachieved growth with

diversification. Yetpoverty levels remain

significant andunchanged

Yet poverty levels remain significant andunchanged. Net public flows to finance aid havefluctuated in a “contrario sensu” with oil revenuesin the last 30 years but they have finished at a lowerlevel than they were at the beginning of the period.The average throughout has been a meagre 1% ofGDP and it has been used as a prop to public sectorexpenditures during and following economicdownturns. This contrasts with the important levelsof private foreign inflows which have been, onaverage, about seven times more important duringthe period. In spite of this, the Government’sDevelopment Strategy has not been successful intransferring economic benefits accruing to thecountry to the least advantaged, with more than20% of the population still living below the nationalpoverty line, a stable percentage during the last 10years, which is compounded by the appearance ofthe “new poor”, a significant part of the populationactive in the labour force but subsisting at very lowwages. These poverty levels are evenly distributed inthe rural and urban areas and they are associatedmainly with unemployment, standing at 14%nationally but affecting particularly youth (31%unemployed) and women. Despite the increase inpoverty most social indicators have increased due tothe improvement in the infrastructure of the basicservices. Indeed, for the most part, social indicatorsof development in T and T are better than those forLatin America and also for the upper-middle incomeas a whole.

Institutional Infrastructure. Our assessment overTrinidad and Tobago’s I.I. as presented in the overallScorecards shows a rating of 4.3 indicating that thecountry constitutes a good example of how stronglydeveloping its – inherited and already robust –Institutional Infrastructure has acted as a goodplatform from which to base economicdevelopment. This has also helped to overcomesome of its potential disadvantages in terms of sizeand ethnic diversity to attract inward investmentand diversify its economy. The managementscorecard shows a somewhat reduced rating of 3.6reflecting the implementation difficulties, politicalinterferences with management, particularly in thepublic sector, and relative deficiencies of theeducational base of the country (its only socialindicator at level below averages for the region).

In summary, Trinidad & Tobago’s I.I. demonstratessome key strengths…• a sound financial sector operating within an

appropriate regulatory framework and a trulyindependent Central Bank. This has beencompounded by the efficiency and goodmanagement of the sector in general, the limitedstate presence and the progressive transfer ofgood practice;

• trade and competition rapidly liberalized andopen, quickly establishing linkages with othercountries to maintain competitiveness. SuccessiveGovernments have shown full commitment tothe attainment of a totally market driveneconomy and successfully encourage foreign andlocal investment;

• a constitution that has provided over time aneffective basis for the exercise of political powerthrough democratic process. This has been,historically, the framework within which ethnicdiversities have found their “natural” expression;

• a legal system and structure based on the Britishsystem with recent legislation drawing on best

practices from the USA have provided a solidbasis on which to develop efficient services incommercial cases, but clearly less so in thecriminal cases with a serious backlog of the courtsystem having to be resolved;

… offset by weaknesses in management capacity• infrastructure bottlenecks resulting from

inefficiencies in the public administration, whichhave hindered private sector activity;

• poor implementation capabilities and politicalinterference, which have been the reasons for thefailure to successfully implement major publicsector investments;

• despite a working democratic constitution whichhas served the country well, the political systemhas become increasingly tainted with allegationsof corruption and patronage, as againdemonstrated in the run-up to the recentelections;

• whilst efforts have been successfully made toreduce employment in the public sector,remuneration has fallen so far behind that of thevibrant – foreign led – private sector thatretrenchment has also affected the ability tomanage institutions in the public sectorefficiently.

c) The ‘missed opportunities’Ivory Coast, Morocco, Pakistan, Peru and Ugandapresent very different case histories. They share thecommon trait, however, of having failed to achievetheir development objectives, despite significantamounts of aid, largely because of inadequacies intheir Institutional Infrastructure.

Most of these countries have clear areas ofstrength. For example, Peru has recently reformedits customs authorities, which have now become aworld-class organisation. The central bank ofPakistan is a well-respected institution, whoseoperations and supervisory functions have beensubstantially enhanced in the past 10 years.Uganda’s ministry of finance is highly effectivelymanaged by a small cadre of professionaltechnocrats.

In each case, however, these strengths are fullyoffset by weaknesses in other areas of InstitutionalInfrastructure, which highlights the criticalimportance of achieving satisfactory levels ofperformance in every aspect of the I.I. matrix.

Ivory Coast: The miracle misappropriatedIvory Coast is West Africa’s second richest countryas a result of the boom of its cocoa and coffeesectors since the 50s, with GDP growth rates in the5-15% p/a in the period. But this economic“miracle” came to an abrupt end in the early 80swith the drop in commodity prices and the ensuingnegative GDP growth, macroeconomic instability,escalating external debt, and donor sponsoredadjustment programmes which have been pursueduntil now. Since the CFA devaluation in 1994improved competitiveness has again ensured stronggrowth rates in the 7% range until the 1999military coup together with yet another drop incocoa/coffee prices, with the resulting contractionby 2.5% of GDP in 2000. The burden of non-performing public investment made in the booming60s-70s and, more generally, over-optimistic fiscalpolicies have severely aggravated the impact of theadverse price shocks. In this sense, inadequate

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The country constitutesa good example of howstrongly developing itsInstitutionalInfrastructure has actedas a good platform fromwhich to base economicdevelopment. This hasalso helped to overcomesome of its potentialdisadvantages in termsof size and ethnicdiversity to attractinward investment anddiversify its economy

economic policy and corruption dissipated thebenefits of the commodity-based Ivorian “miracle”.

Ivory Coast is “one of the most reformed countrieson earth”. As a large African country endowed withrelative political stability until recently, Ivory Coastattracted large volumes of aid from major donors,in particular since structural reforms begun in the80s, all under strong policy conditionalities whichdirectly influenced economic policies and,increasingly so, institutions. As a result,development aid flows, which were relativelyconstant until the mid 80s rose annually until themid nineties when they reached a peak of over$117 per head. This trend came to an abrupt end in1998 when major donors, including France,suspended disbursements on most of theirprogrammes as a result of the uncovering of fraudon budgetary assistance, followed by the renegingon debt service obligations vis-à-vis multilateralcreditors following the December 1999 coup. Netprivate capital flows, significantly less importantthan public funds, fluctuated over the last 30 yearsbut with a very clear decreasing trend (from around800 mill $ p/a during the 70s to one tenth thisamount in the 90s). With the formal approval of thecountry’s Poverty Reduction and Growth Facility bythe IMF in 2002, following the normalization of theelectoral process one year before, all major fundingagencies have resumed their assistance to IvoryCoast. But a targeted national poverty alleviationstrategy still needs to be adopted by thegovernment as top priority to improve the povertysituation which deteriorated rapidly in the last 20years with the proportion of poor households risingfrom 11% in 1985 to 32% in 1993 and 37% in1995. Under pressure from the donor communitythe country adopted a National Programme forPoverty Reduction in 1997 and, today, most socialindicators of development are slightly better thanthose for the region but clearly worse than the LDCsas a whole.

NGOs are playing a critical “substitute” role infulfilling weaknesses within the public services –particularly in health services and in micro-finance– and acting as substitutes to formal democraticoversight institutions by, for instance, puttingpressure to increase transparency, and eliminatecorruption in the administration of publicresources. There are 15 micro-finance NGOsproviding micro credit schemes to the agricultureand commercial sector. The potential ofcooperation with NGOs and Civil SocietyOrganizations is well understood in Ivory Coast anddonors have worked with NGOs to:

• Implement educational and training programmescentered on governance issues.

• Strengthen the NGO sector in governance relatedareas and in capacity building so that it canextend its role in the areas of justice and localdemocracy, where the potential for using NGOsappears very strong.

Institutional Infrastructure. Our assessment overIvory Coast’s I.I. as presented in the overall scorecardshows a rating of 2.5, the lowest amongst the 8countries studied, on account of the importantweaknesses of its Legal Framework, Trade andCompetition and Political system. Managementscorecard shows a similar assessment, at an evenlower 2.3.

Weakest areas are:• Although the Constitution provides for an

independent judiciary, it is in practice subject toexecutive branch and other outside influencesand the country has not been able to succeed inthe implementation of the needed reforms of theJudiciary.

• The deficiencies and corruption of the politicalsystem leading to subsequent coups d’etat andpolitical disturbances in the late 90s, haveseriously affected the country’s internationalcredibility and its economic performance.

• Ivory Coast’s competition regulatory structureand regulatory bodies have been so ineffectivethat regulations have been transferred to theregional level.

• It is interesting to note that these three majorweakness areas share one common factor: theywere purely national – as opposed to regional –reform efforts, and global public service factorssuch as personnel/pay incentives appear to havehad a significant part in the failure of the reformsat the national level.

Strongest areas are:• Financial sector and corporate governance have

managed to build acceptable levels of I.I. and, inboth cases, the fact that reforms and supervisionhave been carried out at supranational level hasbeen a clear facilitator of success.

• A common regional approach to reform appearsto produce economies of scale and reinforces theeconomic benefits of regional trade andmonetary integration. But, most importantly, italso generates more trust from the population ingeneral and the private sector in particular tostrengthen the belief that reforms will effectivelygo through, not being impeded by nationalpolitical considerations.

• In the financial sector, good cooperation withNGOs has resulted in better access to credit bythe poor

The future challenge. Development reforms,particularly at the institutional level, are sorelyneeded, and will rest on three factors. The first isgreater political stability in a genuine multipartydemocratic system. The second is the continuationof donor support, which will be greatly helped byrecent improvements in the transparency ofbudgetary procedures – particularly the clear andunique line of responsibility in the funddisbursement procedure. The third is greaterconfidence of both local and international privateinvestors. These factors are all re-starting in the2000s and they are likely to require some timebefore producing results and taking the countryinto harmonious growth with economic and socialdevelopment. But, most importantly andindependently from the above, Ivory Coast needs tobreak its poor implementation record and build upadequate management capacities in order toimplement reforms efficiently.

Morocco: The case of drip-fed reform forestallingreal progressA growth problem. Although macroeconomicstability has been a key priority since the introductionof the reform programmes in the early 80s, economicgrowth in Morocco has been on a declining trendover the last 30 years, averaging barely 2 % in thelast ten. Continued high dependence on agriculture(30% of GNP and 45 % of the population but 70 %

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The burden of non-performing public

investment and over-optimistic fiscal policiesaggravated the impact

of the adverse priceshocks. In this sense,inadequate economicpolicy and corruption

dissipated the benefits ofthe commodity-based

Ivorian “miracle”

Ivory Coast needs tobreak its poor

implementation recordand build up adequate

management capacitiesin order to implement

reforms efficiently

of the poor live in rural areas) has made growthextremely volatile due to the – increasing –recurrences of drought and declines in annualgrowth of the non-agricultural sector. The country’sslow growth trend in the past ten years hascontrasted sharply with that of many comparablemiddle-income countries of a similar size.

Significant external assistance but with modestdevelopment impact. Public flows of developmentaid fluctuating in real terms in the last 30 years – butin a clear declining trend in the last ten – representingfrom 10 % of GDP in 1985 to less than 1 % in 2000as a result of the availability of concessionary fundsand revenues coming from privatisations. PrivateCapital flows, also on a downward trend until veryrecently, have represented similar amounts and % ofGDP. Although a large part of development aid hasrightly been allocated to the social sector, it has notbeen successful in narrowing the gap between ruraland urban areas with poverty and unemploymentincreasing markedly in both and with practically allsocial indicators showing that the country has beenfalling behind its neighbours in the development of itseducation and health sectors. This process has beencompounded with the lack of real progress inupgrading the competitiveness of Moroccanagriculture and industry, as time is running short to thedeadline for the Association Agreement with the EU.

Important factors explain this failure, whichinclude:• The deceleration of the reform process engaged in

the late 80s and early 90s leaving major aspects ofthe existing Institutional Infrastructure relativelyuntouched, like the judicial reform, the civil servicereform and the revamping of the Labour Code.

• The unwillingness of the powerful vested interestswhich surround the Court to allow a quicker paceof liberalization. This has been compounded bythe lack of engagement of the private sector in thebureaucratically inspired “mise à niveau” processand of appetite to embrace the opportunities andface the challenges of the Association Agreementwith the EU.

• The Government’s centralized approach todevelopment has failed to adequately address theissues of provision of social services and basicinfrastructures particularly in the rural areas. Thishas been partially compensated through the effortsof NGOs operating in these sectors although thereis a need for capacity building and improvement inthe enabling environment in that area.

• The lack of coordination between donors, actively“encouraged” by the Government, and betweenGovernment departments and agencies, which hasdelayed efficient transfer of resources andnegatively impacted delivery mechanisms.

• The absence of transparency and accountability ofa significant segment of public finance (i.e. theroyal “purse”) notwithstanding the recent dynasticchange which, while encouraging some degree ofpolitical openness, is yet to show that it is willing toallow structural reforms to go forward.

Institutional Infrastructure. Our assessment overMorocco’s I.I. as presented in the overall Scorecardsshows a rating of 2.7 with Financial Sector, CorporateGovernance and Trade and Competition marked higher

than the Political System and the Legal Framework. TheManagement Scorecards is even lower – at 2.5 –reflecting the country’s serious deficiencies inimplementation performance and capacity.

Weakest areas are:• political power concentrated effectively in the

Palace hands • management process hampered by a bloated civil

administration• judiciary neither transparent nor fully independent• apparent reluctance of Government to take

decisive steps to fully withdraw from the bankingsector and lack of depth of financial markets

• lack of financing and of appropriate distributionchannels for credits to the rural community.

Strongest areas are:• effective management of foreign aid by the

Department of the Treasury at the Ministry ofFinance with no corruption scandals reported inthe last years (somewhat of an exception in theoverall system)

• relatively clear definition of rules and structuresfor corporate Governance and administrativestructures thereto

• recent increases of direct foreign investmentwhich has doubled in the past 3 years, even afterexcluding the proceeds from telecom sales,showing a moderate success in attracting anddiversifying FDI.

The future challenge. Morocco has a limitedwindow of opportunity during which to accelerate thereform process while strengthening human resourcesand addressing social deprivation. This arises from asuccessful track record in economic stabilization, theprospect of windfall revenues from privatisations, andthe measures already taken to decentralizeadministration and to facilitate inward investment. Thiswill require stronger government commitment to realreform, and closer coordination with donors oncompetitiveness issues and with NGOs on povertyissues. The outcome of the recent parliamentaryelections will be a broad-based coalition government,which may face similar problems to its predecessors inmoving reforms forward. The growth in support forthe moderate Islamist party may add to thesedifficulties. The willingness of the Palace and the elitesurrounding it to relinquish some of its politicalinfluence remains an open issue. Failure to do so couldresult in increasing tensions as social disparities lead toinstability or worse.

Pakistan: Back to the basics? Significant growth in spite of important shocks.Since independence about 50 years ago, Pakistan’seconomy has grown at an average rate of 5% p/a –superior to that of the population – which isremarkable given three wars with India, an unsettledsituation in Afghanistan, and frequent changes ofGovernment between civilian and military regimes.Attempts to achieve democratic governments havegenerally failed mostly because of internecine partypolitics68. The country has, in the 90s suffered frompermanent fiscal deficits, hovering around 6-7% ofGDP for many years, which resulted in anunsustainable level of debt (100% of GDP), lack orinvestor confidence and until very recently, very low

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Morocco has a limitedwindow of opportunityduring which toaccelerate the reformprocess whilestrengthening humanresources andaddressing socialdeprivation. This willrequire strongergovernmentcommitment to realreform, and closercoordination withdonors oncompetitiveness issuesand with NGOs onpoverty issues

68 Indeed, it can be argued that democracy as has been practiced in Pakistan has simply allowed the elites to capture power through electionswithout sharing it with its citizens. And with this came corruption, incompetence and inefficiency and, thus, reduction of growth in those –supposedly democratic – periods.

levels of foreign exchange reserves. In spite of this,the country has developed a reasonably efficient anddynamic external trade sector although its exportsare concentrated on textiles and clothing, reducingthe negative trade balance through the last fewyears. The military government that took over in1999 has launched a comprehensive reformprogramme that attempts to address the issues ofgovernance, slow growth, social gap and the heavydebt burden. The programme, supported by the IMFand the donor community in general and detailed inthe Interim Poverty Reduction Strategy Paper, focuseson six areas: governance, investing in people,macroeconomic sustainability, the financial sector,the investment climate for the private sector, andagriculture and irrigation.

But over-dependency on aid. Pakistan is a clearexample of aid dependency having extensively relied onforeign savings (aid and remittances) to fund its deficitswhile maintaining an intimate relationship with donors.But flows have often been irregular because of politicalevents, either internal or external. This has introduced anelement of volatility and uncertainty in aid’s role andimpact. In spite of this, over the last 30 years net officialfinancing flows in Pakistan as a proportion of GNP havegenerally been above those for the South and CentralAsia region and for LDCs in general. The continuousreliance on the donor community – particularly theWorld Bank69– coupled with the country’s inability todiversify its external funding out of official flows, hasresulted in 80% of Pakistan external public debt beingowed to multilaterals and the Paris Club and otherbilaterals. This is a much higher portion than most otherAsian countries of this size. Overall, aid has beenmanaged relatively efficiently especially in the early yearswhen it focused on traditional project financing. But thiseffectiveness has been eroded progressively when the aidfocus switched substantially to reform, support andbalance of payments funding. At the same time the veryweak administrative capacity has affectedimplementation of complex and multi-facettedprogrammes at the local level. The well developed NGOsector – accounting for at least 5,000 active NGOs plus asimilar number registered but inactive – is recognized asbeing effective contributors to poverty reduction in ruraland urban areas and are today recognized by theGovernment – and donors – as an appropriate channelfor that purpose. But their capacity to deliverdevelopment initiatives remains, nonetheless, limited.Their “standing” in the country as allocators of resourcesto the social sectors including local infrastructure projectsand micro credit schemes, and their local presence,makes them increasingly eligible for capacity buildingschemes and funding programmes at local level.

Yet poverty continues to be an endemic problem.It has risen in the 60s, decreased in the 70s and 80s andworsened again in the late 90s. Still today about a thirdof the population lives in poverty, and the incomedistribution has followed a similar pattern. Pakistan lagsbehind other countries of similar levels of income onalmost all social indicators, and its public spending onhealth and education – totalling about 3.5% of GDP(against significantly more in an area, defenceexpenditures, that is not known for its social impact) – isalso lower than what it should be. Progress in economicgrowth has not been translated in the social sectors:Pakistan was 127 out of 162 countries on the HumanDevelopment Index in 1999 and gender disparities are

clearly more pronounced than in most other countries.This social gap is likely to continue affecting thecountry’s ability to sustain growth and development.

Institutional Infrastructure. Our assessment ofPakistan’s I.I. as presented in the overall Scorecardsshows a rating of 2.8 with the Financial Sector andTrade and Competition showing a 3.3 assessmentand the others significantly below. Managementscorecard, not surprisingly, is valued even lower – at2.5 on average witnessing the lack of managerialcapacity at practically all levels.

Weakest areas are:• mismanagement and particularly corruption, which

still pervades all branches of Government (Pakistanis ranked 71st out of 91 countries in the corruptionindex of Transparency International) has been a keyobstacle to improve Pakistan’s ability to manage itsown future in an effective and sustained way.Political Governance has deteriorated and thecountry has remained highly centralizedadministratively. Local Governments have playedlittle role until now. The system has been abused bypolitical parties and by elitist interests which haveincreasingly captured access to resourcesirrespective of the political regime in power.

• the effectiveness of the Judicial System has beenrepeatedly compromised by political practicesand has not garnered the necessary degree ofindependence from the Executive, particularly interms of securing adequate and predictablebudgetary resources. As a result, the level ofconfidence of the population in it is extremelylow, particularly at the subordinate level.

• concerning private Corporate Governance, lawsand standards are on paper satisfactory but yearsof political uncertainty, the pervasive corruptionat the administrative level, and law and orderproblems have not been conducive to thedevelopment of ethical standards of behaviour inthe business sector which has, indeed, been aparty in the overall “system abuse” that hashistorically taken place in the country.

Strongest areas are:• the Central Bank of Pakistan is a well-respected

institution whose operations and supervisoryfunctions have been substantially enhanced in thelast 10 years with assistance from the IMF, the WorldBank and the Asian Development Bank. This process,initiated by the Central Bank and the Ministry ofFinance under a programme of “home-grown”reforms in 1997 should continue with the currentreforms which address the root causes for the badperformance of the financial sector in the past.

• Pakistan has gone a long way in liberalizing the traderegime while restructuring and increasing efficiencyin the key bodies responsible for trade management.Reforms and improvements have consistently takenplace and its pace is accelerating lately.

• the Ministry of Finance has been responsible forcoordinating and managing development aidprogrammes in the country and constitutes anotherarea of exception to the general mismanagementand corruption that has plagued the country.

The future challenge. A major effort, and onethat is more comprehensive than in the past, isbeing put by the current Military Government to try

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Pakistan is a clearexample of aid

dependency havingextensively relied on

foreign savings to fundits deficits while

maintaining an intimaterelationship with

donors. But flows haveoften been irregularbecause of political

events, either internalor external, introducingan element of volatilityand uncertainty in aid’s

role and impact

69 Where, incidentally a high proportion of Pakistani citizens held high positions, thus, facilitating this dialogue (yet resulting in a somewhat“blurred” ownership concept of the main aid programmes).

to set Pakistan on a steady and effective growthand development path. Governance issues are atthe forefront of this effort, which includes majorreforms of the political, judicial, financial andadministrative set ups. The Government’sprogramme also includes a very ambitious plan todevolve political and fiscal central power to a seriesof new local governments, and a Poverty ReductionStrategy designed to improve social services deliveryas the country’s top priority. The questions arewhether reforms of that amplitude and depthwould have better chances to succeed ifimplemented by a military government andwhether that growing participation of the armedforces in the management of the economy willaffect the need to develop democratic institutions.

Finally Pakistan has little choice but to continuedepending upon steady support from donors toimplement its reform programmes. Yet this is, initself, dependent on three factors:

• stability in the region is crucial for Pakistan’sability to grow on a steady footing;

• the envisaged reforms are long-term oriented anda “new” consensus is required to secure donor-Government support on a long-term basis too;

• irrespective of the above, Pakistan must improveits ability to manage its own future and itscredibility with its external partners.

Peru: Significant investment failing to improvepeople’s lives. Performance volatility. Since the 70s Peru has hada volatile economic performance, although it hasbecome a more stable country in the past decadefollowing the 1980’s economic mismanagement,hyperinflation and rampant terrorism. During 1980to 1985, a period of debt crisis, real GDP advancedby just over 1% per annum and plummeted by11.8% in 1983. A retreat into protectionism from1985 produced an unsustainable boost to economicgrowth in 1986 and 1987 and real GDP fell by11.6% in 1989. Macroeconomic reform in the 1990sproduced strong growth – real GDP advanced byover 4% on average per annum during 1990 to1997. The strong growth in 1994 to 1995 reflectedstrong investment fuelled by large capital inflows.The drying-up of foreign capital in the wake of theAsian financial crisis hit the Peruvian economy hard in1998 and growth in 1999 came from the primarysectors of the economy only. Real GDP increased byless than 1% in 1999. The domestic economycontinued to endure the effects of the El Niñoweather phenomenon that hit agricultural harvests inlate 1997 and early 1998. Domestic demandremained depressed in 2000 with the increase inpublic expenditure in the run-up to the elections inApril and May offset by low levels of investmentcaused by the political uncertainty. Real GDPaccelerated by 3.1% in 2000.

Yet extensive funding available. Net officialfinancing as measured by net flows of ODF (OfficialDevelopment Finance) has increased in real(constant $US 1999) terms since the 1970’s.Accounting for approximately $1billion annually onaverage in the 1990s, compared with $653 millionduring the 1980s and $428 million in the 1970s,net ODF reached a high of $2.2 billion in 1997.From 1977, net ODF as a proportion of GNP in Peruhas remained above that of Latin America and

fluctuated around that for developing economies asa whole. Net ODF as a proportion of GNP reached ahigh of 6.3% of GNP in 1992. In 2000, net ODF asa proportion of GNP was 2.1% in Peru, 1.1% indeveloping economies and 0.6% in Latin America.

Net private capital flows peaked in 1975 and again in1982 before escalating in the latter half of the 1990s,reaching a period high of $6 billion in real terms in1996. Averaging $1.2 billion per annum in real terms(constant US$ 1999) during the 1970s, the annualaverage decreased to just $542 million in the 1980sbefore increasing again by $2.6 billion per annum inthe 1990s. Net private capital flows reached a high of$5.8 billion in real terms in 1996. Net private capitalflows now account for 6% of GDP, compared to lessthan 1% at the beginning of the period. In the 1990’sportfolio investment flows helped to drive the increasein net private flows and was helped by foreign directinvestment flows in the latter half of the decade.

With little results. Despite the improvement ineconomic performance, particularly in the 1990’sand relatively large amounts of ODF and privatecapital flows during the decade, inefficient publicinvestment management and poor monitoring ofaid programmes by some of the bilateral andmultilateral lenders resulted in poor targeting andlow or negative returns of such programmes. Peru’sGNP per capita for the year 2000 of just US$ 2,080compares to an average of US$ 3,680 for LatinAmerica and the Caribbean as a whole and over54% of all Peruvians live in poverty.

Although NGOs in Peru are important social actorsin development and are perceived as an efficientservice reaching the poor and improving their liveswhile at the same time identifying real local needs(A World Bank report on Peru in 1996 stated thatNGO-administered programmes has a significantlybetter targeting record than most publicprogrammes), they are not making significantinroads into reducing the significant povertysuffered by the country’s citizens.

Institutional Infrastructure. Our assessment ofPeru’s I.I. as presented in the overall Scorecards showsa rating of 3.1 mostly on account of the deficiencies inthe rules, structure and, above all, management of thePolitical System, its Legal Structure and CorporateGovernance. The management scorecard shows thatonly the Financial System and Trade and Competitionmerit a score above a very low 2.

Weakest areas are:• The 1993 Constitution was designed to provide

more efficiency in Government and greaterautonomy to the Judiciary. Its “on paper” rules andstructure are well designed but its managementhas been poor; political interference and moves bythe Fujimori administration to curtail suchautonomy only worsened the situation ofinefficiency, poor human resources and corruption.The common perception is that the current state ofmanagement of the Judiciary is seriously damagingthe economy. The good intentions of the newToledo Government are on the other hand likely toimprove this situation as and when political andjudicial reforms are introduced.

• In Corporate Governance, the country has onlyrecently undertaken moves to improve the viabilityof public investment and should start to see positiveresults in the medium to long term. However, unless

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Despite an improvedeconomic performance,ODF and privatecapital flows, aninefficient publicinvestment managementand poor monitoring ofaid programmes bysome of the bilateraland multilateral lendersresulted in poortargeting and low ornegative returns of suchprogrammes. Peru’sGNP per capita isbelow the average forLatin America and theCaribbean and over54% of all Peruvianslive in poverty

all the multilateral and bilateral donors ensure thatthey also control and monitor investment projectsafter disbursement, the overall efficiency of aid isunlikely to be ensured. In private corporategovernance, despite Peru’s relative goodpositioning, especially with respect to the generaladoption of international accounting standards,such issues as the protection of minority interestsare not well developed. Proposals are on the tableto provide a greater protection for shareholders.This is due to the fact that the majority of Peruviancompanies are characterized by their familyshareholdings and the law has until now beenfocused on “closed companies” and did notintroduce mechanisms of control overmanagement, protection of minority shareholdersnor information obligations for shareholders.

Strongest areas are:• Peru’s financial sector is relatively well established

and regulated and has managed crises effectively. Inaddition, the recent growth and success ofinstitutions that are focused on small and microbusinesses are a good example of the benefits thatcan be derived from providing the right regulatoryframework which encourages formalisation. The1997 banking law permitted the creation ofEDPYMES (Development Institutions for SMEs) andenabled the formalisation of NGOs which had beenundertaking micro lending activities, by loweringthe barriers of entry (mainly capital requirements)into regulated banking. It, additionally, has had thebenefits on the one hand of providing access toCOFIDE funding and on the other of motivating theformal banking sector to downscale and initiatelending to the “real economy”.

• Peru’s customs is also an outstanding example ofthe benefits that institutional management reformcan bring. At the beginning of the 1990’s Peru’scustoms authorities could be described asoutdated, poorly equipped and corrupt. Today, theyare acknowledged as a world-class organization.

The future challenge. The challenge for Peru is toensure that the highly necessary judicial reforms thatare widely agreed upon take place. Both the WorldBank Judicial Reform Project as well as the JudicialTraining Programme of the Bankers’ Associationshould be expeditiously implemented. The CorporateGovernance Reforms which have taken place andthose in the pipeline should be consolidated andimplemented respectively to ensure better targetingand greater transparency in public spending. Theefforts of NGOs should continue to be encouragedand funded, especially those that have convertedtheir MSME lending into formal FIs.

Uganda: Managing a Post-Conflict EconomyDonor supported and led reforms successfullyturned the economy around. Following more thantwo decades of turmoil and civil war which all butdestroyed the transport network, power and waterfacilities, eroded the country’s competitivenessresulting in negative net exports, reserves providingless than two weeks import cover, acceleratinginflation and negative growth rates, Uganda longhesitated to define and implement policiesdesigned to stem the decline which was furtherexacerbated by the insolvency of the banking sectorand the continuous deterioration of the alreadyweak firms still operating within the dying privatesector. By the late 80s the Museveni Governmentissued from the end of the civil war embarked on an

Economic Recovery Programme (ERP) with thesupport of the IMF and the World Bank and, in theearly 90s, introduced wide ranging economicreform policies supported by successive – 25 –policy based Structural Adjustment Loans which bythe end of the 90s had resulted in: • GDP growth rate averaging 7.6% p/a• private sector investment increasing to 13% of

GDP (from 9% a decade earlier)• gross domestic savings raising from 2% to 8% in

the decade• inflation declining to an average 8% p/a (down

from 190% in the period 1987-91)• current account deficit to GDP ratio narrowing to

4% in 1996 (from 6% at the beginning of theperiod) and monetary deepening occurred withthe ratio M2/GDP increasing to 11.7% from8.2% in the same period.

In spite of the deterioration in terms of trade thathas occurred in 1999 and 2000, Uganda stillmanaged reasonable growth rates of around 5%each year, fuelled by the development ofagricultural production, exports of traditionalcommodities (coffee, tea, tobacco, cotton) and thebeginnings of an export diversification strategywhich is essential to the country’s future.

The Government has demonstrated “ownership” ofthe reforms, because it has factored theconditionality brought about by donor support intoits own policies and reform programmes. Multilateralaid flows dominated total net ODA flows until themid 90s and the EU member countries as a grouprepresented more than 50% of total ODA in thesecond half of the decade. There has been a strongsteady build up in grant disbursement to Uganda inthe last two decades, while net private capital flowshave increased dramatically during the 90s, with FDIbeing the main driver to represent 104% of netprivate capital flows in 1999. Post-conflict Ugandahas, indeed, benefited from generous foreign aid andthe country made exceptionally good use of thatsupport to the point of being, in many respects, atthe forefront of the changing face of aid utilisationand effectiveness: it became the first country to beeligible for debt relief under the HIPC Initiative in1997, but this was based on Uganda’s prior design ofits “home grown” Poverty Eradication Action Plan(PEAP) founded on four pillars under which strategiesand priorities that are key for poverty reduction areidentified and targets set. These pillars are:

• Economic growth and structural transformationfor poverty reduction

• Good Governance and security• Increasing the ability of the poor to raise their

incomes• Improving the quality of life of the poor

This constitutes the framework within whichoperates a strong partnership between government,donors and civil society with the sole purpose ofdesigning, implementing and managing pro-poorand social reforms. And NGOs play an important role:They have excelled in the provision of advocacy andmonitoring (economic policy and communitydevelopment and political reconciliation) includingalso services delivery, all within the participatoryapproach set by the Government, and madegenerally a very positive contribution to theGovernment’s pro-poor development policies todate. Other than the major international NGOs there

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Post-conflict Uganda is,in many respects, at the

forefront of thechanging face of aid

utilisation andeffectiveness: it became

the first country to beeligible for debt relief

under the HIPCinitiative, but this was

based on Uganda’s priordesign of its “home

grown” PovertyEradication Action

Plan founded on fourpillars under which

strategies and prioritiesthat are key for povertyreduction are identified

and targets set

has also been a positive emergence of well-managedlocal NGOs acting as effective lobbyists andmonitoring the Poverty Action Fund. But theGovernment is concerned that the large number –more than 3000 – of NGOs makes it difficult tocoordinate initiatives and plan for the equitableallocation of resources and furthermore, weakmanagement and professional capacity in manyinhibit the quality of their influence and contributionto policy design aimed at poverty reduction.

However, and in spite of this strong policy andinstitutional focus on poverty reduction anddevelopment of the social sectors, specifically educationand health, plus the fact that the distribution offinancial resources (both national budget anddevelopment aid, and those of the Poverty Action Fundwhich “captures” the savings resulting from debt relief)is clearly skewed towards the sectors with immediateand direct impact on poverty alleviation, a lot is still tobe done. Uganda’s relative performance comparedwith similar LDCs is still below averages in most socialindicators (except primary gross enrolment). Indeed, inspite of growth rates of 6% average in the last decade,

the country remains one of the poorer countries of theworld, with a GNP per capita of US $ 291.

Institutional Infrastructure. Our assessment ofUganda’s I.I. as presented in the overall Scorecardsshows a rating on 3 with the Financial Sector andthe Political System marked significantly higher thanCorporate Governance and Legal Framework andabove Trade and Competition. The ManagementScorecard at a similar level is a reflection of thecountry’s deficient management capabilities (exceptat the excellent Ministry of Finance –see below) andthe pervasive importance of corruption.

Weakest areas are:• Uganda does not have a history or culture of

good governance and a tremendous amount ofwork needs to be done to bring best practices,particularly on corporate governance (as opposedto political one) which is still in its infancy at boththe Government and private sector level. Indeed,the private sector organizations have been moreinclined to provide resources to macro-economicpolicy formulation than on focusing and

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Uganda’s performancerelative to similar LDCsis still below average inmost social indicators.In spite of averagegrowth rates of 6% overthe last 10 years,Uganda remains one ofthe world’s poorestcountries, with a GNPof US $ 291 p/c

OVERALL SCORECARDS

Political System

RulesStructureManagementCombined Rating

Legal Framework


Financial System


Corporate Governance


Trade & Competition


Overall Rating


Ivory Coast Malaysia Morocco Pakistan Peru Poland T&T Uganda

322

2.3

211

1.3

444

4.0

433

3.3

311

1.7

322

2.5

5.55.55.55.5

544

4.3

544

4.3

544

4.3

544

4.3

544

4.6

232

2.3

322

2.3

433

3.3

332

2.7

332

2.7

332

2.7

332

2.7

322

2.3

433

3.3

322

2.3

433

3.3

332

2.8

332

2.7

322

2.3

443

3.7

332

2.7

444

4.0

333

3.1

442

3.3

442

3.3

554

4.7

332

2.7

444

4.0

443

3.6

543

4.0

543

4.0

555

5.0

444

4.0

553

4.3

544

4.3

444

4.0

322

2.3

544

4.3

111

1.0

334

3.3

333

3.0

3.73.62.83.4

3.52.62.32.8

4.54.03.84.1

3.32.92.52.9

3.93.43.13.5

3.83.32.93.3

• Overall Management ratings have been rounded up to the highest decimal to make this presentationconsistent. This is why these figures do not exactly coincide with the Overall Management Ratings as pernext table.

• Malaysia partial ratings include a decimal assessment because we have introduced in the country reportin addition of an evaluation of the political system an evaluation of the macroeconomic management.See Volume II.

69

The challenge forUganda is to implement

further structuralchanges in favour of the

productive sectors toachieve sustainable

development and reducereliance on aid flows by

creating anenvironment which

facilitates private sectorgrowth to replace public

sector dominance ineconomic productionand the provision of

essential services

MANAGEMENT SCORECARDS

IvoryCoast Malaysia Morocco Pakistan Peru Poland T&T Uganda

Political System

Objective setting &Accountability 3 5.5 2 3 2 2 3 6 3.3Quality of Personnel 2 5 3 2 2 2 4 4 3.0Effective ofDecision Making 2 5.5 2 2 2 2 3 5 2.9Effective of Procedures 1 5.5 2 2 2 2 3 5 2.8Costs/Waste 2 5.5 2 2 2 2 3 4 2.8Corruption 1 4 2 1 2 2 4 2 2.3Combined Score 1.8 5.2 2.2 2.0 2.0 2.0 3.3 4.3 2.9

Legal FrameworkObjective setting &Accountability 1 5 2 2 2 3 4 2 2.6Quality of Personnel 2 4 1 2 2 2 4 2 2.4Effective ofDecision Making 1 4 2 1 3 3 2 3 2.4Effective of Procedures 1 4 2 2 2 2 2 2 2.1Costs/Waste 1 3 2 2 2 2 3 2 2.1Corruption 1 4 2 1 2 2 3 2 2.1Combined Score 1.2 4.0 1.8 1.7 2.2 2.3 3.0 2.2 2.3

Financial SystemObjective setting &Accountability 4 5 3 4 4 4 5 5 4.3Quality of Personnel 3 4 3 4 3 5 5 3 3.9Effective ofDecision Making 3 4 3 4 3 5 5 4 3.9Effective of Procedures 4 4 4 3 3 5 4 4 4.0Costs/Waste 4 4 4 2 3 5 5 5 4.0Corruption 4 3 4 3 4 5 5 4 4.0Combined Score 3.7 4.0 3.5 3.3 3.3 4.8 4.8 4.1 3.9

CorporateGovernanceObjective setting &Accountability 3 5 3 3 2 3 5 3 3.4Quality of Personnel 3 3 3 2 2 3 5 2 2.9Effective ofDecision Making 4 3 2 3 2 3 3 2 2.8Effective of Procedures 3 4 2 2 2 2 3 2 2.5Costs/Waste 3 4 2 2 2 2 3 1 2.4Corruption 4 3 3 2 2 2 3 1 2.5Combined Score 3.3 4.0 2.5 2.3 2.0 2.5 3.7 1.8 2.8

Trade andCompetitionObjective setting &Accountability 2 4 3 4 4 4 3 3 3.4Quality of Personnel 1 4 2 3 4 4 4 3 3.1Effective ofDecision Making 1 4 3 3 4 4 3 3 3.1Effective of Procedures 1 4 2 3 4 4 2 3 2.9Costs/Waste 2 4 2 3 4 4 4 2 3.1Corruption 2 3 3 2 4 4 3 2 2.9Combined Score 1.5 3.8 2.5 3.0 4.0 4.0 3.2 2.7 3.1

Overall ManagementRating 2.3 4.2 2.5 2.5 2.7 3.1 3.6 3.0 3.0

managing the process to enhance CorporateGovernance itself.

• as a result of Uganda’s post conflict status the needto strengthen the legal system has been a clearpriority by Government and donors alike, withsuccessive upgrades of the legal framework to makeit more appropriate for a rapidly growing economy. Inspite of this progress there are major problems withthe operation and administration of commercialcourts, commercial registers and commercial lawyers.This is reinforced by the lack of a debt repayment

culture, the inability to enforce debts through thecourt system, lack of resources and the perceptionthat corruption amongst judiciary staff is rife.

• although trade liberalisation has been central toUganda’s structural reform process, lack ofinfrastructure, difficult access to export finance,strengthening links, and improving governanceare key areas for Uganda to focus on in order toimprove trade management. Furthermore, its taxsystem remains heavily reliant on internationaltrade, making it prone to external shocks.

70

The record of thecountries assessed ashaving a strong I.I.indicates they madebetter use of the aidthey received. The

converse relationship ismore tenuous; aid canhave a positive impacton the development of

I.I. but does notalways. Aid can do

unintended harmresulting from how

donors allocate fundsand implement aid

programmes

Strongest areas are:• although, given its history, party politics in Uganda

have never achieved a high level of multipartydemocracy, the country had developed an effectiveparticipation approach, particularly on economicdevelopment issues, and it has developed one of themost decentralised local government systems in Sub-Saharan Africa and one in which fiscal and politicalpowers are imbedded in the Constitution in order to“ensure people’s participation and democraticdecision-making”.

• the Ministry of Finance is the primary economicinstitution. It is highly effectively managed, andalso designs and implements successfullyeconomic policies and strategies. It has alsobecome the focal point for effectively mobilisingand managing development aid through its AidLiaison Dept. which has a central aid coordinationrole. This has been further supported by theGovernment’s setting up monitoring structures toassist in measuring progress, as well as foraccountability and transparency reasons, to boththe donors and the electorate.

• although the – small – financial sector is stilloligopolistic, relatively inefficient and primarilyinterested in the upper end of the small corporatemarket – leaving a significant populationunbanked – it benefits from having a highlyprofessionalized, fully independent Central Bank(as imbedded in the Constitution), capable ofcarrying out a strong supervisory and regulatoryactivity, including the closure of insolvent banks,and being at the forefront of the envisaged –much needed – reforms of the sector.

The future challenge. The challenge for Uganda is toimplement further structural changes in favour of theproductive sectors to achieve sustainable developmentand reduce reliance on aid flows by creating anenvironment which facilitates the growth of the privatesector to replace the dominance of the public sector ineconomic production and the provision of the essentialservices. What will be required is a confirmation of theimprovements in the institutional framework (rules andstructures) and, mostly, upgrading the effectivemanagement in the line ministries, and in thesupporting regional agencies to the same level as seenin the Ministry of Finance and the Central Bank. Furtherahead, and following President’s Museveni’s secondelection as President in 2001, the challenge would beto translate the effective reforms introduced ineconomic policy matters into the political sphere andthe jury is out as to how this should be guaranteed toensure that future governments continue to giveabsolute priority to eradication of poverty, still thecountry’s most poignant problem.

2.2.4 Interaction of I.I. and aid effectiveness

Our study confirms and elaborates the conclusion thatthe quality of a country’s Institutional Infrastructure hasa major impact on the effectiveness of aid to it. Asdiscussed in the previous section, the record of thecountries assessed as having a strong I.I. (relative toother countries of comparable income level) indicatesthey made better use of the aid they received. Thissection of the report summarises the mechanics ofhow the major components of I.I. – policies, structureand management impact on aid effectiveness.

The converse relationship - the impact of aid onInstitutional Infrastructure - is more tenuous. Aidcan have a positive impact on the development ofI.I. but does not always do so. Aid can dounintended harm as the result of the ways donorsallocate aid funds and implement aid programmes.The World Bank has acknowledged its ownlimitations in this area. “The Bank’s contribution toInstitutional Development has been modest, both inmiddle and low income countries….the Bank’sdiagnosis of institutional, political and governanceconstraints has generally been weaker than itseconomic and technical diagnosis”. 70

Policies Have A Critical Influence On TheEffectiveness Of AidGovernment economic policies impact on aid in twoways. First, macro-economic policies define thecountry’s fiscal balance and the sustainability of itsexpenditure plans: what can be called setting theright “size of the pie”. Secondly, sectoral policiesdetermine how effectively “the pie is divided”.

Macro-economic policies have a critical influence onthe effectiveness of aid for the same reasons that theyaffect economic growth. As the case study of Malaysiashows, prudent public sector management helpsstimulate both domestic savings and attract foreigninvestment for development. On the other hand,economic policies that engender balance of paymentsdifficulties, high budget deficits or high rates ofinflation are likely to foster a climate of economicuncertainty, which creates difficulties for publicexpenditure management and dampens the privatesector’s response to the public investment representedby aid. For example, an agricultural project does notachieve projected improvements in output orproductivity because macro-economic policies haveresulted in an overvalued exchange rate that makes thefarmer’s output uncompetitive. Among the countrieswe surveyed, in the Ivory Coast inappropriate policiesand poor budgetary discipline dissipated the benefits ofthe economic “miracle” created by substantial aid (andstrong commodity prices) and ultimately contributed tothe curtailment of aid programmes.

Distorted or insulated sectoral policies canundermine the allocative and operational efficiencyof aid programmes, for example by directing adisproportionate amount of aid expenditures topolitically influential activities or regions. Several ofour case studies (e.g. Morocco and Pakistan) indicatehow the influence of political elites on budgetaryallocations has detracted from the effectiveness ofaid funded social programmes designed to assist thepoor, particularly in rural areas.

The critical factor for aid to be effective is that thebeneficiary countries take ownership of policies thatare based on sound macro-economic managementand commitment to poverty reduction.

While good policies have a clear beneficial impact onthe effectiveness of aid, aid is not a primarydeterminant of good policies. Countries economicpolicies (good or bad) have been primarily driven bydomestic political factors (vested interests, leadership,administrative capacity, consultative processes) ratherthan by aid or the preferences of the donors. In thefirst place, donors have not discriminated effectively in

70 World Bank Operations Evaluation Department, 2000 Annual Review of Development Effectiveness, page 22.

supporting countries with sound reform policies. Aidallocations have been supply driven by pre-determinedcountry preferences and there is a high degree ofinertia of aid flows to countries (good and badperformers)71. In addition, as noted in our Phase 1report (page 76) “conditionality has failed as amechanism for inducing better performance.”

A World Bank study of how aid affected economic policyin 10 countries in Africa indicated that aid supportsreform in some countries but sustained poor policies inothers72. The study showed that countries characterisedas “mixed reformers” (Ivory Coast, Kenya and Zambia) or“post-socialist” reformers (Ethiopia, Mali and Tanzania)received substantially higher levels of aid than“successful” reforming countries (Ghana and Senegal).

Structures Define Design and ImplementationCapacityThere has been increasing awareness in the aidcommunity that institutional capacity in recipientcountries is critical to development effectiveness. This isreflected in the shift in the agenda from emphasis onmacro-economic stabilisation to institution and capacitybuilding and reforming public sector management. Thisshift has been driven by the force of experience. Weakinstitutional capacity is an acute problem in many LDCs.In public agencies, civil servants are often poorly paidand inadequately equipped with the basic facilities andinformation to allocate and administer aidprogrammes. If key posts are under-paid, they will failto attract the competent, honest people but will openway to patronage and corruption. These limitationshave a direct impact on the effectiveness of aid. Asurvey of WB financed projects found that whereas theaverage success rate of projects was 68%, projects incountries with sound policies and capable institutionshad an 86% success rate. 73

Our studies illustrated the benefits and defects ofinstitutional arrangements. • In Uganda, despite major practical constraints on

capacity which was emerging from a period of civilconflict, the major economic policy making units(Ministry of Finance and Central Bank), insulatedfrom day-to-day political pressures and enjoyingstrong political support, have demonstrated a highlevel of policy design and management havecontributed to the effective use of aid in the country,particularly in directing it to poverty reduction74.

• In Morocco, a highly centralised administrationeffectively controlled by a political elite haslimited the impact of substantial amounts of aidon social programmes. As the recent GlobalCorruption Report 2001 concludes “publicinstitutions need to be strong, effective and theright size to ensure that the opening up to theglobal market does not allow the state to becaptured by private interests.” 75

The effectiveness of aid reflects in an important partthe extent to which private capital supports andcomplements the inflow of ODA. Motivating privateinvestors to invest depends on the depth, efficiencyand integrity of the financial legal systems.However, in cases where the formal financial sector is

either inefficient or restrictive, informal micro-financeinstitutions offer a credible and developmentallyefficient alternative. In Peru, the refinement of theregulatory system by reducing the entry requirementsto bring small business financing institutions(EDPYMES) within the formal system has stimulatedtheir growth (and improved the performance).

Conversely, aid supplied by donor agencies does notalways support sound institutional development in therecipient countries they are designed to assist. In somecases, their programmes – particularly in cases wherethey claim to the limited counterpart support ofrecipient countries – can have a detrimental impact onoverall institutional development. In addition, manydonor projects fail because they are poorly adapted tothe local environment: some are overly complex; otherstransfer programme designs that have been effective inone country to another for which is not appropriate.These failures demonstrate that donors do not assessrealistically the quality of the I.I. in recipient countries.

Our study of Trinidad highlighted that institutionalcapacity constraints are compounded by donorpolicies and practices, including

• Excessively complex conditionality;• A rigidly standardised (one size fits all) approach

to programme design;• Lack of donor co-ordination – a striking example

in a country where both the scale of theprogrammes and the size of the country shouldfacilitate such coordination.

In other countries, donors are often involved in toomany sectors creating donor “overload” forrecipients, especially in popular sectors such ashealth, education and agriculture.

Even when aid projects are intended to supportinstitutional development they are not alwayseffective. Recent studies by the World Bank’s OEDhave concluded that much of the Bank’s support forinstitutional development has been ineffective,because of either a narrow focus on institutionaldesign, a bias to supplying capacity building inputs(e.g training) before reforming structures as well asreliance on inflexible lending instruments. 76

The Effectiveness Of Aid Depends On How WellThe Institutional Infrastructure is ManagedAs we discussed in Chapter 1, aid is largely fungible.Governments can use increased resources (aid) as itchooses to increase spending, fund tax costs or reducedeficits. Aid goes mainly to government spending andis largely flexible between consumption andinvestment, regardless of whether aid is nominallytargeted to specific projects or programmes. Thus theeffectiveness of aid depends on how well a countrymanages its public finances in terms of macro-economic balance, sectoral allocations and operationalefficiency. For example:

• Almost a third of Africa’s US$ 130 billion investmentin roads has been lost due to lack of maintenance(because of policy and institutional weaknesses);

71

71 “Country programme budget allocations are relatively invariate with respect to country policy and project performance and are not alwaysfully aligned with the Country Assistance Strategy”: World Bank Operations Evaluation Department, 2000 Review of DevelopmentEffectiveness.

72 World Bank, Aid and Reform in Africa, 2001.73 World Bank, Assessing Aid, page 89.74 See Phase 2 report, Annex 3 page 302.75 Transparency International, Global Corruption Report 2001, page 3.76 See N. Gavishankar, Evaluating Public Sector Reform, World Bank, 2001.

There has beenincreasing awareness inthe aid community thatinstitutional capacity in

recipient countries iscritical to development

effectiveness. This isreflected in the shift in

the agenda fromemphasis on macro-

economic stabilisationto institution and

capacity building andreforming public sector

management. This shifthas been driven by the

force of experience

• Although large amounts of aid have beenchannelled to Peru, political interference andinefficient management of aid within the publicadministration have had a major negative impacton the results achieved.

Skill gaps in key areas (even basic accounting)weaken budget execution and programmeimplementation in general. The World Bankacknowledges that in the past it tended to over-estimate the capacity of counterparts and thequality of government control systems to ensurecompliance with procurement and financialmanagement standards. Our studies indicated thatthis is a continuing problem:

• In Pakistan, “A major effort by donors to addressthe major issues in the social sector resulted inlittle being achieved (mostly) because of theweak administrative capacity at the local level toimplement a complex programme“.

• In Trinidad, poor implementation capacity hasresulted in a failure to implement a number ofmajor investment projects and under-utilisationof available funding, leading to the cancellationof the second tranche of the EU’s LoméConvention allocation.

Design of delivery systems is critical to the qualityand access of efficient public services (health,education, utility services) funded by aidprogrammes. This requires innovative and flexibleapproaches, including those promoting privatesector and civil society participation in programmes.In cases, donor agencies are too bureaucratic tosuccessfully develop these type of programmes.

The Integrity of the Institutional InfrastructureIs Critical For Aid EffectivenessGiving development assistance to countries withweak institutional frameworks, low capacity andoften poor law enforcement poses substantial risks.Aid is less effective in a weak governanceenvironment where funds leak due to corruption.Evidence even suggests that aid inflows cancontribute to a decrease in public spending, weakenaccountability and governance while providing ampleopportunities for corruption. Misappropriation of aidfunds reduces both the volume of financing availablefor real development purposes. Examples abound:

• The Global Corruption Report 2001 quotes a WorldBank review of a road project in Paraguay, for whichthe Minister of Public Works increased the contractvalue from US$ 13 million to US$ 24 million withoutjustification in order to secure additional funds,apparently for his own purposes. 77

• The former President of Nicaragua is accused ofmisappropriating nearly US$ 100 million beforeleaving office in 2001 – equivalent to the annualhealth budget of the country. 78

Corruption also (a) undermines the integrity of thepublic administration and (b) encourages donors toresort to “enclave” structures (project implementation

units) segregated from recipient governmentstructures to manage their aid. While this latterapproach has advantages for the donor agencies, it isnot the best way to address the broader issues ofinstitutional inefficiency in the recipient countries,particularly where it involves attracting relativelyqualified staff from government service by offeringthem higher salaries. The World Bank has concludedthat it repeatedly underestimated the opportunitycosts of creating semi-autonomous units to speed upimplementation of specific projects in terms offoregone development of the core public sector, forexample, in Albania, Bolivia and Yemen. 79

A persistent problem in the management of aid hasbeen the scope and quality of monitoring andevaluation. Inadequate attention to evaluating theoutcomes of aid-funded projects and programmes,particularly on poverty reduction, by both recipientsand donors has meant that there are major gaps ininformation on the benefits achieved. As a result,defects in project design and implementation havegone undetected and uncorrected resulting incontinuing inefficiencies.

On the other hand, where governments arecommitted to reform and have competent anddedicated officials to manage the reform process,aid-funded support can be critically important inimplementing effective programmes. For example:

• In Uganda, the success of the programme toreturn nationalised property to private citizensrequired foreign technical assistance as well asthe strong political support of the government.

• In Peru, the reform of the customs administrationhas had a major impact in stimulating importsand increasing government revenues.

Conclusions:1. The quality of the Institutional Infrastructure

determines the effectiveness of aid in many ways.Previous studies have stressed the importance ofsound macro-economic policies and effectiveinstitutions as major influences on the success ofaid programmes. Our study suggests the importantinterdependencies between policies, structure and,most importantly, with management.

2. As the third main actor involved in thedevelopment equation (i.e. with Governmentand the private sector) Civil Society should be“given” a pro-active role in the definition ofpolicies, the development of innovative ideas andthe implementation of programmes, particularlythose related to poverty alleviation80.

3. Change takes time. While most countries need toimprove all the dimensions of the I.I. (rules,structure, management), it is seldom practical totackle all simultaneously. Recommendations forimproving the I.I. in individual countries need tobe based on a specific diagnostic evaluation ofeach country’s existing capacities and constraints.

4. But determined action, even if it is only partialand focused on one or a few aspects of I.I., canachieve rapid results.

72

Design of deliverysystems is critical to thequality and access ofefficient public servicesfunded by aidprogrammes. Thisrequires innovative andflexible approaches,such as promoting theparticipation of theprivate sector and civilsociety in programmes

Giving developmentassistance to countrieswith weak institutionalframeworks, lowcapacity and often poorlaw enforcement posessubstantial risks

77 Global Corruption Report 2001, page 174.78 The Economist, Waiting for the fat man to sing, 24th August 2002, page 43.79 Country Assistance Evaluations, quoted in N.Girisshaker, Evaluating Public Sector Reform, page 27.80 But the concept of Civil Society is not yet quite well defined and still undergoing conceptual research. Not much is known about how civil

society organisations really function and there is a need to create an appropriate framework for them to be organised and regulated. Thereport does not, therefore, enter into the details about how concrete civil society organisations would play specific roles compared with thosefrom governments and the private sector.

The previous chapter argued that InstitutionalInfrastructure should be improved in order to boostthe effectiveness of aid.

From a ‘top down’ perspective, an analysis of the aidindustry’s business dynamics highlighted its generallyuncompetitive nature, contributing to an “immature”interaction between the suppliers and consumers ofaid. This interaction can be characterised by a relativelack of product development, rather basic customersegmentation, inflexible operations and limitedflexibility in financing decisions. We argued thatimproving the Institutional Infrastructure of recipientcountries could make a significant contribution toaddressing these shortfalls, primarily by creating amore mature and capable set of aid consumers.Greater consumer maturity and capability wouldallow the dynamics of the aid business to becomemore competitive, more efficient and more geared toproducing acceptable results from aid finance – ineffect, developing a fragmented demand side tocounterbalance the strength of the supply side.

From a ‘bottom up’ perspective, our in-depthanalysis of a sample of 8 countries confirmed thestrength of the correlation between a country’sdevelopment track record and the quality of itsInstitutional Infrastructure.

This chapter now turns to the issue of implementinga programme for improving the management ofInstitutional Infrastructure, and deals with five topics:

i. Country lessons: Lessons that can be drawnfrom the country studies about implementing I.I.reforms (section 3.1);

ii. I.I. improvement measures: Synthesising theselessons into a simple yet comprehensive actionprogramme to boost I.I. management (section 3.2);

iii. Implementation conditions: Key steps toensure that action is taken (section 3.3);

iv. Other broader reform ideas: “Supply side”ideas that would complement the I.I.improvement measures in order to bolster aid’seffectiveness (section 3.4);

v The trade liberalisation issue: Aid alone willnot improve the lot of LDCs, and significant tradeliberalisation – a geopolitical issue – wouldtranscend and support any I.I. improvementprogrammes (section 3.5).

3.1 IMPLEMENTATIONLESSONS FROM COUNTRYSTUDIES

3.1.1 The Malaysian Experience

Although there is no “perfect model” that could beapplied to any situation, the evolution of Malaysiaconstitutes the closest example of “what works”within our sample of 8 countries. A review of the

performance and improvement of Malaysia’sInstitutional Infrastructure has shown that I.I.management is an integral, but not sole, driver ofthe country’s enviable and impressive developmentperformance over more than 30 years.

Before examining the lessons from Malaysia’sexperience, some words of caution:

a) A well-functioning Institutional Infrastructure isno magic wand; it is needed in addition toresources, sound economic policies, and otherdevelopment inputs. In other words it isnecessary but not sufficient.

b) Methods of achieving top-flight InstitutionalInfrastructure are not always transferable acrossborders. They need to be adapted and modifiedto suit local socio-political and cultural realities.

c) Like all economic processes, time is needed.There is no overnight fix. A long-term vision andpatient and consistent investment structured inprioritised phases are required to build a well-functioning Institutional Infrastructure.

d) Finally, we believe that the Malaysian experiencehas a great deal to offer other countries seekingto improve their Institutional Infrastructure.However, our observations are not intended as awholesale endorsement of Malaysia’s politicaland economic system – and potential issuesregarding the country’s democratic process havebeen discussed in the previous chapter.

With these important provisos, fifteen lessonsemerge from Malaysia’s experience:

Lesson 1: Create the foundations for strongGovernment. This will comprise:• Introducing (or enhancing) democracy at all

levels; national, regional and local. This should bebased on universal suffrage and entail frequentand fair elections.

• Encouraging the formation of political partiesrepresenting a wide range of views and policiesto enrich the diversity of Government talent.

• Promoting the emergence of coalitions to providea broad base for parliamentary majorities andthereby probably strengthen Governments andthe actions they could take.

• Supporting the development of visionary andhands-on leadership.

Lesson 2: Invest in a high quality publicadministration. Key elements of this will be:• Attracting and motivating the best human skills

by structured recruitment programmes andperformance assessments tied to bonuses.

• Ensuring that there is widespread andcompulsory training to modernise and developskills (this could include exchange programmeswith the private sector).

• Instilling a service culture and setting servicestandards linked to an efficient and transparentcomplaint procedure.

73

CHAPTER 3:

IMPROVING THE EFFECTIVENESS OFINSTITUTIONAL INFRASTRUCTURE

The evolution ofMalaysia constitutes the

closest example of“what works” within

our sample. A reviewof the performance and

improvement ofMalaysia’s Institutional

Infrastructure hasshown that I.I.

management is anintegral, but not sole,driver of the country’s

enviable and impressivedevelopment

performance over morethan 30 years

• Investing in efficiency tools, including the physicalinfrastructure of the public administration, andespecially the IT applications.

• Providing all needed resources to ensure that anti-corruption agencies can do their work effectively.

Lesson 3: “Re-invent” the operations ofGovernment on a regular basis. This includes:• Re-organising the institutions in Government and

the public administration to respond to new needs.• Reviewing the “business processes” and workflows

employed, and proposing improvements.• Introducing new tools and methods (preferably

IT-based) such as best-practice benchmarking,accountability and performance measures.

• Boosting the “openness” and accessibility ofGovernment at all times by setting the exampleat ministerial levels.

Lesson 4: Employ a sophisticated economicplanning system. This is very wide ranging andmust incorporate:• Establishing well-defined planning machinery with

institutionalised organisations, committees,procedures, timetables, and decision taking processesinvolving the highest levels of Government.

• Creating clear time horizons, with distinctionsbetween short, medium, and long-term, whileemphasising the latter.

• Institutionalising regular in-depth consultationand dialogue with a wide range of economic,business, labour and social groups.

• Catering for identified “customer segments” inthe planning process e.g. foreign investors, aregion, a minority group etc. and developingplanning policies tailored to them.

• Learning that planning does not mean doing:once the plan defines priorities, leave the“doing” to the business sector.

Lesson 5: Develop analytical and policyformulation capabilities. While this soundsinnocuous, it is in fact the foundation of severalother important elements in a well-functioningInstitutional Infrastructure and comprises:• Running a programme to identify and train the

necessary analytical staff: economists, financialspecialists, business people, exporters, etc.,which should include overseas training.

• Providing a “home” for this team, typically aspart of the planning unit but possibly in anadvisory unit or think tank of some kind.

• Developing world-class analytical techniquesthrough a programme of exchanges and study tours.

• Producing the country’s “own” economicanalyses and development programmes of aneven better quality than what is typically providedby the multi-lateral development institutions.

• Promoting original and innovative policiestailored to the socio-economic realities of thenation, thereby avoiding standard recipesdeveloped elsewhere for a different context.

Lesson 6: Ensure that poverty reduction policiesare effective. In some ways this is the most importantdevelopment policy because all groups in societyshould benefit from the full array of economic policiesin order to ensure social stability. This should include:• Undertaking detailed analysis of social groupings

and their poverty reduction needs.• Designing an integrated package of poverty

reduction policies to suit the separate segments,including rural development programmes, land

development programmes, village level civilsociety promotion and re-distribution objectives.

• Implementing these policies sensitively so that nogroup loses out, but that re-distribution isachieved with sufficient growth to ensure that allgroups gain in absolute terms, even if some loseout in proportionate terms.

Lesson 7: Learn to manage crises. Again, thissounds like “motherhood”, but in fact this is animportant element in earning international respectand maintaining independence in decision-making.This embraces a range of soft variables:• Introducing early warning systems to identify crises

as early as possible so that they can be tackledwhile still manageable and not yet out of control.

• Assembling the right team to deal with all aspectsof crises (analytical, prescriptive and decisionaspects) and ensuring that the most seniorrepresentation allows tough decisions to be taken.

• Creating clear organisational and authority linesbetween the crisis management team and thenormal economic management apparatus.

• Maintaining originality in the adopted crisismanagement measures, and avoiding standardrecipes which may not fit the bill.

Lesson 8: Become as selective as possible inexternal finance. Admittedly this is partly a matter ofwhat a country can afford, but it is also a question ofeconomic and attitudinal behaviour. It should include:• Defining the international financing needed for

the development plan.• Maintaining extensive information on availability

and terms and conditions of international financefrom all sources.

• Shopping around for the best deal which suitsthe country’s needs, thereby avoiding the“automatic” nature of many long runningdevelopment finance programmes.

• Developing negotiation skills in order to ensurethe best deal is structured for the country.

Lesson 9: Strengthen implementation capabilities.This comprises:• Allocating implementation responsibilities exclusively

to specialised agencies that already have, or willdevelop, the skills and appropriate behavioural stylewhich suits the implementation objectives (i.e.avoiding implementation responsibilities in thepublic administration).

• Creating an implementation management teamalong the lines of the Implementation and Co-ordination Unit (ICU) in Malaysia that is responsiblefor performance monitoring and support.

• Reporting frequently and at senior level onimplementation performance, triggering remedialaction if necessary.

Lesson 10: Instil key principles in publicdevelopment finance. While this exists on paper inmany countries, it must actually work in practice by:• Separating the revenue collection and expenditure

processes, at least at the authorisation levels.• Allocating funds for development expenditure

only on the basis of a bidding process driven by ademonstrated track record in implementation.

• Checking that all projects for financing areobjectively and independently selected bycomplying with approved selection criteria.

• Ensuring that procurement and contract awardsare transparent and in accordance withinternational practice and standards.

74

Lesson 11: Establish a long-term vision forfinancial sector restructuring. The health of thefinancial sector and its ability to mobilise andallocate domestic and international financialresources is a critical influence on overalldevelopment performance. It will require:• Conducting an open debate on the main

operational and structural configuration of thesector, taking into account international benchmarksand best practice.

• Creating and publicising a long-term vision for thefinancial sector drawing on that debate and analysis.

• Designing the implementation mechanism andauthority for achieving the vision.

• Providing the resources and institutions neededto clean up and eliminate current problems in thesector.

Lesson 12: Ensure that financial supervision istight and applied equally. There are two mainaspects to this:• Establishing the full range of financial supervision

institutions and creating world-class capabilitieswithin them to really perform their on-site andoff-site supervision tasks well.

• Avoiding “exceptions” so that all sub-sectorswithin the financial sector are supervised andthat all institutions operating in those sub-sectorsfall into the supervision net81.

Lesson 13: Promote and protect competition.This may appear another “motherhood” statement,but in practice there are specific InstitutionalInfrastructure aspects to develop, including:• Protecting consumers with appropriate legislation

backed by some form of watchdog system andassociated legal rights.

• Creating a transparent and efficient customs andexcise institution.

• Minimising licensing requirements for economicactivity, but if there are any, ensuring that thelicensing process and authority is efficient andtransparent.

• Announcing that any distortions in freecompetition from, for example, price subsidiesand/or customs duties, if they are applied, aretemporary and designed to achieve specificquantified objectives.

Lesson 14: Achieve the best levels in corporategovernance. This is a worldwide pre-occupationand is difficult to achieve, but key elements willcomprise:• Reviewing the legal basis of governance by

strengthening four areas: accounting and disclosurestandards, monitoring and surveillance, directors’accountability, and minority shareholders’ rights.

• Improving transparency and disclosure byenhancing accounting techniques and legislation.

• Empowering (new) institutions to play their partin achieving improvements in corporategovernance, such as by providing training todirectors, reviewing the listing informationsubmitted by companies, or acting as awatchdog group for minority shareholders.

Lesson 15: Keep the business sector happywith their legal rights. This is a programmeinvolving four main aspects:

• Creating “law and order” and a secureenvironment by providing the necessary laws aswell as enforcement mechanisms.

• Introducing a full set of commercial laws thatclearly define rights and obligations, especiallyownership title rights.

• Ensuring that the court system to resolve disputesoperates efficiently and impartially.

• Introducing safeguards to protect intellectualproperty rights (copyrights and patents).

To be of greater practical value for any nation wishing totake action on these lessons, they will need to bedetailed, prioritised in a phased programme andassigned to working parties. The working parties willneed to have the right skills to do the design work andmove on to implementation. They also need budgets.And it is preferable that they should report to thedemocratically-elected head of government who shouldtake a personal, hands-on role in leading this effort tobuild the Institutional Infrastructure. It is a great efforttaking time and money but, as amply demonstrated bythe case of Malaysia, the rewards of a well-functioningInstitutional Infrastructure are substantial.

3.1.2 Lessons from other countries

In addition to the lessons gleaned from Malaysia’sexperience, similar conclusions can be drawn fromthe wider sample of 7 other countries which eitherreinforce and/or present a different perspective onthe lessons already noted in Malaysia. Between all 8countries some common themes emerge that couldbe construed as a list of 10 ‘guiding principles’ forimproving I.I.’s management. These are:

1. Behaviour of the controlling “elites” – whetherfinancial, political or professional – is crucial ineither blocking or unlocking reforms, irrespective ofpolicies, economic performance, priorities etc. Twoextreme cases exemplify this point. On the onehand, in Morocco the entrenched economicinterests have effectively and consistently “put thebrakes” on real reforms in spite of “good”macroeconomic policies. On the other hand, inUganda a small group of technocrats at theMinistry of Finance and, to some extent the CentralBank, have defined and implemented real reformswith the support of the country’s President. Thesereforms have been specifically geared to reducingpoverty in a very difficult environment resultingform the country’s devastation prior to the 90s. Thisobservation links with the first lesson from Malaysiaabout good quality strong Government.

2. Successful countries score particularly highly onthe Political System: Creating an efficient publicadministration is a must to build up sustainabledevelopment aid policies and programmes(again this reinforces the observations fromMalaysia). Without that there is no efficientimplementation and programmes turn intofailures time and time again. Peru, Ivory Coast,Pakistan, and Poland constitute clear exampleswhere the lack of public administrationcapacities is one of the key elements explainingwhy results have not been commensurate withthe investments (aid flows) made.

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These lessons need tobe detailed, prioritised

in a phased programmeand assigned to working

parties that possess theright skills to do the

design andimplementation work.

They also need budgetsand should report to the

democratically electedgovernment head who

should take a personal,hands-on role. It is a

great effort but, asdemonstrated by the

case of Malaysia, therewards of a well-

functioning InstitutionalInfrastructure are

substantial

81 Many countries have failed to supervise some key parts of the financial sector, such as for example the non-bank financial intermediaries, andalso many countries allow public sector financial institutions to be partly or fully exempted from compliance with prudential limits, therebyleaving them effectively un-supervised.

3. Decentralisation of decision making (devolution)seems to have produced positive results onlyif/when adequate resources have been allocated tobuild some management capacity base in theregions: this has been the case of Malaysia but alsoin a limited way in Ivory Coast and Uganda. Butwhen this is not the case, decentralisation fails andmay become a further constraint to development.The case of Poland is an example of that. Obviouslyallocation of resources follows overall politico-economic ambitions and objectives. Entrusting localadministrations with the responsibility for certainservices and providing them with adequateresources to carry them out is also, basically, aneffort to recreate elected political institutions – i.e.effective democracy – at the local level for objectivesof long-term socio-political stability.

4. Reform needs to be “owned” by the LDCs ifimplementation performance is to be improved. Thereform programmes in all countries analysed, withthe exception of Malaysia, have been prompted bythe aid agencies mainly led by the World Bank andthe IMF. But implementation of these programmeshas been universally weak, with glaring examplesbeing Peru, Ivory Coast, and Morocco. In contrast,sometimes the Government has really taken“ownership” of the programmes and has genuinelyintegrated them into their own overall policies evenfactoring in the conditionalities: Uganda hasexcelled in that approach.

5. Economic growth, measured as GDP growth ratesover a period of time, is a necessary – but notsufficient – condition to reduce poverty. Wide-ranging policies specifically addressing povertyreduction need to be adopted – and be made anabsolute development priority – by Governments,which then should ensure that they can beadequately funded and properly managed.Examples include Pakistan, Poland and Trinidad andTobago, where poverty has not been reduced inspite of achieving consistently high growth rates.Obviously, population growth is the other relevantfactor that defines the poverty equation. Pakistan’simpressive economic growth failed to meet theneeds of an increasing population. Indeed, the onlycountry in which poverty has been reducedsignificantly is Malaysia. It is clear that povertyreduction is the main indicator of developmentsuccess – and will increasingly be so given the verydisappointing results in this area in the past.Governments have a crucial role to play (probably incollaboration with NGOs; see below) in ensuring thatrelevant programmes are in place. The developmentof specifically targeted “pro-poor” policies andrelated institutional capabilities will be the mainchallenge of development aid in the years to come.

6. Practically all 8 countries reported a lack ofcoordination concerning aid developmentprogrammes at three levels:• At an “internal” level within the Governmental

departments having to do with aid administration/ implementation;

• at an “external” level between the aid agenciesthemselves (be it multilaterals, bilaterals, etc.);

• at “both” levels in the interface between theaid/donor community and the Governmentagencies dealing with them.

Some steps in the direction of improving thesituation above have taken place in somecountries which have centralised all aspects ofdevelopment aid in one technical group such asthe Ministry of Finance in Uganda or the Treasuryin Morocco. But a lot more action in this area isneeded on the part of Governments and donors.

7. Significant aid flows – If properly allocated andefficiently managed – are a factor of significance to“launch” countries in their development path. But itis not until a country has been able to attractsignificant private sector investment on a regularbasis that it can be ensured to have a solid platformon which to base sustainable development policies.The cases of Malaysia, Trinidad and Tobago, and tosome extent Poland reflect this process on the“positive” side of the argument, (i.e.: when privateinvestment flows are significant). Those of IvoryCoast, Morocco, Uganda and Pakistan are examplesof the “negative” side (i.e.: when privateinvestments have not been of significance).

8. The countries to which we have given lowestassessments of I.I. management (Ivory Coast,Morocco, and Pakistan) have low educationalindicators that are below the averages for similarcountries. At the other end, when education hasbeen a consistent top priority, such as in Malaysia,the positive impact is widespread and long-term.Indeed, it is clear that human capital development,as measured by educational attainment, has beenone of the main drivers in economic growth andone of the main causal factors in poor countriescatching up with richer countries.

9. Corruption is, unfortunately, a widespreadphenomenon which negatively affects allcountries, albeit to varying degrees. This is so inmost areas defining Institutional Infrastructureincluding the public administration, the legalsystem, corporate governance, all of whichappear to be areas where corruption is pervasive,followed by the trade and competition area and,perhaps generally less so, in the financial sector.Attempts by most of the countries in the sampleto deal with the problem by creating “anticorruption units” appear somewhat fragmentedand not “heartfelt”, with the possible exceptionof Malaysia. However, as mentioned in chapter 1(see the surveys by Transparency International),the issue is not restricted to LDCs. In the aidinterface with LDCs there are developed countryand supply-side aspects to be addressed too.Clearly more global work covering all countries isneeded in order to ensure that the systems toprevent corrupt practices really work, and that“whistle blowing” is actively encouraged so thatno-one needs to “look the other way”82.

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Economic growth,measured as GDPgrowth rates over aperiod of time, is anecessary – but notsufficient – condition toreduce poverty. Wide-ranging policiesspecifically addressingpoverty reduction needto be adopted – and bemade an absolutedevelopment priority –by Governments, whichthen should ensure thatthey can be adequatelyfunded and properlymanaged

It is not until a countryhas been able to attractsignificant private sectorinvestment on a regularbasis that it can beensured to have a solidplatform on which tobase sustainabledevelopment policies

82 The real issue here is what has been called the difference between “rule-based” behaviour and “principle-based” behaviour. Many rulespromoting transparency exist, but these can still be ineffective unless key principles underlie them and are rigorously applied. To illustrate thepoint, consider an example from the technical assistance area where IFIs interface with beneficiary countries and consulting firms (often fromdeveloped countries). The rules for selecting consulting firms in IFI-financed TA require a selection committee to score several proposals. Usually,the rule-based approach stops at confirming that the selection committee met and indeed scored the proposals, whereas the principle-basedapproach reviews scoring patterns to detect bias and evidence of possible corruption by the scorers e.g. if one committee member consistentlyscores all aspects of a proposal at zero, while other members give it a high score. Needless to say, rule-based transparency controls are quitewidespread but principle-based transparency controls are much more difficult to formulate and implement. (See also section 3.4.)

10. The existence of a real democratic processbecomes a condition for sustainable, harmoniousand continued success in developmentperformance accompanied by reductions inpoverty. Weak democracies and evenauthoritarian regimes can, however, produceperiods of economic growth, as witnessed byPeru and – until recent elections – Pakistan, aswell as Uganda for the last ten years. Thesesituations do not, however, lend themselvesnaturally to boosting the InstitutionalInfrastructure. Measurable development withoutdemocracy can take place if – and only if – theGovernment genuinely focuses on developmentissues and supports them with adequateresources. But typically this is so only for a whileand in an initial period. After that, only realdemocracy can sustain the policies, rules,structures and management needed to createsustainable development.

Finally, some country-specific positive lessons can bedrawn from the evolution of the individual countriesand our assessment of their I.I. management,irrespective of their performance and success.Indeed, even countries that have not beensuccessful in their economic performance or inbuilding efficient I.I. have something positive tooffer in their experience which can be of potentialinterest to other countries.

In the Ivory Coast two interesting features areevident:

• The NGOs are playing a very useful andsignificant role in three key areas: (a) filling gapscreated by weaknesses within the public services,(b) developing micro-finance schemes, and (c)acting as substitutes to formal democraticoversight institutions. They achieve this in a verydifficult environment and within a nationalframework which does not lend itself todevelopment and poverty alleviation.

• A regional (i.e. supranational) approach to reform(as opposed to a national one), including thetransfer of key regulatory responsibilities, appearsto produce economies of scale, reinforce regionaltrade and monetary integration, and generatemore trust from the population and particularlythe private sector.

In Morocco there has been consistently effectivemanagement of foreign aid by the Department ofTreasury at the Ministry of Finance, which remainsan exception to an otherwise bleak picture forimplementation capacity. This is a lesson on how tomake sure that the country’s relations with donors –which have been the main providers of finance untilrecently – are always kept on an even keel even ifthe country’s performance on reform has rarelymatched or justified this positive impression.

In Pakistan there are again some noteworthyobservations:

• Even within the constraints imposed by the country’sInstitutional Infrastructure, the Central Bank (StateBank of Pakistan) has been able to consistentlydevelop in an ever-increasingly independent andprofessional way. Today it is a highly respectedinstitution, and that standing offers hope for successwith the financial sector reforms to a degree thatwould be difficult to envisage without it.

• Pakistan gave an early priority and has gone along way in liberalising its trade regime whilerestructuring and increasing efficiency in the keybodies responsible for trade management. Themain gist of this process has been to orientactivities in – and build up adequate institutionalcapacity of – the modernisation of the exportpolicy framework to encourage higher value andimprove competitiveness of exports.

In Peru, NGOs undertaking micro lending wereformalised and integrated into regulated bankingby the 1997 Banking Law. This lowered barriers ofentry (mainly capital requirements) and has resultedin a boom in micro-lending activities which areamongst the most successful in Peruvian bankingtoday, and act as a magnet to the formal bankingsector to downscale. This measure regulated thecreation of EDPYMES (Development Institutions forSMEs) which increased impressively in the lastcouple of years while showing bad debt ratios atlevels below the universal banks. The result of this“pioneering” role is that Peru’s banking sector hasstarted to provide financing to SMEs andindividuals, an exception to the situation in all othercountries studied.

Poland’s evolution, starting with the EconomicTransformation Programme in the early 90s andcontinuing relentlessly, achieved in a very shortperiod of time a significant and comprehensivetransformation in practically all aspects of thecountry’s political and economic life. Frommacroeconomic policies, through the role of theprivate sector (which now generates 70% of GDP)and the build-up of an Institutional Infrastructure,progress has been uniform and comprehensive, i.e.without any area being “left behind” from an arrayof very significant changes. The magnet offered bythe “acquis communautaire” which Poland has tocomply with in the context of its joining the EU in2003 has, indeed, powerfully driven the process.The existence of serious problems today (aspresented in our separate country report) does notdetract from the interest of, and lessons from, theexperience.

Trinidad and Tobago has given priority toconsistently develop its Institutional Infrastructureas a solid platform on which to base sustainabledevelopment. This approach, together with thejudicious use of external advice and funding and theefficient management of its oil and gas resourceshas helped to attract investment and diversify theeconomy. This has helped the country overcomesome of the potential disadvantages derived fromits small size and its potentially complicated ethnicdiversity. It provides a good example of how to turnpotential weaknesses into strengths by theconsistent development of its I.I.

Finally, for Uganda there are two further interestingaspects to note:

• Uganda is an example where the “conditionality”brought about by the donors is genuinely“owned” by the country as the Governmentfactored this into its own reform programmes.This is the main reason why the country hasmade exceptionally good use of the significantdevelopment aid received. It responds to thepriority given by Government to povertyreduction as evident in its homegrown Poverty

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Measurabledevelopment withoutdemocracy can take

place if – and only if –the Government

genuinely focuses ondevelopment issues and

supports them withadequate resources. But

typically this is so onlyfor a while and in an

initial period. Afterthat, only real

democracy can sustainthe policies, rules,

structures andmanagement needed to

create sustainabledevelopment

Eradication Action Plan, which is acomprehensive approach to the problem.

• In spite of its real lack of parliamentary multi-party democracy, the country has developed aneffective participatory approach to economicdevelopment issues and, particularly, to povertyreduction. The strong partnership betweenGovernment, donors and civil society has driventhe design, implementation and management of“pro-poor” and social reform policies.

Before moving on to discuss how to improve I.I.management in section 3.2, it is important toconsider whether these lessons are of universalrelevance, as they are drawn from a sample of onlyeight countries from a world total of 19083.

On the whole, allowing for all the dangers ofgeneralisations, we take the view that these lessonsare universally relevant, based on our experiencewith working with over 100 LDCs over the past 20years. Furthermore, the lessons from this report arederived from real, practical case study reviews of afairly diverse set of countries that were deliberatelychosen to be a representative sample of LDCs. Thistherefore implies that the lessons discussed in thissection are not intended only to apply to countriessimilar to the sample of eight, or only to a sub-setof countries in a specified income category,geographic area, or socio-cultural-ethnic group. Tothe contrary, it is a global best practice concept withuniversal relevance.

It could be argued that some countries will beunable to embark on I.I. managementimprovements unless some basic pre-conditionswithin the country are met. These could includehigh levels of administrative sophistication,relatively high levels of GDP per capita and so on. Inother words, improving I.I. management is reservedfor those already capable and relatively rich, but the“basket cases” are exempted from this due topoverty, lack of capability, etc. We reject thatsuggestion and believe that there are no pre-conditions required to embark on I.I. managementimprovement programmes. The reason for this viewlies in “what it takes” to develop I.I. management.Reduced to its bare essentials, all that is needed is awillingness to seriously embark on this. Providedthis willingness is convincingly entrenched,information on what to do is available and can beobtained, and human capabilities can be developedthrough training. Naturally, existing levels ofknowledge about what to do as well as existinghuman resource skills will determine how easily andquickly a country can reach best practice levels. Butlow levels of knowledge and rudimentary humanskills are not grounds for exempting a country fromI.I. management improvement efforts.

Finally, countries that have already achieved andexceeded the required global standard in I.I.management could claim exemption. This view isalso rejected, if for no other reason than that thesestandards are themselves changing all the time;generally evolving and becoming tougher. Chasingthe standard to keep up with best practice shouldbe a global pre-occupation. So all countries84 need

to make tailored efforts to improve their operationalmanagement of I.I., some starting from a near-zerobase and others from a much more advanced level.

However, having said that, there are severalimportant caveats at the beginning of this sectionwhich acknowledge that transferability acrossborders and “one size fits all” are importantissues. These issues derive from the enormousdiversity amongst the world’s 190 countries (seealso chapter 1). For example, population sizesrange from 99,000 for Grenada to 1,271 millionfor China; with 10 countries having a populationover 100 million, 66 with a population between10-100 million, 74 between 1-10 million, and asmany as 37 which have below 1 million. Similarly,annual per capita income differs from about US$100 for Burundi and Ethiopia to around US$ 35-36,000 for Japan, the US and Switzerland85. Andof course size, geographic, resource, social,religious, political and many other differences areonly too well known. But these differences do noteliminate the relevance of a universal standard ofbest practice in I.I. management; they merelyaffect its practical application. The diversityamongst countries will imply that for each country(a) their own starting point relative to “global I.I.management best practice” diverges widely, and(b) their own path to reach that global bestpractice will perhaps also vary considerably. Butsuch differences need not eliminate the corecommonality, which is that there is a global bestpractice and that there are methods of achievingit. This is the subject of the next section.

3.2. ACTIONS TO ENHANCETHE MANAGEMENT OFINSTITUTIONALINFRASTRUCTURE

A great deal of effort by financiers as well asrecipients of aid has already gone into establishingthe policies and institutions that make up theInstitutional Infrastructure of a country. However, asexplained in chapter 2, it is the operationalmanagement of I.I. which is the main determinantof successes in aid finance. Hence all related andcomplementary efforts made so far will only providetrue value if the operational management of I.I.receives equal improvement efforts. It is that aspectand that aspect alone that the recommendations inthis section focus on.

Improving the operational management of theInstitutional Infrastructure in a country is intended toenhance the ability of a country to “consume” aidfinance productively. Or, to use an old-fashionedphrase, the overall objective is to improve the effectiveabsorptive capacity. This means many things, all underthe common banner of becoming more “mature andcapable consumers” of aid finance:

• Improving project identification and design skills• Making project implementation more effective• Developing “shopping around” skills for aid

finance

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83 This figure is drawn from the United Nations membership, which will reach 190 countries in 2002 with Switzerland joining the UN.84 This should include developed and OECD member countries as they deal with new issues such as, for example, the Enron-related governance

scandal currently under debate in the US.85 Figures quoted are using the World Bank Atlas method, not the purchasing power parity method.

Improving theoperationalmanagement of acountry’s InstitutionalInfrastructure isintended to enhance thecountry’s ability toconsume aid financeproductively

Becoming a moremature and capableconsumer of aid financeplaces a heavy burdenon LDCs. Yet it is aburden that theyrecognise and haveaccepted

• Harnessing the people’s contributions in all theseefforts

• Measuring results and being accountable

Becoming a more mature and capable consumer ofaid finance places a heavy burden on LDCs. Yet it isa burden that they recognise and have accepted.For example, LDCs have recently said:

“We understand that if there is to bedevelopment assistance, then we have to put ourhouse in order. We have to deal with building ourhuman capacity, we have to deal with legalsystems that protect rights, we have to havefinancial systems that are transparent, and wemust fight corruption. We don’t expect anymoney unless we can deal with those issues. Thisis not something we are responding to becausethe rich world is forcing it on us, it is somethingwhich we know to be correct; in other words,without such actions we are not going to solvethe issues in our own countries.” 86

Other prominent figures have made the sameobservation from different perspectives. Forexample, World Bank President J. Wolfensohn haswritten:

“People do not want charity, they want a chance.People do not want solutions imposed from without;they want the opportunity to build from within.”

The theme is the same as building the operationalmanagement of I.I., i.e. emerging economies wantto help themselves and, by implication, need toequip themselves to achieve this aim.

Yet another more detailed observation comes fromformer US Treasury Secretary Paul O’Neill in his recentspeech entitled “Caring greatly is not enough”:

“First, a truth we’ve always known. All peopleeverywhere can do great things when they aregiven the tools and incentives for success.Second, that with leadership – honest,accountable, and committed to progress –everything is possible. Without leadership,nothing is possible. And finally, that in the rightenvironment focused on growth, enterprise andhuman development, aid works. Knowing that itcan work, we have a moral imperative to demandas much. Assistance should make a realdifference in people’s lives…There are no secondclass citizens in the human race”. 87

These various quotes are different ways of sayingbasically the same thing: LDCs should becomebetter at managing their Institutional Infrastructure.To achieve this goal, five action programmes areproposed which develop the key I.I. themes ofgovernance, public administration, projectpreparation and financing, implementationeffectiveness, and poverty reduction and socialstability. These action programmes are perhaps a bitof a Trojan horse because they are multi-component

and more complex than they might initially appear.Nevertheless, as explained later, there are goodreasons for structuring them as five programmes.

The description of these recommendations whichfollows is highly summarised because it contains thelessons of the country studies where much of thedetail is to be found (see section 3.1 of this chapter,as well as chapter 2 and Volume II of this reportwith the country studies). So the proposals arepresented like a list of topics that will need to bedeveloped; rather like a menu specifying the dishesbut without providing the recipes. This is partlybecause the “recipes” will vary per country-specificsituation, and partly because it would be toorepetitive to provide all the detail from the countryreports again here.

Action programme 1: Improve governance tointernational “benchmark” levels. This speaksdirectly to the leadership references made byTreasury Secretary O’Neill, who went so far as to saythat without (the right) leadership, nothing waspossible. It also addresses directly the managementof I.I., because governance, leadership andmanagement are all intertwined. The proposal toimprove governance to “world-class” internationalstandards as an objective88 will require action atthree levels:

• Government: the governance of Government willrequire the implementation (or enhancement) offar-reaching democratisation at all levels,national, regional and local. Regular and fairelections must be held and the formation ofpolitical parties should be promoted. Coalitionsshould be encouraged to achieve some breadthof policies and some political checks andbalances. Reasonable democratisation shouldalso reduce the potentially harmful impact fromcontrolling elites.

• Business: the governance of business needs aprogramme of improvements dealing withaccounting, disclosure standards, monitoring andsurveillance, director skills and responsibilities,minority shareholders’ rights, intellectualproperty rights, etc. New legislation and newinstitutions will be needed to introduce andmonitor these changes. Linked to this, trainingfor directors and broad watchdog/supervisionroles will need to be developed.

• Consumers: appropriate legislation on consumerrights, protection and complaint procedures willbe needed to provide “governance” to consumertransactions. A transparent and efficient customsand excise mechanism is an important element inthis equation.

Action programme 2: Create a world-classpublic administration. This proposal directlyimproves the management aspects of I.I. fromwithin the public sector. The aim is to get everypublic body in the borrowing country to beaccredited with ISO 9002 or similar89. It will needaction in several areas:

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LDCs should becomebetter at managing their

InstitutionalInfrastructure. To

achieve this goal, fiveaction programmes areproposed which develop

the key I.I. themes ofgovernance, public

administration, projectpreparation and

financing,implementation

effectiveness, andpoverty reduction and

social stability

86 This is part of the “Monterrey Consensus” reached in March 2002 at the International Conference on Financing for Development, Monterrey,Mexico.

87 Remarks by the then Treasury Secretary on June 5, 2002 at Georgetown University after his 10-day trip through Africa with the rock-star Bonoto understand aid better.

88 Obviously, this objective would have to be adapted, in practice, to the situation of each individual country at the “departure point” andparticularly to its educational base, institutional and technical capacities, etc.

89 This could be extended at a later date by also implementing one of the ISO 14000 family dealing with environmental standards. Accreditationprocedures should not be different than those existing today in national and international legislations.

• Skills: based on a professional recruitmentprocess and appropriate compensation policies,high quality staff should attend compulsorytraining and continuously upgrade their skills.This is important throughout the machinery ofpublic administration, though skills shouldespecially be built at local level in order to allowdevolution of decision taking and administrationto work effectively;

• Anti-corruption: there should be a well-resourcedand independent anti-corruption body withinternational support. Ideally this shouldimplement “principle-based” anti-corruptionmeasures and not restrict itself to “rule-based”anti-corruption processes. As described earlier insection 3.1.2, "principle-based" measures aremore effective as they follow the "spirit", ratherthan just the "letter", of the anti-corruptionmeasures they seek to implement.

• Service culture: performance standards should bedefined in published “charters” or similar, and ITshould be widely employed to boost efficiencyand service levels. There should be continuousefficiency improvement programmes usingbusiness process re-design techniques;

• Financial: a “checks and balances” financialsystem should be designed which separates thepower to raise revenue from the power toapprove expenditure. Approvals of expenditureshould be based on demonstrated success withimplementation.

Action programme 3: Build up a sophisticatedproject development and financing system. Thespecific objective is to create a high-quality set ofproject financing proposals based on the country’sown analyses and project preparation skills. Asbefore, this is unlikely to be achieved by a singleaction:

• Planning: set up a well-defined planningmachinery with institutionalised organisations,including analysis capabilities and proceduresinvolving the highest levels of Government andalso involving an intense dialogue with alleconomic agents, especially labour and employerorganisations90;

• Project preparation: linked to the planningsystem, create a high quality project preparationcapability for analysing economic priorities andneeds. This must include project design andfeasibility analysis;

• Common set of projects: establish a set ofprioritised development projects with fulldocumentation (feasibility analyses, financingrequirements and planning etc.) which can serveas a “common” set of project financingrequirements in dealing mainly with internationalaid financing institutions, but also with theprivate sector (foreign and local). The existence ofsuch an annual list will also make co-ordinationeasier, though this may require a dedicated co-ordination unit of some kind;

• Financing skills: develop the ability to “shoparound”, evaluate and compare the variousofficial and private financing possibilities in orderto select the best financing for a particularproject. The well-known concept of the “one-stop-shop” should be re-visited as a vehicle forattracting private FDI efficiently.

Action programme 4: Improve implementationcapabilities. No doubt ambitious, the intention ofthis proposal is to directly improve theimplementation performance of projects that havereceived aid finance, thereby enhancing thedevelopment impact of the project and alsoimproving the chances of replication/furtherfinance. This can be achieved by creating severalprogrammes that collectively drive implementationeffectiveness:

• Specialised agencies: if they don’t already exist,these should be created. The purpose is to avoidimplementation activity by the publicadministration and to assign such “operational”tasks to specialised agencies that have the skillsand operating culture for projectimplementation. Recruiting the right calibrehuman resources for these implementationagencies will mean selecting a different profilefrom the typical public administration/civil servantprofile;

• Performance monitoring: an Implementation Co-ordination Unit, or similar, should be createdwhich independently monitors all aspects ofimplementation progress. Ideally this should beas quantified as possible. This unit should also becharged with the special responsibility to reducered-tape related to implementation e.g. thenumber of licences needed, etc.;

• Financial sector: a “strategic vision” should drivere-structuring reforms and high-qualitysupervision in the banking sector so that it is trulyan efficient counterpart to specialised long-termaid finance. This will typically involve three mainreform programmes: (a) within financialinstitutions e.g. products, services, efficiency andIT etc.; (b) of the institutional system e.g.mergers, consolidation, bad debt clean-up via“hospital” banks etc; and (c) of the supervisoryroles and effectiveness e.g. issues like having aconsolidated supervisor, issues like the balancebetween on-site/off-site supervision etc.;

• Legal system: ownership and commercial rightsshould be clearly defined in law and disputeresolution procedures should be affordable andrapid. The process of establishing a “corporate”legal entity in order to start business should also beas easy and fast as possible and a low-capitalisationoption for small businesses should also be available.

Action programme 5: Design and implement aneffective poverty reduction programme in orderto secure social stability. Poverty reduction iswidely accepted as the paramount developmentobjective. This is not only for the readily obvioushumanitarian reasons. There are economic reasonstoo. If it is not achieved and groups in society do notshare the fruits of successful development,continuing inequalities and poverty will act as adestabilising force and ultimately undermine thesuccesses of development. The objective thereforeraises no controversy; the question is how can theeffectiveness of poverty reduction be enhanced? Thelessons of the countries reviewed in this report, andof Malaysia in particular, suggest three key pillarswhich should boost effective poverty reduction:

• Link to “local” I.I. management: povertyreduction is about ideas and reaching the right

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90 This should include developing a structured “crisis management” capability: i.e. develop skills to anticipate and resolve macro-economic crisesto an independent blue-print.

Clarity of purpose willbe a key ingredient indelivering results. I.I.managementimprovement is acomplex task, but underthe banner of “keep itsimple” we haveproposed only fiveaction programmes.This is a devicedesigned to allowchange management tobe effective. Inaddition, a keyingredient inimplementation successis often the claritywhereby actions andobjectives can becommunicated. Andfive programmes can becommunicated clearlyand effectively, whereasa much larger set ofactions cannot

people as much as it is about resources. Therelevance of local ideas and capabilities to reachthe right target groups will be enhanced byimproved local governance skills, a more efficientlocal public administration and by top qualitylocal project development capabilities;

• Needs analysis: like any private companyundertaking detailed consumer research, theGovernment should carry out regular anddetailed analysis of poverty reduction needs bysub-segment. This should emphasise localanalysis of local needs;

• Integrated policies: having an adequate policyenvironment for, specifically, poverty alleviation isa must and poverty reduction is not a mono-policy campaign. Practical experience shows thatGovernments should mix at least three majorstrands into their poverty reduction strategy. Thefirst is an emphasis on rural development andrural employment creation (supporting smallholder agriculture is a “win/win” proposition),the second deals with land reform anddevelopment schemes, including financingagriculture development, and the third deals withpromoting village-level civil society etc. Thesemeasures can help reduce migration to urbanareas which typically swells the poverty problem.All these policies must emphasise localinvolvement and local outreach91.

We acknowledge, firstly, that these proposals do notamount to a radically new solution. The basic conceptof becoming more mature and capable consumers ofaid financing has been commented on by many fromthe LDCs (e.g. the Monterrey declaration), as well as bythose in the aid finance business (e.g. the quote fromJ. Wolfensohn) and those looking into that business(e.g. the observations from Paul O’Neill). Furthermore,the constituent “components” that comprise well-functioning I.I. management are already well knownand receiving some attention. This being said we alsoacknowledge that our five proposed actionprogrammes are not so “compartmentalized” inpractice as there are cross-cutting issues in the fiveareas covered by action programmes (for instance, therole of civil society).

Secondly, and much more importantly, we wouldargue that the novelty of the approach is not the keydeterminant of success. Often successful reforms aredriven more by re-defining the energy levels andprominence devoted to the objective thanexclusively by the “newness” of the approach92. Thisalso applies to aid I.I. management: the concept mayhave been identified and tried before, but if it is stillnot at the desired levels it simply needs more effort,regardless of whether that represents an altogether“new” formula or not.

Thirdly, the issue of sequencing should beconsidered. Not all LDCs could realistically tackle thefive proposed action programmes at the same time,and a certain “logical” sequencing could beconsidered as follows: first starting with ActionProgramme 5 is a must, then, in parallel, get ActionProgrammes 1 and 2 going, followed by ActionProgramme 4 and, later on, Action Programme 3should start after all others have.

Finally, we would argue that there are at least threedimensions of our recommended actionprogrammes that are in fact somewhat different,even if they don’t amount to a new scientific “I.I.improvement formula”. The recommended actionprogrammes contain several changes in emphasisand approach:

a) Elevate to priority objective: achieving, as anobjective, world-class operational managementof I.I. should be a top priority developmentobjective at global level. It should rank withreducing poverty as the single most importantaim of the LDCs in their partnership with publicand private aid financiers. The reason is self-evident and discussed in chapter 2; betteroperational management of I.I. will cause greaterdevelopment achievements across the board.And if resources are seen to be used successfully,more will follow, both from public and privatesectors.

b) Use real, practical experience: the content ofthe five programmes is derived directly from thepractical experience of the 8 countries studied.The findings of those reviews summarised insection 3.1 have been “condensed” into the fiveprogrammes outlined below in a generic manner.At this point the recommendations are notdetailed as a recipe for countries to implement.They provide, however, the “key headings” thatwill enable LDCs to tailor and create detail in theirown five programmes by studying the moresuccessful examples – Malaysia, Trinidad &Tobago and Poland in our small sample, andother successful cases further afield.

c) Implementation design: Finally, the proposedapproach for implementation incorporates somenew ideas to ensure ownership, and monitoringof I.I. reform. These ideas are explored in moredetail in the next section.

3.3 IMPLEMENTATIONCONDITIONS: PUTTING THEPLAN INTO ACTION

This report has recommended five actionprogrammes to improve I.I. management, drawingheavily on the lessons learnt from our sample of 8reviewed countries.

As discussed above, the value of theserecommendations does not necessarily lie in theirnovelty, as it is acknowledged that many of thetopics are not new. Instead the value lies in thecombination of ideas and reforms whichcomplement each other as a package. This is in linewith the objective, stated in the introduction, tomaintain a practical perspective on making aid moreeffective.

Clarity of purpose will be a key ingredient in deliveringresults. I.I. management improvement is a complextask with many components, but under the banner of“keep it simple” we have proposed only five actionprogrammes. This is a device designed to allowchange management to be effective. Having only five

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91 For a detailed analysis, reference is made to the following paper: Proposal for Oxfam GB Livelihoods Strategy, Final draft: October 14, 2002.92 For example, in the corporate world, Procter & Gamble, a company with US$ 40 billion p.a. in sales, about 100,000 employees and operating

globally in over 100 markets, provides a good example of this type of “try the core concepts again without being particularly new” turnaroundwhich has been very successful at P&G over the last 2 years.

Our implementationprogramme rests onthree cornerstones:

clarity of objectives andconsequences of

succeeding or failing tomeet them,

responsibility forassessing and supporting

I.I. managementperformance of recipientcountries (the "keeper"

of the I.I. standard),and ownership for

driving implementationin recipient countries

programmes provides focus, thereby allowing betterimplementation and greater achievements. Inaddition, a key ingredient in implementation successis often the clarity whereby actions and objectives canbe communicated. The clearer they are, the moreinstitutions and civil groupings will be enlisted andenthused to participate and play their part effectively.And five programmes can be communicated clearlyand effectively, whereas a much larger set of actionscannot.

Any reform programme will need a detailedimplementation strategy covering many aspects,including but not restricted to:

• Leadership to drive the process• Definitions of participants and roles• Changes in operating culture and conditions for

success• Incentives for participation and effort• Possible painful repercussions, and key

constituent groups• Budgets to cover the inevitable costs• Priorities for what to do first and leave for later• Available time• Requirements for a successful launch• Measurement of results

We believe that the above amounts to a "check-list" for implementation design. Against this list,our implementation programme rests on threecornerstones:

• Clarity of objectives, and consequences ofsucceeding or failing to meet them

• Responsibility for assessing and supporting I.I.management performance of recipient countries- the "keeper" of the I.I. standard

• Ownership for driving implementation inrecipient countries

More specifically, our proposals for addressing thesethree key themes are presented below.

Clear objective – “Acquis Developpementaire”

The five action programmes are designed to makecountries more mature and capable consumers ofaid finance by moving them towards and beyonda global I.I. management benchmark. Thisminimum standard, or benchmark, could beknown as the “acquis developpementaire”,drawing on the concept of the “acquiscommunautaire” for EU accession. Indeed, thereare many international examples of such minimumstandards prior to being admitted into markets oractivities. For example, the EU has defined 30achievements that comprise the “acquiscommunautaire” which countries need to reachprior to becoming members. The BIS has set theCooke ratio minimum standard for capitaladequacy so that banks can be compliant andoperational. The rating agencies have setminimum standards for investment grade bonds.And of course the ISO 9000 and 14000 standardsare becoming more widespread in their use by allsorts of organisations to reinforce their credibility.

The 18 components of the acquis developpementairewill each be scored and consolidated into anaggregate score, possibly with weightings to reflecthigher importance of some aspects. The consolidatedscore forms the “rating” which will be published andbased on measurable achievements in the five I.I.management programmes:

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The five actionprogrammes aredesigned to makecountries more matureand capable consumersof aid finance bymoving them towardsand beyond a global I.I.managementbenchmark. Thisminimum standardcould be known as the“acquisdeveloppementaire”,drawing on the conceptof the “acquiscommunautaire” forEU accession

Measurable and quantifiable achievements in:Governance:

Government & democracyBusinessConsumer protection

Public Administration:Skills & trainingAnti-corruption measuresService levels & ITFinancing procedures

Project Development:Planning systemProject preparationDevelopment project listFinancing skills

Project Implementation:Specialist agenciesImplementation performance monitoringFinancial sector efficiencyLegal system effectiveness

Poverty Reduction:Ideas & targetingNeeds analysisIntegrated multi-component policies

COMPONENTS OF ACQUIS DEVELOPPEMENTAIRE

Improving I.I. management to the acquisdeveloppementaire standards clearly places a heavyburden of effort on emerging economies that arealready stretched on all fronts. A solution is required forcountries that fail to achieve needed levels of I.I.management, or who simply need more time to getthere. Our proposed approach uses the “threshold”concept: Countries exceeding acquis standards can beexpected to use aid financing effectively and to achievesuccessful development impact, while those below theacquis standard will probably fall short of developmentimpact expectations and may only be ready for sometypes of aid finance. According to this view, the acquisshould act as the basis for aid allocation decisions.

This proposal is of course very similar to thedistinctions already in existence for a long timebetween concessional and non-concessional financeprovided by all major IFIs, for example IDA funds andIBRD funds. The difference is that these are presentlyassigned on per capita income grounds, while theacquis standard would represent a more holistic, andqualitative, assessment of I.I. performance. Whilethese approaches are clearly not incompatible, thereshould be a degree of harmonisation over time.

The measure of whether countries “pass the I.I.management test” will be done by an independentbody, which will determine whether the country isready to be a player in the aid finance markets, orwhether it should rely on other forms of aid supportuntil it reaches the “acquis developpementaire”. Thisis discussed more extensively in the next section.

Implied in this segmentation is a dynamicmovement from one group to the other. As allcountries build their I.I. management capabilitiesand become more capable and mature consumers

of aid, they should reach the acquis standards andgraduate to join the group of countries exceedingthe benchmark. The objective is clearly that allcountries should reach the standard as rapidly aspossible and that there are no countries below theacquis levels i.e. it is an “empty segment”.

Using the acquis as a threshold, we can definespecific aid financing characteristics of the twogroups of countries, as detailed in the table below.

So the countries below the acquis standard can,while building their I.I. management capabilities,expect increased humanitarian finance and muchmore technical assistance focused on I.I.management improvement. The humanitarianfinance will consist mostly of grants aimed at thesocial sectors with the objective of alleviatingpoverty. As they graduate to move beyond theacquis standard, countries can expect considerablygreater project and programme aid finance as wellas enhanced private FDI. However, technicalassistance would be reduced at that stage, as theywill be more capable of progressing in this areaunder their own steam. Overall, countries thatexceed the acquis would be “rewarded” bysignificant increases in total aid volume (and, mostlikely, by greater FDI flows), and by increasedflexibility in determining the uses of such aid.

As with all binary classifications, exceptions willinvariably arise that require judgement, and a case-by-case assessment. For example, some countries may lie inthe "grey area" around the acquis, and may thereforerequire more tailored measures than those prescribedfor countries above or below the threshold. In othercases, countries may fall in one category, while clearly on

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Countries exceedingacquis standards can be

expected to use aidfinancing effectively and

to achieve successfuldevelopment impact,while those below theacquis standard will

probably fall short ofdevelopment impact

expectations and mayonly be ready for some

types of aid finance.According to this view,the acquis should act as

the basis for aidallocation decisions

PRACTICAL IMPACT OF “ACQUIS-BASED” THRESHOLD

Without adequate I.I. management, aidfinance will not achieve the expectedperformance and impact standards tosatisfy development targets

To build I.I. management throughenergetic pursuit of the five actionprogrammes drawing on relevant bestpractice

• Project and programme aid financingnot generally available

• Emphasis on grants for humanitarianand ‘social purposes’ finance which isthe core financial product for thisgroup of countries. Available in largeramounts than to date

• “Comfort” instruments from IFIsavailable to support private FDI flows(likely to be used primarily in countriesshowing a clear trajectory towards theacquis threshold)

Much larger amounts available thanhitherto, all focused on the five I.I.improvement action programmes94.

Countries belowthe “acquis” standard

With I.I. management capabilitiesexceeding the minimum standards, aidfinance should meet the developmentimpact requirements

To maintain the I.I. managementcapabilities and further improve themto exceed the acquis standard by aprogressively larger margin with eachrating report

• Project and programme aid financingmore widely available, and in largera m o u n t s , d u e t o i m p r o v e dimplementation and results

• Humanitarian and 'social purposes'finance still available, but less likely tobe needed (except for natural disasters,conflict, epidemics etc.)

• Private FDI without IFI comfortinstruments attracted to thesecountries in large amounts due toimproved performance

Clearly, less available than previously asimproving I.I. management capabilitiesfrom a high level does not require TA

Countries exceeding the “acquis”standard

Expected aidutilisation

Main objective

Availablefinancing 93

Technicalassistance

93 See also Chapter 1.94 There could be a case to earmark some of these TA funds to facilitate, for example, establishing public – private partnerships which are

becoming more and more an efficient instrument to reach out to the poor in particular – least developed – LDCs.

a rapid trajectory towards the other – and that dynamicmay require a degree of special treatment.

Finally, it has to be mentioned that the concept ofthe “acquis” goes in a similar direction to what isbeing considered by the New Partnership for Africa(NEPAD) concerning the African Peer ReviewMechanism (APRM)95.

"Keeper" of the acquis standard –“Organisation for Developing I.I.”

On the assumption that LDCs are persuaded thatthey should strive to achieve acquis status, this raisesthe question of who will develop and monitor thisstandard and where LDCs obtain the detailedblueprint for improving I.I. management. One

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THE ORGANISATION FOR DEVELOPING INSTITUTIONALINFRASTRUCTURE (ODII)

Status: non-financing international organisation, possibly replacing and absorbing some groups fromexisting institutions, whether formal or informal.

Membership: all LDCs engaged in improving the management of I.I. (i.e. around 120-140 countries).Each member country, irrespective of size and location, has an equal status and pays a flat membershipfee96. This should avoid the typical issues found in some international organisations with “dominance”by major member/shareholders. The membership fee should be split in two:

- one compulsory flat fee for the “ratings” service (see below)- and an optional flat fee for the advisory services (see also below) which may not be used

by each country if they prefer instead to use alternative sources of information and advice.

Objectives: the ODII has three overall objectives.- First, to provide information, knowledge and techniques for the five I.I. management

programmes;- Second, to define and codify minimum standards97 in each of these five programmes;

Third, to analyse country achievements relative to these minimum standards through published “I.I.management ratings” 98 .

Activities: these directly mirror the strategic objectives and comprise developing and disseminatingknowledge and techniques on I.I. management, setting standards/benchmarks, and measuring progresstowards or beyond these standards in ratings reports. These activities will cover all the componentactions contained in the five I.I. management improvement programmes i.e. (a) governance (b) publicadministration (c) project development (d) implementation effectiveness and (e) poverty reductiontechniques.

Operations: 1. For its “information, knowledge and technique” operations, the ODII must use existingworld-wide international experience as well as knowledge already available in universities, IFIs andtechnical assistance programmes to provide useful research and practical insights into improving I.I.management. It therefore acts partly as a reference centre to collect and signpost information, andpartly as an adviser to interpret the vast existing experience (as opposed to undertaking duplicativenew research). The most important task of all will be to condense and translate existing experienceinto practical “action blueprints” for the five I.I. management programmes that countries can implement“by following the instructions”. This should be complemented by seminars and symposia which havea training and discussion role. The ODII should also have a consultation centre where member countriescan pose questions and seek advice. Member countries are not obliged to use these advisory servicesand are free to source them elsewhere if they wish. In that case they would not pay the fee associatedwith this service.2. For its codification of minimum standards in the five programmes, the ODII should define measurablelevels of achievement in each. Rather like an ISO-style international quality standard, these benchmarkswill determine “what is needed” per programme in order to achieve international recognition. Theseminimum benchmarks are obviously linked very closely to the practical action blueprints provided bythe ODII (see 1 above). All member countries should be informed of these minimum standards.3. For its I.I. management ratings the ODII should review each member country 99 on an annual basisto assess its I.I. management performance relative to the benchmarks. Achievements against benchmarkcould be graded as already happens for investment grades e.g. AA, AA-, BB, etc. with for example BB- or CC+ being the minimum threshold. Apart from assigning an overall score, the ratings reports shouldidentify the areas of shortcomings and actions needed to progress to the next grade. This is a compulsoryservice that each member country must subscribe to.

Financing: ODII is financed by member contributions. Spread over more than 100 countries, the costsof membership for each country will be minor compared to the benefits available.

Staff: around 200-250 professional staff exclusively drawn from people of all nationalities who “havealready done it successfully” i.e. with practical experience in the five I.I. areas. Staff will be organisedin five teams/departments corresponding to the five I.I. areas listed above. Each functional team is sub-divided into three sub-teams: knowledge, standards and ratings.

95 The APRM will enhance African ownership of its development agenda through a system of self-assessment that ensures that the policies ofAfrican countries are based on best current knowledge and practices and has measures to cater for the fact that African states are at differentlevels of development. Lastly the APRM is expected to be an independent body and its standards and codes of governance based oninternationally accepted codes and standards. For a full review of the APRM in the context of the Nepad initiative see: “Africa EconomicSummit 2002, Africa Agenda Monitor, Durban – South Africa”, 5-7 June 2002, a publication of the World Economic Forum.

96 If total annual operating expenses are set at around US$ 300-400 million (which is a very generous estimate; the World Bank’s annualadministrative expenses are around US$ 850 million) and with an assumed membership around 120-140 countries, this means an annualmembership fee of no more than US$ 2-3 million per country.

97 These minimum standards would become known as the “acquis developpementaire” and they will form a threshold for determining eligibilityfor different types of aid.

98 These are conceptually no different from investment grades and bank ratings undertaken by the major financial ratings agencies. The onlydifference is that the ODII will “grade” and rate achievements in I.I. management.

99 Rather like the OECD Country Economic Reports, the member countries agree to undergo the I.I. management ratings examination whenthey join the ODII and thereby accept all the practical consequences, including making data available etc.

One possibility is thecreation of an “LDConly” organisationspecialised inInstitutionalInfrastructure, whichcould be called theOrganisation forDeveloping InstitutionalInfrastructure. This willbe a non-financingindependent institutionacting as a referencecentre on I.I. and as arating agency specialisedin the five programmesthat make up I.I.management

possibility, which we recommend, is the creation ofan “LDC only” organisation specialised inInstitutional Infrastructure, which could be called theOrganisation for Developing InstitutionalInfrastructure (ODII). This will be a non-financingindependent institution which has a dual role, actingon the one hand as a research institute/referencecentre on I.I., and on the other hand as a ratingagency specialised in the five programmes that makeup I.I. management. This will provide a convenientsource of high quality independent knowledge madereadily available to ODII member countries so theycan rapidly progress to substantial gains in I.I.management performance.

Although essentially an organisation providing atechnical service to its members, the ODII could beviewed as a “counter-OECD” i.e. as a professionalbody representing its member states in their effortsto improve I.I. management. On occasion, this couldbe a useful support for LDCs in their dealings withthe OECD’s DAC and other interactions. The ODIIcould conceivably be developed under the aegis ofa leading IFI, though it will be unlikely to meet itsobjectives if it is – or is perceived to be – under theinstitution’s control. Alternatives could be under the“umbrella” of a more “neutral” organisation (i.e.UN family?). A first cut at the key policy, strategyand operational parameters of the ODII arepresented in the box below. A more detailedblueprint will clearly need to be developed at a laterstage if this proposal is adopted.

Provided it acts as a reference centre and “sign-poster” of information and avoids duplicating whatis done better elsewhere, the ODII will provide aconvenient service to assist member countries withthe question of “how to” improve I.I. management.Furthermore, it is an institution with LDC membersthereby avoiding any possible problems with the“ownership” of its recommendations, which willnot be seen as imposed by the donor countries. Andit is independent. With all member countries havingan equal membership irrespective of size andlocation, no one country could influence it to biasits ratings analysis or “bend” the institution in onedirection or another. It should obviously be createdto high standards of professionalism which togetherwith its independence and autonomy shouldbecome the third pillar on which ODII wouldestablish its credibility amongst both the “demand”and the “supply” side of the development aidindustry 100.

The issue of choice should again be highlighted (seealso the box above). Ideally, it should be compulsory 101

for a developing country to join the ODII as it willreview member country progress towards achievingthe defined I.I. management standards in its regularratings reports. And, as outlined below, these ratingreports are a crucial determinant of a country’s aidconfiguration. But it is not compulsory to use theODII services for improving I.I. management. Any

country is free to find its own way directly to sourceinformation that suits its needs. It may, for example,prefer to deal directly with a specific “model”country on how it implemented improvedgovernance in the business sector successfully:obtaining all relevant legislation, administration,implementation techniques etc. from that modelcountry direct. As long as the standards defined bythe ODII are borne in mind, so that the developingcountry knows the benchmark it is workingtowards, it can get there in any way that suits it 102.

We acknowledge that the ODII concept would be asuseful as it is practical and realistic to implement.Indeed, the operational and organisational details,together with the roadmap to operationalise it,would be the critical factors to establish its validityand suitability to achieve its objectives (and thus,the “test” to really establish the validity of thisimportant recommendation). All of these are yet tobe developed in detail and go beyond the remit ofthis study. It should be mentioned, however, thatthe starting point would be the choice of the typeof institution. Two main avenues appear possible inthat respect: (i) the “political” approach – implicit inour presentation – according to which the attemptshould be made by the sponsor(s) of the concept to“convince” as many – if not all – LDCs as possibleto create ODII while – at the same time – convincingalso the donor community, and the private sectorthat the I.I. rating system would result in adequate– increased – funding for those above thebenchmark. This avenue would result in a “full”ODII upfront but it is likely to take time to launch;(ii) the “business” approach, which would consist instarting ODII as a rating agency for a number ofLDCs which would become the sponsors of theconcept, establish its validity amongst all aid playersand then gradually “invite” other LDCs to join onthe basis of its proven “track record” and benefitsthereto. Obviously, the impact of such ODII wouldbe more limited but it could be launched in arelatively short period of time.

Finally, concerning the role of civil society, the ODIIcould act as a point of contact for NGOs involved inaspects of I.I. reform. These, in turn, could act as‘windows’ on local communities in LDCs forobserving or supporting reform. As alreadydescribed in chapter 1, the NGO world is diverseand densely populated. Not only is it estimated thatthere are more than 50,000 but their range oftasks103, size and approach to their activities divergewidely. Not all are concerned with aid anddevelopment issues, and not all have a multi-country scale of operations. However, some are,and these NGOs are involved in aid and operate onan international, even global level.

The relevance of NGOs for I.I. managementimprovement can be fairly direct as many of themoperate at a very “local” (regional, town andvillage) level in LDCs. Through their operations,these NGOs often make positive contributions to:

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100 Crucial to the establishment of that credibility would be that the individual in charge of ODII’s creation and development is a high poweredindividual with international standing and solid reputation (i.e. former President, Prime Minister, etc.) ready to dedicate a few years to ODII.

101 As an alternative, LDCs could choose not to join – though this would result in more difficulties in receiving support for I.I. enhancements.102 The process is exactly the same as that which applies to an institution seeking to obtain an ISO quality standard. Provided it knows what it

needs to comply with, it can either get to the benchmark standard under its own steam, or use any one of many external advisers, or“models” that have already reached the standard etc. in its efforts.

103 NGOs are active in many fields including: children & youth, communications, conflict resolution, disarmament, disaster relief, drug abuse,education, environmental activities, ethics and values, family issues, health and nutrition, human resources, human rights, law, naturalresources & energy, peace & security, religion, trade, finance and transport, population & human settlements, refugees, science &technology, sustainable development, status of women and others.

ODII is an institutionwith LDC members

thereby avoiding anypossible problems withthe “ownership” of its

recommendations. Andit is independent. With

all member countrieshaving an equal

membership, no onecountry could influence

it. It should obviouslybe created to high

standards ofprofessionalism which

together with itsindependence andautonomy should

become the third pillaron which ODII wouldestablish its credibility

amongst both the“demand” and the

“supply” side of thedevelopment aid

industry

• Improving the quality of local decision taking andgovernance

• Improving local (village-town level)administration and record keeping

• Professionalizing local project formulation anddesign

• Rendering local project implementation moreefficient

• Making local poverty reduction efforts moreeffective

So NGOs have a positive impact for many of the I.I.management variables. Generally speaking, theyalso add resources which would otherwise not beavailable, perform tasks which would otherwise notbe done, and provide opinions, views andexperience which would otherwise not be readilyavailable at local level. Clearly, they should be animportant ally for the big players in aiddevelopment. They should also be an important allyfor all LDCs in their effort to improve I.I.management.

Local ownership – “Council of I.I. Change”

Typically, recent efforts to improve I.I. managementcapabilities have been widely fragmented anddispersed within a country and are often handled byorganisations whose prime task (and skill) issomething quite different. So, for example, up tofive or more Ministries may be charged at any onetime with improving governance and accountabilityin their implementing agencies, even though theirprimary skills and tasks lie in, say, agriculture,transport, trade and industry. This approach willtend to make I.I. management improvements lesseffective.

Instead we propose that for the five programmes,five corresponding specialist and highly empoweredresponsibilities are assigned. So each country willend up with a senior “Council of I.I. Change” (CIIC)composed of five people, one each in charge ofgovernance improvements, fixing the publicadministration, identifying projects, boostingimplementation capabilities, and making povertyreduction effective. They are likely to be individualswith practically no staff, working with others whoare responsible for action and implementation.These appointees need to be seriously empoweredto be able to instruct Ministers and push legislationthrough. For their assigned I.I. management actionprogramme CIIC members will act as drivers ofprocesses, co-ordinators of actions, providers ofinformation, masters of the inherent complexity,communicators and publicists, and above all, asachievers of targets. Overall, they are the“champions of change” for their programme andarea of responsibility 104.

Organisationally there are several options foraccommodating the CIIC, each with its advantagesand disadvantages. They can be in a matrixformation with the line Ministries, or they could be“dual appointees” within the existing structure. Forexample, the Minister of Finance would double asthe CIIC member for the governance programme,the Minister of Industry may double as the CIIC

member for the project identification programme,and the Interior (or Home Affairs) Minister maydouble as the CIIC member for the povertyreduction programme. Whichever detailedorganisational form is chosen, consolidating theactions into five programmes will allow specialistresponsibilities to be assigned to drive the changessuccessfully into the system.

Other implementation considerations

The issue of timing is an important consideration, asto whether results can be expected in a short timein line with the urgency with which they arerequired. Provided there is a pervasive willingness toembark on the action package (see the commentson “incentives” below), there are several argumentsto suggest that results can be achieved in arelatively short time frame in most countries:

• Selectivity. The CIIC in each country can chooseto focus initial effort on one or two of the I.I.management improvement programmes that, intheir view, will have a faster pay-off than others.For instance, if the right approach is used therecould be quite quick and visible results from thegovernance improvement and projectidentification programmes. It is not unrealistic tothink as short as a couple of years for benefits toflow through. Furthermore, such positive resultstend to snowball, accelerating other achievementsin other reform programmes. Further ideas onpossible “sequencing” of the proposed ActionProgrammes are presented in paragraph 3.2.

• Culture change. The creation of a newinstitution in the ODII presents an opportunity toinstil a new and more decisive, action-orientatedculture in the aid arena. This would enablecountry-level reforms to be implemented freefrom elements that would slow them down105.Notwithstanding recent scandals and failuresamongst "blue chip" Fortune 500 corporations,there are examples of large multinationalcompanies that have achieved real turnaround ina short period of time. The key to such successeslies in the change management techniques used,and there is a wide body of knowledge availableon the subject in the corporate sector. The CIIC ineach developing country, as well as some of themajor official aid funding institutions, wouldbenefit from adopting similar changemanagement approaches.

• Additional interim support. No matter howdecisive and swift the reform actions will be,there is no denying that time will be needed.Overall, a 5-year programme is envisaged,though obviously many results should filterthrough much earlier in that period. However, asdiscussed previously, during those 5 years thereshould be increases in humanitarian aid andfunding for social projects made available, largelyas grants, to the countries that do not meet theacquis developpementaire. Such additionalinterim support will help them through thechange effort while still addressing their moreurgent aid requirements.

This reform programme will require significanteffort and investment. The incentive to pursue these

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We propose that foreach of the fiveprogrammes, acorresponding specialistand highly empoweredresponsibilities areassigned, each countrywill have a senior“Council of I.I.Change” composed offive people, one each incharge of governanceimprovements, fixingthe publicadministration,identifying projects,boosting implementationcapabilities, and makingpoverty reductioneffective. Theseappointees need to beseriously empowered tobe able to instructMinisters and pushlegislation through

104 This concept is often used successfully in change management in the private sector.105 Reform processes that require numerous multi-party reviews, steering committees, consultations, draft papers etc. are likely to proceed very

slowly, if at all.

reforms is clear, namely: “better results and moremoney”. Indeed, this will affect all players in thebusiness: LDCs can expect better developmentimpact for every dollar spent and aid financiers canlook forward to better results from aid finance.When these positive results are sustained, moremoney should follow. In short, the package ofreforms should set the stage for growth and betterperformance in the aid financing business.

These recommendations will be more persuasive inthe context of a cost/benefit trade-off. Very roughestimates of the costs and potential benefits of the5 recommendations are provided below:

• Estimated one-off investment cost:US$ 8-10b, for 120-140 countries, over 5-8 years– i.e. US$ 7-17 million per country, per year.

• Costs borne by: LDCs• Estimated annual benefits:

Additional resources of US$10-20b from officialsources, plus US$10-25b from private FDI

• Benefits accruing to: LDCs

Although the costs are dauntingly large, they arespread over many different players and over time.The ballpark estimates for the annual level ofbenefits are larger still, outstripping the costsaround 3-4 times. As these benefits are likely to beannual, while most of the cost estimates are one-offinvestment costs, the ratio between the costs andthe present value of the benefits stream would besignificantly larger. Hopefully these reforms couldtherefore result in a win-win situation, wheremoney spent leads to better performance, whichattracts more money each year and so on106. Indeed,if this beneficial circle could be established, it mayhelp persuade the DAC countries to increase theirannual contributions to aid.

For many years the DAC countries have had a targetof 0.7% of GDP as an annual contribution to theaid business. The current level, however, is onlyaround 0.22%107. The difference between the two,based on current GDP sizes, is about US$ 100-110billion p.a. Not only is this far short of target, butalso it occurs at a time when many OECD publicsector deficits have shrunk significantly with someleading economies even running a public sectorsurplus108. So the poor record on aid contributionsby the DAC countries is not really a question ofaffordability. It’s more a question of lack of politicalwill arising from a lack of conviction that it’sworthwhile and saleable to electorates who may besceptical about the results. Hopefully theseconcerns will fade as the reforms outlined in thisreport are aimed directly at addressing that issue bycreating mature and capable consumers, exercisingresponsible choice in their dealings with acompetitive and regulated industry.

However, moving to the 0.7% of GDP target willnot be achieved in one year and some pragmaticphasing should be proposed. This could be linked toan “ability to pay” assessment of the public sectordeficits in individual DAC economies.

There is an important caveat to all this: theadditional public money should stimulate moreprivate flows to emerging markets, and not becomea substitute for dwindling private flows. There isevery confidence that this can be achieved by theoverall improvements that should derive from thereform programme as well as the speciallyexpanded comfort instruments that should boostthe volume of private sector money.

In all, it is an ambitious re-visiting of well-knownthemes. But in pursuing reforms to improvedevelopment aid, the words of Robert McNamara,former World Bank President are a reminder of thebroader picture:

“Surely that must be our hope, not only our dream,but our steadfast objective. Some may considersuch a statement so naïve, so simplistic, and soidealistic as to be quixotic. But as human beings,can we be at peace with ourselves if we strive forless?”

3.4 BROADER IDEAS FORFURTHER “SUPPLY SIDE”ACTIONS

All the effort to improve I.I. management is “demandside” effort, i.e. the LDCs need to do the work that“puts their house in order” so as to become moremature and capable consumers of aid finance. Asargued in Chapter 2, demand side reform is the mostpowerful lever for improving the effectiveness of aid,and will, over time, also drive supply side reform.However, complementary additional measures maybe required to (a) support the I.I. managementimprovement efforts and (b) to provide furtherfinancial benefits over and above the immediate I.I.management benefits. This observation is especiallytrue of the leading IFIs, who are: (i) the trend-settersof the aid industry, (ii) the providers of ODA, and (iii)the creators of enabling environments which favourprivate investment in LDCs.

The performance of IFIs, and which reforms mayimprove their effectiveness, has been analysedexhaustively by a variety of organizations,foundations, think tanks, and politicians. We do notpretend, in the context of this study, to proposeanother set of drastic reform proposals. However,since our thesis is that better management of I.I. iscrucial for countries to progress effectively inreaching their overall development objectives, wehave focused on a few “supply side” aspects that arebroadly related to I.I. management, so as to makesome suggestions that, we hope, may be of help.These are ideas more than elaborated proposals,offered to contribute to the dialogue and debate onaid effectiveness, and based on experience in thefield. In this context, three key aspects emerge:

• Re-design and enhance the provision of TechnicalAssistance for I.I.

• Improve some aspects of the performance of IFIsto simplify LDC dealings with them

87

Results can be achievedin a relatively short time

frame in mostcountries. This reform

programme will requiresignificant effort and

investment, theincentive being: “better

results and moremoney”. This will

affect all players: LDCscan expect better

development impact forevery dollar spent and

financiers can lookforward to better resultsfrom aid finance. When

these results aresustained, more moneyshould follow. In short,the package of reformsshould set the stage for

growth and betterperformance in the aid

financing business

106 The intention of the reform package is that it truly spells gains for all: LDCs and aid supply side institutions. The reforms represent a changein modus operandi that should lead to an increase in the volume of business operations. In no way should the proposed changes be seenas a downsizing and lay-offs programme. It is exactly the opposite; creating the platform for real growth in the aid business.

107 The individual country contribution performance within the OECD/DAC group varies considerably, from 1.06% of GDP for Denmark to0.84% for the Netherlands and 0.10% for the USA (2000 data).

108 The reduced (relative) pressure on public finances is evident from OECD data; over the last five years (i.e. between 1996 and 2001)Government net financial liabilities as a percentage of GDP fell from 49% to 44%.

• Consider new avenues for debt restructuring andcancellation

3.4.1 Re-design and enhance the provision oftechnical assistance for I.I.

In chapters 1 and 2 there have been variousreferences to “institution building” technicalassistance in the context of improving I.I.management. Two overall messages emerge: firstthat the effectiveness of institution buildingtechnical assistance has been patchy and oftendisappointing109, and second, that the volume of IFIfunding allocated to institution building technicalassistance has fluctuated. Yet, as described earlier,each country will need to incur significantinvestment expenditures in order to reach theacquis developpementaire. In line with normalcompetitive practice, it should be free to spendmoney wherever it chooses to obtain theinformation, design and other support it needs toreach this objective. It may spend money with theODII or with a wide range of other institutions andprivate advisers, and there is therefore a realcompelling case to:

• Re-emphasise financial support for institutionbuilding TA; and

• Re-design the delivery of this TA in order to makeit more effective.

It is recognised that efforts are already underway toboost the volume of TA funding for thecomponents of I.I. management programmes110.However, these should be further enhanced byallocating truly significant sums of money to adedicated programme. Just as the EU PHARE andTACIS programmes devoted around Euro 13 billionover 8 years111 to bringing potential membercountries up to standard in the 30 “acquiscommunautaire” areas, so the donor communitycould agree on a very major effort, also running tobillions of dollars for a concerted 5-10 year periodto bring about the "acquis developpementaire".Such a large-scale TA programme would be devotedexclusively to funding advisory work for LDCs to

reach the benchmark. It could be called the “TAProgramme to improve the Management of I.I. (orTAPMII for short). TAPMII would be different fromthe current fragmented practices in being very largescale and focused exclusively on the five acquisareas. It would not be a new institution: TAPMIIwould be a programme that acts as an umbrellaunder which TA executed by various differentinstitutions and beneficiaries could be funded on aconsistent basis.

TAPMII would need a modest-sized team(resembling a technical secretariat) thatprogrammes the funding of TA work in the five I.I.management fields. This involves work to mobiliseand manage TAPMII resources and also variousactivities to set eligibility criteria, procedures etc forallocation of the TAPMII funds. This team could beattached to any appropriate internationalinstitution, or even to the ODII. The maindeveloping country counterpart for TAPMII wouldbe the “Council on I.I. Change” in each country(CIIC; see section 3.2) who would present theirwork programme of I.I. management improvementactivities to TAPMII for funding.

Clearly such magnitudes of TA funding, starting witharound US$ 16-18 billion for a multi-year I.I.improvement effort, shows real commitment tomaking things happen in this area and is consistentwith placing I.I. management improvements as one ofthe key objectives on the global development stage.

This big money approach, combined with a “newbanner” dedicated to improving TA management willdo much to re-emphasise the TA needed in this area.But over and above quantity, careful attention mustalso be paid to quality issues. The design and deliveryof TA has raised much comment in the past,suggesting that a fresh look could lead to some re-design proposals aimed at improving value, i.e.results, per TA-dollar spent. Based on our experience,we have proposed some preliminary ideas forimproving the TA business process, with an emphasison supporting improvements in I.I. management.Over and above the magnitude of the effort, carefulattention should also be paid in terms of quality.

88

Additional measuresmay be required tosupport the I.I.managementimprovement effortsand to provide furtherfinancial benefits. Thisis especially true of theleading IFIs who are thetrend-setters of the aidindustry, providers ofODA, and creators ofenabling environmentswhich favour privateinvestment in LDCs

109 See earlier references for example to the World Bank’s Operations Evaluation Department; “….the Bank’s contribution to institutionaldevelopment has been modest both in middle and low income countries….”. And other studies have shown that the Bank has focused toonarrowly on institutional design and training, as well as using inflexible lending instruments.

110 For the financial sector, for example, the First Initiative has been established, and for governance and many other topics there have been TAcomponents in project and programme loans for a number of years.

111 From 1990-98, the PHARE programme commitments reached Euro 8.8 billion while those for TACIS were Euro 4.3 billion. The PHAREprogramme alone continues to run at Euro 1.6 billion per annum for about 12 eligible countries. This is clearly TA funding on a grand scale.

112 Such magnitudes are not out of line with what has been achieved by the EU PHARE and TACIS programmes.

POSSIBLE STRUCTURE OF TAPMII

Proj. Implementation:-Specialist agencies-Implementationmonitoring

-Financial sectorefficiency

-Legal systemeffectiveness

Initial 5-yearallocation;US $ 3-4 million percountry

Poverty Reduction:-Ideas & targeting-Needs analysis-Integrated multi-componentpolicies


TAPMII initial 5-8 year programme US$ 16-18 billion112

Project Development:-Planning system-Projectpreparation

-Developmentproject list

-Financing skills


Public Administration:-Skills & training-Anti-corruptionmeasures

-Service levels & IT-Financingprocedures


Governance:-Government &democracy

-Business-Consumerprotection


Some ideas to re-launch the TA debate aresummarised in Appendix A.4113, and are consciouslydescribed in a rather stark black-and-white way inorder to underline the scope for reforms114.

If the suggested re-design elements are adopted,then progress towards better value per TA-dollarcould be measured via the ODII ratings reviews. Forinstance, if a country has received say US$ 20million in TA over the last year in all five I.I.management programmes, the annual ODII ratingsassessment should show a marked improvement. Ifit turns out that this is not the case, then obviouslythe TA design was not effective in achieving realimprovements. So the ODII annual ratings reportscan fulfil the additional function of checking on theeffectiveness of TA on a harmonised basis.

3.4.2 Improve some aspects of theperformance of IFIs

There are about 20-25 major “official” internationalaid financing institutions comprising the majormultilateral financial institutions (the World Bankand the big regional development banks such as theADB, AfDB, IDB, EBRD, EIB), other major institutionssuch as the Islamic Development Bank, BADEA, theEU, the Black Sea Development Bank etc. and about10-15 major bilateral institutions of the DACcountries such as USAID, CIDA, AFD, SIDA,DANIDA, DFID and others. 115

Taking a broad view that aid includes public andprivate flows, a statistical analysis might in the firstinstance suggest that these 20-25 significant“official” international financial institutions are notthat important any more. As evident in the tablebelow and from the more extensive data in chapter1, the private sector flows have recently eclipsed thecollective IFI flows, making the latter look like smallplayers on the world stage:

But such simple quantitative snapshots aremisleading and in fact the role of these major IFIs isof crucial importance for the entire aid-financingpicture. There are a couple of reasons for this:

• First, the IFI influence on aid finance extendsbeyond the quantitative “dollars transferred”amount. IFIs are a knowledgeable tone-setting

influence in the aid business through theiranalysis, TA activities, policy influence and role asco-financiers with the private sector;

• Second, although the volume of IFI aid finance isperiodically eclipsed by private FDI flows, thelatter is volatile and highly concentrated in a fewcountries.

This means that official IFI aid is in fact the mostimportant source of aid for most developingcountries and over defined periods of time, andthus of real significance despite some snapshotheadline statistics. Furthermore, there is some casefor exploring reform:

• One reason is because the many reforms of theIFI sector have not produced radical results,generally speaking. Although as a set ofinstitutions there have been numerous changesand adaptations over the past decades, these areby and large gradualist 116.

• Furthermore, as amply discussed in chapters 1 &2 of this report, the performance record of theIFIs has generally been patchy and in placesdisappointing, suggesting that there is furtherroom for improvement.

• Finally, we maintain that I.I. improvements inrecipient countries will indirectly force reformupon IFIs over time, and should remain the overriding priority. Nevertheless there is merit inconsidering ideas for improving some aspects ofIFI performance in parallel, and at an early stage.

There is no shortage of proposals for IFI reform.Indeed a key feature of the IFIs is that they seem toalways be receiving, and debating, suggestions onhow to change117. It is with some hesitation that wesuggest (or revive) further ideas to this debate, as itis not the main focus of our study. However, theideas are aimed at one area, and one area only, andthat is to make improvements in I.I. managementeasier for the LDCs. These ideas are presented inAppendix A.5, as a contribution to this debate.

3.4.3 Innovate in debt restructuring andcancellation

Debt relief buys an important breathing space andreleases resources for I.I. management (and other)activities. Any ideas to further promote debt relief

89

MAJOR AID TRANSFERS BY SOURCE (US$ BILLION)

50150

Source: World Bank

Source 1990 1997 200250300

6030

IFIsPrivate sector flows

113 These ideas are more fully described in the article “Technical Assistance should be privatised”; DFC Spotlight, Autumn 1999.114 It is true that some donor-funded TA has already started to address some of the issues in the TA business process, but examples remain of

the descriptions in the TA today column.115 The IMF is not included in the definition of an “aid financing” institution, even though lately it has been active in operations that are closely

related to aid (e.g. HIPC debt relief).116 This is not to deny that many well-intentioned and analytical efforts have gone into IFI reform, but much of it has been gradualist in nature

and most of it is driven internally i.e. IFIs coming up with their own suggestions for change and implementing these themselves.117 In the last two years alone there have been three major reports calling for changes in IFI strategy and operations, and there are many more

piecemeal and less prominent calls for change. In fact, the level of scrutiny that public aid providers faces is extremely high be it fromgovernments, academia, think tanks, civil society, NGOs etc. This is partly explained by the “public” character of aid and the fact thatgovernments fund the IFIS or guarantee their resource mobilisation, and also because many of these IFIs are seen partly as instruments ofthe political ambitions of their main shareholders, which leads to further analysis and discussion. Indeed, a large part of the issues that theIFIs have been facing in streamlining their operations comes from the multiplication of objectives that their shareholders, in particular fromindustrialized countries, impose on them – the so-called mission creep.

should therefore help the I.I. objectives outlined insection 3.2.

There are two aspects of debt relief that deservesome emphasis. The first is whether in the future alarger proportion of aid should be in the form ofgrant rather than aid. This is mostly relevant tolower income countries that are already part of theHIPC process. The second concerns the recentproposal by the IMF to put in place a newframework (the Sovereign Debt RestructuringMechanism – SDRM) that would allow countrieswith clearly unsustainable debt burdens torestructure their debts in a fashion that preserveseconomic activity and assets values, whileprotecting creditor’s rights. This would provide forequitable treatment among all private creditors, andwould be mostly used for middle income countriesas lower income countries typically have generallynot been able to attract substantial flows of privatedebt.

Debt versus grant For lower income countries, the proportion of grantfinancing should be substantially increased, andindeed in our presentation on the acquisdeveloppementaire, we suggest that countriesbelow the threshold should only receive grants. Webelieve that the major issue raised by most publiccreditors and governments, namely that such aswitch may not be sustainable because the reflowsof concessional aid are a crucial element of futurefunding of aid for developing countries, masks thereal issue which is the wholly insufficient volume ofpublic aid flowing to developing countries. Thereare other considerations like the incentive for betterperformance that debt funding, as opposed togrant, provides. This may be true, but that issuecould probably be finessed through a better linkbetween overall performance in aid utilisation, andavailability of aid. In any event, we would alsosubmit that countries receiving aid primarily asgrant should be on a trajectory to exceeding theacquis threshold, and thus to diminishing theirreliance on grants over time.

The SDRMThe issue of burden-sharing between privatecreditors of various types has been progressivelysurfacing in the last years, and indeed the proposalby the IMF would provide for more equitabletreatment of various creditors (including bondholders), that would share in the costs of therestructuring. The mechanism would allow for asuper majority of creditors to vote to providetemporary limitations on the enforcement ofcreditor claims, while agreeing on the provision ofnew money on a senior basis. The proposal willprogressively be fleshed out – it is very innovativeand complex, raising a large number of issues thatneed to be tackled. Perhaps one question thatneeds to be addressed is whether this wouldprovide some incentive for private flows to resume,rather than hinder them. Second, the IFItraditionally have enjoyed a privileged creditorstatus, and the scope of this privilege hasprogressively been increased as it has de facto beenexpanded to cover additional IFI instruments (e.g.loans syndicated by the IFIs, or MIGA risk insurancepolicies). It may well be that in some cases theproportion of external debt owed by a country tothe privileged creditors is such that leaving themout of the restructuring process may not be

possible. The situation in Argentina may be relevantin that regard. While IFIs are generally not permittedto restructure their portfolio, de facto this may havehappened indirectly and informally through theprovision of new funding to refinance old debtsunder an agreed adjustment programme.Considering formal restructuring of IFI debt mayopen a Pandora’s box, with adverse effects on theirprivileged creditor status, and their ability to raiseresources from the market at the lowest costpossible. However this needs to be explored, asthere may be situations where the participation ofthe IFI in debt restructuring would be necessary forthe success of the debt workout.

Other considerationsIn addition to current approaches to this problem,there could be value in developing an integratedperspective on this issue across all LDCs, andpresenting a single, and unified, point of contact fornegotiations with creditors. A potential vehicle forachieving this could be the Organisation forDeveloping Institutional Infrastructure, describedearlier, given its broad-based representation ofLDCs, its insights into the I.I. of each membercountry, and its expertise in implementing I.I. reformprogrammes. Debt rescheduling would clearly notbe a core remit of the ODII, but could become anarea of activity as the institution develops.

An additional idea would be to develop anapproach which side steps, at least temporarily, theobstacle on “how to pick up the tab” for any debtrelief mechanism. This alternative approach tries toget away from the notion of an outright paymentfor debt relief/cancellation. Instead some financialdeferral process should be designed. The idea isbased on drawing the (very close) parallel between“bad debts” at international and national levels. Forinstance, in many countries the aid financinginstitutions are supporting financial sectorrestructuring programmes that are usually triggeredby dangerous levels of bad debts and weakenedbank balance sheets. In many of these cases theconcept of a “bad bank” or rehabilitation fund ofsome sort is used to clean up the balance sheetsand provide a fresh start for lenders and borrowers.These bad banks typically receive support from theinternational aid financing community. Thissituation at national level presents a very closeparallel with debt forgiveness at international level;it is a financial problem where debtors cannotafford to pay creditors. Neither can afford to walkaway from their historic financial obligations, butthey could transfer them to a third party andpostpone the final resolution of the problem.Building on this idea, it could be possible to explorethe merits of establishing an “international badbank”, perhaps better called the International DebtConsolidation Fund (IDCF). Essentially this wouldamount to little more than using the national levelrecipe at an international level, with somedifferences in the design details. There is also a closeparallel between this proposal and the Brady Bondslaunched initially in 1989. The essential difference isthat the IDCF will deal with all official debt andthere is less reliance on the role of markets. Insteadthe IDCF will eventually, on a highly deferred basis,pick up the tab for debt which will not be repaid.

The main impact of the IDCF will be to allow muchmore debt to be cancelled for truly impoverishednations. The ideas of how it might operate are very

90

sketchy at this point and would need significantstudy to be developed in detail. However, somebroad parameters could stimulate the debate. Theseare provided in Appendix A.6.

3.5 RECOGNISE THE LINKSBETWEEN I.I. MANAGEMENTIMPROVEMENTS AND TRADELIBERALISATION

Although discussed as a general global issue inchapter 1 of this report, the liberalisation ofinternational trade is revisited because of itstranscendental importance. While it extendsbeyond the remit of the study, it is flagged as acritical issue. Indeed, the economic benefits of freetrade – domestic and international – vastly outstripany aid financing which has been achieved or canreasonably be expected to materialise. This relativevalue is at the heart of the well-worn slogan “aidversus trade” which has already received muchattention for decades. Naturally, detailedquantitative estimates are tricky but a few headlinefigures remind us of the magnitude of the contrast(see also chapter 1):

• Official aid transfers (excluding private sectorflows) are currently around US$ 50-60 billion p.a.

• The OECD countries spend about US$ 1 billionper day, i.e. around US$ 350-360 billion p.a. onagricultural subsidies alone, representing 6-7times the annual official aid figure.

• The OECD trade barriers and subsidies areestimated to result in lost export income for theLDCs in excess of US$60 billion annually.

• By some estimates, eliminating trade barriersworldwide could lift 300 million people out ofpoverty in the next 15 years.

The pattern of trade, both domestic andinternational, has at least three reasons for beingslow to change:

• It is a critical element of economic management.Imposing barriers and tariffs will stronglydetermine the structure and employment patternof an economy, at least in the short term. So

world-wide, Governments are reluctant to cedesovereignty and control over one of their keyeconomic management tools;

• Import duties and licences are an importantsource of public sector revenue118. Andfurthermore, in many markets they are moreeasily collected than alternative revenues such asincome tax or VAT. So again, Governments willremain very reluctant to forego the income theyderive from trade distortions;

• Trade liberalisation can have some painful effects,namely to exacerbate income disparities betweencountries, and to require that uncompetitiveindustries be restructured.

Trade liberalisation is not the focus of this study andit would be inappropriate to make comprehensiverecommendations on accelerating tradeliberalisation. We have, however, taken the libertyof making some tentative observations on thisissue. There is considerable choice in movingforward and at least three approaches, or tactics,could be pursued in seeking further progresstowards the broad goal of further liberalisation: atcountry-level and in seeking bilateral agreements; atregional level in striving for more effective regionalfree trade zones, and at global level with acomprehensive solution. It is possible that the firstapproach is the most desirable, the second may bethe most practical, and the third may be the mostdifficult. Yet whatever is pursued and achieved bythe experts in this field, the headline data showclearly that the value of trade liberalisation shouldbenefit I.I. management improvement effortssubstantially. More specifically, it could support I.I.management improvement programmes in at leasttwo ways:

• Significant financial benefits should accrue toLDCs which will help provide resources for theupgrades needed to improve I.I. management.

• Significant “learning” benefits should also accrueto LDCs as they would have the chance, throughtrade, to be fully exposed to world standards andmarket forces. That is a direct parallel to theworld standards that LDCs will need to apply inthe management of their InstitutionalInfrastructure. ■

91

The economic benefitsof free trade – domestic

and international –vastly outstrip any aid

financing which hasbeen achieved or can

reasonably be expectedto materialise. The

value of tradeliberalisation should

benefit I.I.management

improvement effortssubstantially

118 Trade related revenues are as much as 40-60% of total public sector revenue in some developing countries.

93

APPENDICES

A.1 THE DATABASE ISSUE

A.2 SUPPORTING TABLES

A.3 COMPARATIVE ASSESSMENT OF EVALUATION BY MAJOR AID AGENCIES

A.4 POTENTIAL CHANGES TO TA BUSINESS PROCESSES

A.5 CONSIDERATIONS FOR IMPROVING IFI INTERNAL PROCESSES

A.6 POTENTIAL IDEAS FOR THE INTERNATIONAL DEBT CONSOLIDATION FUND (IDCF)

APPENDIX A.1

The Database Issue

Studies of development aid draw on statistics froma variety of sources, using different definitions.

Foreign aid is usually associated with OfficialDevelopment Assistance (ODA) and targetednormally to the poorest countries. ODA119 comprisesgrants and concessional loans, i.e. loans that have atleast a 25% grant component120. ODA may be alsocategorised into bilateral and multilateralcomponents. Bilateral121 assistance is administered byagencies of donor governments, e.g. USAID.Multilateral assistance is funded by contributions fromwealthy countries and/or borrowing from the marketsand is administered by agencies such as the UnitedNations Development Programme or the World Bank.

ODA is a subset of Official Development Finance(ODF), which refers to all financing that flows fromdeveloped country governments and multilateralagencies to the developing world. It too can bedivided into bilateral and multilateral components.

The data are derived for the most part from theOECD online DAC database, although data are alsoused from the World Bank. The objective is todeliver a view on net disbursements of developmentaid over the past three decades. The data aretherefore illustrative. It is outside the terms ofreference of this project to reconcile the twoprincipal data sources. It should be stated, however,that the fact that these two sources exist and bearno resemblance to one another clouds the issue ofdevelopment aid and makes its study unnecessarilycomplex. Moreover the reporting of the data bythese institutions is unclear.122 The followingparagraph provides a brief overview of the caveatswhen working with these data.

For starters, the World Bank uses a debtor-basedinformation system for the reporting of aid flows,while the OECD uses a creditor-based system.Differences in coverage and definition make thesetwo sources difficult to reconcile withoutknowledge of the underlying databases. For

example, the definition of multilateral institutionsand the treatment of grants differs between thetwo sources. The OECD data include grants fromthe UN agencies and the EU in ODF (officialdevelopment finance), whereas the World Bankdoes not record these flows in the multilateralcategory, using instead the total OECD grant figurewhen calculating total flows to all countries.

The World Bank definition of developing economiesincludes all low-income and middle-incomecountries, except those with a population of lessthan 30,000 and includes also countries intransition. The latter refer to most of the countriesin transition in Eastern Europe (Bulgaria, the CzechRepublic, Hungary, Poland, Romania and the SlovakRepublic), the Baltic countries (Latvia, Estonia andLithuania), Russia, Belarus, Moldova and Ukraine.The OECD maintains two lists of countries fordevelopment aid purposes. Part 1 of the DAC listincludes all LDCs and territories, while Part 11includes countries and territories in transition (inEastern Europe) as well as more advanced LDCs andterritories. Several of the more advanced economieswere transferred from Part 1 to Part 11 in 1997,123

thus aligning more closely the OECD and WorldBank’s definition of developing economies fromthat date. Official development finance (ODF) to allaid recipients comprises official developmentassistance (ODA) for Part 1 countries, official aid forPart 11 countries and other official flows (OOF) forboth Part 1 and Part 11 countries.124

Private capital flows are examined from the twoprincipal sources, WB and OECD. Private capitalflows from the former refer to net private capitalflows, which is the sum of foreign directinvestment, portfolio investment flows and bankand trade-related lending.125 Private capital flowsfrom the OECD refer to the sum of bilateral andmultilateral private flows. Net disbursement ofprivate aid includes direct investment by bilateraldonors, other bilateral securities and claims andpurchase securities. Multilateral private flows referto the sum of purchases of newly issued securitiesand other transactions. The data do not includeequity investment and are therefore notcomparable with World Bank data on private flows.

94

119 Work by Chang et al., 1998 questions the use of ODA as a true measure of development aid. The authors propose an alternative measure– effective development assistance – which uses the sum of grants and the grant component of the concessional loan.

120 The grant element is defined as the difference between the face value of the loan and the present value calculated at a discount rate of 10percent of the debt service payments to be made over the lifetime of the loan, expressed as a percentage of the face value.

121 Some bilateral aid is ‘tied’ meaning that it must be used to procure goods and services from the donor country. 122 One must dig deep to find definitions of what is being measured, whether it is a provisional figure or a revised figure, whether the data are

in current and constant terms (and in which year).123 Examples include Bermuda and Israel.124 OA refers to flows that meet the criteria for ODA but are provided to aid recipients on Part 11 of the DAC List. OOF comprises flows for

development purposes that have too low a grant element to qualify as ODA and excludes officially supported export credits.125 Net private capital flows consist of private debt and non-debt flows. Private debt flows include commercial bank lending, bonds and other

private credits; non-debt private flows are foreign direct investment and portfolio equity investment. Foreign direct investment is net inflowsof investment to acquire a lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy otherthan that of an investor. It is the sum of equity capital, reinvestment of earnings, other long-term capital and short-term capital as shownin the balance of payments. Portfolio investment flows are net and included non-debt-creating portfolio equity flows (the sum of countryfunds, depository receipts and direct purchases of shares by foreign investors) and portfolio debt flows (bond issues purchased by foreigninvestors). Bank and trade related lending covers commercial bank lending and other private credits (World Bank, 2001).

APPENDIX A.2

Supporting Tables

95

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – EAST ASIA PACIFIC REGION


Table 1

Multilateral L-T debtBilateral L-T debtTotalGrantsTechnical CooperationIMFTotal Public

PrivatePrivate creditorsPrivate non-guaranteed debtForeign direct investmentPortfolio equity flowsTotal Private

PublicMultilateral L-T debtBilateral L-T debtTotalGrantsTechnical CooperationIMFTotal Public


1.722.934.662.971.760.339.71

4.762.312.290.009.36

0.210.390.600.410.240.041.29

0.590.300.300.001.19

3.303.546.842.292.260.34

11.73

6.492.316.020.53

15.35

0.360.390.750.250.240.051.29

0.740.260.630.051.68

4.215.129.332.653.341.93

17.24

7.498.93

46.6912.7775.88

0.260.320.580.170.210.091.06

0.440.542.730.754.46

2.774.977.742.623.49

-0.4613.39

6.6010.3631.079.74

57.77

0.210.370.580.190.26

-0.041.00

0.460.752.200.684.10

5.645.27

10.922.683.184.31

21.09

8.377.51

62.3115.8093.99

0.300.270.580.140.170.231.11

0.420.323.260.824.82

2.785.458.232.712.801.19

14.93

-0.14-4.7156.0927.6878.90

0.140.280.420.140.140.060.76

-0.01-0.242.861.414.03

% GNP

96

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – SUB-SAHARA AFRICA REGION


Table 2





1.523.394.903.893.920.59

13.30

3.320.452.090.005.86

0.400.951.351.041.100.143.63

0.840.110.580.001.54

3.464.267.728.625.350.64

22.33

3.060.331.620.005.01

0.951.122.072.401.460.136.06

0.730.070.450.001.25

2.820.663.48

12.105.320.07

20.97

0.26-0.434.501.465.79

0.850.191.043.671.610.026.35

0.08-0.131.390.451.79

3.711.455.15

13.506.110.18

24.95

0.28-0.052.280.202.70

1.110.431.544.051.830.067.48

0.10-0.020.700.070.84

1.94-0.121.81

10.704.53

-0.0417.00

0.24-0.816.722.728.88

0.59-0.040.553.291.39

-0.015.22

0.07-0.252.070.842.73

1.33-0.820.519.863.68

-0.0214.03

-1.041.247.110.818.12

0.44-0.270.173.271.22

-0.014.65

-0.340.412.360.272.69

% GNP

97

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – EUROPE AND CENTRAL ASIA REGION


Table 3





0.831.061.890.170.230.352.64

1.452.620.180.004.26

..

..

..

..

..

..

..

..

..

..

..

..

1.351.322.670.400.290.083.44

6.870.300.310.017.48

0.01-0.02-0.020.010.02

-0.09-0.08

0.400.010.030.000.44

2.291.563.857.343.182.61

16.98

7.174.97

13.812.73

28.68

0.190.100.280.590.270.211.35

0.560.451.220.242.48

1.862.704.567.812.142.35

16.86

6.811.445.210.80

14.26

0.120.160.280.530.150.161.13

0.430.110.370.060.96

2.730.413.146.884.212.88

17.10

7.528.50

22.414.67

43.10

0.250.030.280.640.390.271.58

0.700.802.070.423.99

2.46-0.471.997.354.35

-0.6913.00

9.331.18

27.845.36

43.71

0.24-0.050.200.730.43

-0.071.29

0.930.122.760.534.34

% GNP

98

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – MIDDLE EAST AND NORTH AFRICA REGION


Table 4





1.133.444.585.821.460.18

12.04

5.420.10

-0.530.004.99

0.210.740.951.320.390.032.68

1.130.02

-0.160.001.00

1.355.727.075.232.350.16

14.81

4.730.161.100.005.99

0.220.891.110.810.380.032.33

0.770.020.210.001.01

1.12-1.22-0.105.112.710.097.80

0.160.383.390.604.53

0.21-0.190.020.970.510.011.51

0.020.070.630.100.83

1.370.842.206.283.12

-0.0711.54

-0.350.163.700.023.53

0.280.170.441.260.63

-0.012.32

-0.060.030.750.000.72

0.87-3.27-2.403.932.310.244.07

0.660.613.091.175.53

0.15-0.56-0.410.670.400.040.70

0.110.110.520.200.93

-0.13-1.75-1.873.292.32

-0.213.53

1.750.634.360.857.59

-0.02-0.28-0.300.520.37

-0.030.56

0.280.100.690.131.20

% GNP

99

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – SOUTH ASIA REGION


Table 5





1.663.565.222.840.870.259.17

0.070.020.190.000.28

0.400.901.300.690.210.062.26

0.020.000.050.000.07

3.631.775.403.881.550.45

11.29

3.490.180.400.064.13

0.760.371.130.820.330.112.39

0.730.040.080.010.86

3.120.483.602.811.67

-0.177.91

1.130.642.372.226.37

0.640.110.750.570.34

-0.021.64

0.240.130.450.441.26

3.991.205.193.151.950.60

10.90

1.880.471.011.995.34

0.880.261.140.690.430.142.40

0.420.100.220.431.17

2.24-0.242.002.481.38

-0.944.92

0.370.813.742.467.39

0.41-0.050.360.450.25

-0.170.88

0.070.150.680.451.35

1.250.241.492.421.06

-0.314.67

5.611.003.092.06

11.75

0.210.040.250.400.18

-0.050.78

0.930.170.510.341.96

% GNP

100

1970s 1980s 1990s 1990 -1994 1995 -1999 2000Public $bn 1999

NET PUBLIC AND PRIVATE FLOWS – LATIN AMERICA AND THE CARIBBEAN REGION


Table 6


PrivatePrivate creditorsPrivate non-guaranteed debtForeign direct investmentPortfolio equity flowsTotal PrivateTotal Private



2.722.535.250.881.340.357.82

21.747.747.510.00

36.99

0.260.240.490.080.130.030.74

1.890.730.700.003.32

4.893.698.572.151.851.65

14.22

15.032.299.210.12

26.65

0.420.300.710.190.160.151.21

1.160.080.740.011.99

3.84-1.402.443.362.680.559.03

7.8817.8040.1710.4276.27

0.22-0.060.160.200.160.030.56

0.430.982.190.624.22

2.171.023.193.502.75

-0.818.64

2.769.71

18.3213.0343.83

0.150.080.230.240.18

-0.050.60

0.170.621.190.842.82

5.52-3.831.693.212.611.909.42

13.0025.8862.017.82

108.71

0.28-0.190.090.170.140.110.51

0.681.333.190.415.62

2.35-4.97-2.613.002.32

-10.40-7.69

8.047.39

73.669.54

98.63

0.12-0.24-0.130.150.11

-0.51-0.38

0.400.363.620.474.85

% GNP

1970s 1980s 1990s 1990 -1994 1995 -1999 2000

GROSS DISBURSEMENTS – PUBLIC AND PRIVATE FLOWS

Source: Global Development Finance

Table 7

11.623.835.416.69.65.0

66.4

57.829.911.70.0

99.4

26.635.161.722.613.610.8

108.7

92.523.518.70.9

135.5

37.127.564.633.418.915.6

132.5

89.275.6

110.930.2

306.0

34.328.462.836.919.69.6

128.8

75.143.261.625.8

205.6

39.926.666.529.918.221.6

136.2

103.4108.0160.334.6

406.3

32.921.454.328.616.59.8

109.2

102.895.7

172.246.3

417.0

PublicMultilateral L-T debtBilateral L-T debtTotalGrantsTechnical CooperationIMF purchasesTotal PublicPrivatePrivate creditorsPrivate non-guaranteed debtForeign Direct InvestmentPortfolio Equity FlowsTotal Private

101

1970s 1980s 1990s 1990 -1994 1995 -1999 2000

NET TRANSFERS – PUBLIC AND PRIVATE FLOWS

Source: Global Development Finance

Table 8

6.813.220.016.69.61.7

47.8

26.46.5

-20.40.0

12.5

9.211.420.522.613.60.1

56.9

-7.3-8.6-5.30.9

-20.4

2.7-8.8-6.133.418.92.2

48.3

-10.817.382.530.2

119.2

1.10.01.2

36.919.6-1.056.6

-13.114.338.725.865.7

4.3-17.7-13.429.918.25.4

40.1

-8.620.3

126.334.6

172.7

-6.4-15.1-21.528.616.5

-13.510.2

-20.9-24.3123.646.3

124.7

PublicMultilateral L-T debtBilateral L-T debtTotalGrantsTechnical CooperationIMF purchasesTotal PublicPrivatePrivate creditorsPrivate non-guaranteed debtForeign Direct InvestmentPortfolio Equity FlowsTotal Private

1980 1985 1990 1995 1996 1997 1998 1999

CUMULATIVE OUTSTANDING MULTILATERAL DEBT BY INSTITUTION(US$ BILLION, CURRENT)

Source: World Bank: Global Development Finance and World Bank Debt Tables, various.

Table 9

14.32.5

11.8

3.00.50.7

..1.8

0.70.60.1

12.23.3

30.8

61

World BankIBRDIDA

RDB’sAfDB and AfDF

ADBEBRD

IDB

EU InstitutionsEIB and EDF

Other

IMFConcessional

Others

Total

32.58.4

24.1

10.51.52.8

..5.8

1.51.20.2

39.72.7

63.5

147.3

72.327.744.6

31.97.1

10.9..

13.9

4.23.50.8

34.73.7

99.2

242.3

116.145.470.8

70.915.826.60.7

27.8

9.47.12.3

61.18.5

93.7

351.3

122.147.974.3

73.516.327.11.2

28.8

10.17.92.2

60.18.5

80.6

346.4

140.063.476.6

78.815.930.31.5

31.1

9.87.82.0

70.88.2

61.2

360.6

198.0114.683.4

94.617.138.22.4

36.9

12.510.52.1

93.88.9

30.4

429.4

205.6118.986.7

106.217.043.42.7

43.0

12.210.41.8

78.98.9

29.0

431.9

102

NET DISBURSEMENTS OF ODA BY INSTITUTION(US$ BILLION, 1999 PRICES)

Source: OECD: DAC online database

Table 10

1970 1975 1980 1985 1990 1995 1999

0.89..

0.89

..

..

..

1.090.290.280.260.040.590.172.72

1.220.000.010.001.23

..1.100.001.1

5.94

World BankIDA

IBRDSub Total

IMFIMF Trust Fund

SAF + ESAFSub Total

UNUNDPUNTA

UNICEFUNRWAUNHCR

WFPOther UNSub Total

Regional BanksIDB

AfDFADB

CarDBSub Total

EU FamilyEBRD

EUCouncil of Europe

Sub TotalTOTAL

3.25..

3.25

..

..

..

1.190.210.380.290.211.240.844.36

0.950.010.230.051.24

..2.300.002.3

11.15

2.750.192.94

2.91..

2.91

1.180.060.440.280.830.960.424.17

0.580.170.270.081.10

..2.000.012.01

13.13

5.040.075.11

-0.58..

-0.58

1.230.570.540.360.811.510.635.65

0.680.410.760.041.89

..3.100.023.12

15.19

4.40..

4.40

..0.360.36

1.030.260.660.330.521.050.774.62

0.170.681.240.042.13

..2.800.002.80

14.31

4.39..

4.39

..1.431.43

0.450.500.710.310.780.970.644.36

0.210.511.03

-0.021.73

0.014.160.054.22

16.13

4.51--

4.51

--0.200.20

0.510.430.560.290.250.360.162.56

0.220.460.940.011.63

0.024.910.044.97

13.87

103

1970s 1980s 1990s 1990-1994 1995-1999 1999

NET DISBURSEMENTS OF PRIVATE CAPITAL FLOWS BY CATEGORYTable 11

7.21.61.60.0

29.438.2

Foreign direct investmentPortfolio investment flows bonds equityBank & trade-related lendingNet private capital flows

14.63.02.50.5

31.449.1

106.660.031.628.421.9

188.5

56.243.820.723.215.9

115.9

156.976.242.533.728.0

261.1

185.459.925.434.5

-26.2219.1

$bn1999

1975 1985 1989 1991 1993 1995 1997 1999

NET DISBURSEMENTS OF PRIVATE CAPITAL FLOWSBY INCOME GROUP – SELECTED YEARS

Source: World Bank: World Bank Development Indicators

32.3-0.1-0.10.0

67.8100

29.41.21.20.0.

69.5100

Low-income countriesForeign direct investmentPortfolio investment flows

BondsEquity

Bank & trade-related lendingNet private capital flows

Middle-income countriesForeign direct investmentPortfolio investment flows

BondsEquity

Bank & trade-related lendingNet private capital flows

45.56.16.10.0

48.4100

34.018.217.70.5

47.8100

42.59.95.54.4

47.6100

67.016.99.57.4

16.1100

54.921.521.10.4

23.6100

59.029.917.112.911.1100

55.439.69.2

30.45.0

100

51.431.515.715.717.1100

55.439.69.2

30.45.0

100

51.431.515.715.717.1100

60.425.316.98.4

14.3100

57.226.616.310.316.2100

455.93.2

-118.2121.4

-359.1100

61.819.113.55.6

19.1100

% s

har

e

COMPONENTS OF PRIVATE CAPITAL FLOWS (% SHARE)

Source: World Bank Development Indicators

Table 12

Foreign Direct Investment Portfolio Investment Flows

100%

80%

60%

40%

20%

0%

-20%19851975 1989 1991 1993 1995 1997 1999

Bank & trade-related lending

year

APPENDIX A.3

104

COMPARATIVE ASSESSMENT OF EVALUATION BY MAJOR AID AGENCIES

Appendix A.3

Widely disseminatedwithin the Bank andthrough seminars andconferences. OEDdatabase containsinformation on allcompleted operations.But too much detailand not easily usable

Lessons learned arefed in to new projects.

Developeddisseminationmechanisms andlarge data base inPEIS (Post EvaluationInformation System)

Lessons learned arefed in to new projects

Not institutionalised.Publication ofevaluations carriedout through countryoffices may berestricted

No formal feedbackmechanism, butevaluation reportswidely circulatedinternally andavailable to EXCOM

No formal orinstitutionalisedmechanism forfeedback. Allevaluation reportsare shared anddiscussed internallyand given widercirculation. OEDE hasstarted data basewith summaries ofcompleted reports.

Evaluation reportscompleted since 1998are on web-sitetogether with currentsummaries (EvInfos) .Feedback in to newprogrammes/Projects encouragedbut not alwaysapplied.

Extensive library anddatabase. Since 1995has integratedresults reporting andperformance in tothe way it plans andimplements futureprogrammes.

Evaluation Unitestablished in 1970

OED reportsdirectly to Board.

Post EvaluationUnit (PEO)established in 1978

PEO reports directlyto President

Central EvaluationOffice (CEO)founded in 1983Director ofEvaluation Officereports toAdministrator

Project EvaluationUnit established in1980Director ofInspection andEvaluation ServiceReports to HighCommissioner

Office of Evaluation(OEDE) reportsdirectly to ExecutiveDirector

Since 1.1.2001Evaluation Unit inEuropeAidReports to theCommissioner forDevelopment. Allevaluations arecontracted out toindependentconsultants

Central PolicyBureau reports tothe Office of theAdministrator

World Bank

AsianDevelopmentBank (AdB)

United NationsDevelopmentProgramme(UNDP)

United NationsCommissionerfor Refugees(UNHCR)

World foodProgramme(WFP)

EuropeanCommission (EC)

USAID

50 (1998)

36 (1998)

11 (1998)

2 (1998)

Consultantsarerecruitedwhenneeded

7 (1998)

8

n.a.

Wappenhams Reportcriticised emphasis onmechanics of physicalimplementation andtoo little attention torisks and factorsinfluencing outcome.

Monitoringperformanceindicators sincedefined for 17 sectors

Project AdministrationCommittee (PAC) andBenefit MonitoringEvaluation (BME)where only 30% ofcompleted projectsevaluated. Need tofine-tunemethodology forassessment ofdevelopmenteffectiveness

According to surveyonly 17% of projectsjudged to be successful

Largely self-evaluationprocess. Lack ofrigorous scrutiny andfollow up by HQ

Primarily responsibilityof recipientGovernment. Since1990 uses BCMapproach (BeneficiaryContact Monitoring)Mixed resultsaccording to region

Monitoring is beingdecentralised toDelegations. In the pastmonitoring was widelycriticised. Theimplementation delaysin many programmescoupled with findingsof Court of Auditorstend to substantiate this

Operating –unitevaluations captureproject progress aswell as performanceissues and operationalproblems.

Regarded as the leadexample for others tofollow.ImplementationCompletion Reports(IMC) and AnnualReport on PortfolioPerformance (ARPP)have set standards forthe sector

Since 1995, AnnualPerformanceEvaluationProgrammeintroduced

Status of mandatoryevaluations unclear.Less structuredapproach but morebeneficiaryparticipation

Emphasis onquantitative aspectsof physical progress.Limited attention toqualitative aspects ofprogrammes/projects

No completionreports. Selfevaluations byCountry Offices(COPRs) contain toomuch detail and lackanalytical rigour

Logical Frameworkplanning technique isgenerally used.Too early to assess.

Goal area technicalanalyses conductedon specialised topics–used to validate ormodify programmestrategies

Shift from evaluationof individual projectsto countryprogrammes and itsoverall effectiveness

QAGroup assessquality at entry.Logframe used butnot uniformlythroughout the Bank.

Project Performancemanagement System–systematic captureof project’s outputs,effects and impacts.

PEO undertakesbroad-basedevaluations (impactevaluations, specialstudies…) apart fromproject evaluations

Shift towardsprogrammeevaluation, but nouniform approach.Reports prepared bycountry offices

Since 1990s changetowards strategicevaluations

No in-depthevaluations onimpacts andoutcomes. Recentfocus has been onemergency andprotracted reliefoperations

Annual rollingprogramme for majormulti-countryprogrammes/Projects. Non-programmedevaluations contractedby Delegations withadvice fromEvaluation Unit

Central evaluations byCPB Operating unitevaluations (bothimpact analysis andoperational)Goal –area evaluations

Quality of Output Effectiveness ofMonitoring Use of FeedbackDesign of

Evaluation SystemStaffingOrganisationalIndependenceAgency

105

Reports arewidespread throughthe UK parliamentmembers, IDC, UNbodies…

Most studies arereleased to the public

Informal feedback,but there are alsofollow-up memosprepared to be givento involveddepartments withfollow-up activities

Provide aidevaluationexperience throughworkshops andseminars

Assist DANIDA’straining centre inthe dissemination ofevaluationexperience

Most studies arepublic

Evaluationdepartmentestablished in 1970

Evaluations arecontracted out toExternal consultants

Evaluation unitreports to Projectand EvaluationCommittee

The National AuditOffice undertakessome independentstudies on someProjects/Programmes

Evaluation unitestablished in 1980

Evaluationsexecuted byexternal consultants

Department forInternationalDevelopment(DFID)

DanishInternationalDevelopmentAssistance(DANIDA)

14 (2001)

4 (1995)

Feedback thoroughmonitoring gatheredsystematically duringthe process ofimplementation tocheck performance ofproject/programme

Policy InformationManagement System(PIMS), to marshalabout sensitive topics

Quality assurancetakes place by meansof day-to-daymonitoring of theimplementation of thedevelopmentassistance and the on-going evaluation(DAC has described itas one of the best inthe world)

Use of LogicalFramework technique

Some evaluations areconducted withstakeholders analysisand participatoryapproaches

Finance and economicanalysis have been themain focus ofevaluation

DFID have beencritized for: 1)superficial and shortfield research and 2)few impact analysis

DANIDA isexperienced inevaluatinginstitutionaldevelopment

Better qualityevaluation reportedthan other donorsthanks to DANIDA,smethodologicalanalysis and timedevoted to fieldresearch

DFID’ evaluationcriteria follows DACrecommendations

Shift from projectsevaluation toexamination ofthemes (e.g. gender),sectors (e.g. basiceducation) andcountry programmes

DANIDA’ evaluationcriteria follows DACrecommendations

Shift from projectevaluation to sector,country andthematic evaluation

DANIDA has acomplete proceduralevaluation for theNGO-Aid

Sources: AusAID, Review of the Evaluation Capacities of Multilateral Organisations, May 1998DFID, Impact Assessment in Multilateral Institutions, August 1998DANIDA, Evaluation GuidelinesEC, The Comparative Effectiveness and the Evaluation Efforts of EU donors

COMPARATIVE ASSESSMENT OF EVALUATION BY MAJOR AID AGENCIES

Quality of Output Effectiveness ofMonitoring Use of FeedbackDesign of

Evaluation SystemStaffingOrganisationalIndependenceAgency

APPENDIX A.4

106

TA BUSINESS PROCESS: OBSERVATIONS AND SUGGESTED CHANGESAppendix A.4

TA “businessprocess” step

1. Initiative

2. Definition of task

3. Tender process

4. Selection i.e.decision

5. Volume/size ofservices

6. Team

7. Fees

8. Decisions onfindings

9. Implementation

10. Timetable

-TA frequently a condition of an IFI for the provisionof other funds.-Beneficiary institution can be chosen for itseffectiveness as a channel for international assistancerather than as the most logical institution whichshould be responsible for receiving and implementingthe advice.-TA occasionally not at the initiative of the beneficiaryso there is little or no ownership. Indeed, it may beun-wanted.-Financing of TA by grants or soft loans diminishesownership.

-Beneficiary does not always write the TORs.-Tasks are typically described in complex, multi-taskTOR with broad coverage addressing wide range ofissues that go beyond the responsibilities of oneinstitution.-Increasing “latitude” of interpretation in TORs aboutactual coverage (particularly on implementationissues).

-Detailed bureaucratic requirements result in inches-thick standardised proposals which discourage ideas,innovation and ingenuity.-Formalised and ritualised time-consuming processfor tenderer and evaluator alike.

-Usually done by a selection committee on whichbeneficiary may be only lightly represented, if at all.-Decision based on mechanical scoring criteria whichcomply with procedures but can obscure the suitabilityof choice (i.e. provided a score is assigned, theconsistency and level of that score is not questioned).

-Increasingly large, multi-task assignments with riskof heterogeneous quality.-TA covers more and more non-advisory activitiese.g. travel for study tours, equipment etc. whichconsultants are not well equipped to provideefficiently.-Budget usually set by financing agency which mayreflect other influences e.g. remaining unallocatedfunds, size of annual programme, country-wideframework agreements etc., yet be inappropriatefor the size of the task and professional requirements.

-Strong emphasis on people with functionalexperience rather than effective advisory skills.-Tolerance of teams hired for the job i.e. collectionsof independents.-Often little real client team involvement: nominalcounterparts usually skip doing the real work.

-Dichotomy of client (beneficiary) and payer (IFI) cancreate a distortion in pricing as fee levels could bearlittle relation to the value of the advice to the client.-General squeeze on fee levels.-Increasingly complex construction and breakdownof fees and expenses in proposals.-Administratively cumbersome billing and paymentprocedures with broad scope for delays and disputes.

-Frequent use of Steering Committees tends to makeacceptance of recommendations more unlikely asthere are “many masters” to please.-Increasing habit of accepting or rejecting an entirereport rather than selecting from the substantivecontent what is acceptable and rejecting what is not.-Occasional threats of non-payment unless theconsultant writes what the client wishes them towrite.

-Can be significant political hurdles to overcomewhich can create impasse.-With the objective of promoting competition andpreventing malpractice, the rules of consultantprocurement usually prevent the same team fromassisting with implementation and a tender is requiredfrom which the existing firm is excluded, therebylosing the learning curve and cumulated experience.

-Can be lengthy and slipped.-Frequently tied to other timetables which have norelation to the content of the advice.

Observationsabout TA today

Proposed changesto aim for in re-design

-Ensure the request for consultancy work comesdirect from the beneficiary to enhance real interest,real ownership and real co-operation.-Ensure the beneficiary has real jurisdiction andresponsibility to enable implementation.-Avoid “free” TA and create a financial stake for thebeneficiary.

-Ensure the tasks are defined by the beneficiary withan emphasis on a few clear outputs and results.-“Un-bundle” TORs to make them clearer and moremanageable.- Systematic use of Logframe Planning Matrix todefine inputs, expected outputs and indicators ofachievement

-Make the bidding process more informal and flexibleto resemble the free market (with only a sample ofsituations audited to prevent malpractice).-Emphasise creativity and innovation.-Require short proposals focusing on outputs andend-results of the work.

-Focus selection criteria on consulting and advisoryskills as much as historic functional experience.-Make the recipient the key decision taker, subjectto reasonable controls.

-Structure a series of smaller tasks in such a way thatdecisions on whether to continue or not are takenat the end of each stage.-Focus on advisory elements only and avoidprocurement of other services under TA.

-Emphasise people with effective advisory skills i.e.who are good consultants (also implies stronger biasin favour of permanent employees who are trainedas consultants).-Ensure there is real involvement of the client teamby allocating real tasks to them (thereby also reducingthe size and cost of the consultant team).

-Radically simplify and streamline administration andpayments.-Extend the use of lump-sum contracts with expensesexpressed as a global percentage of fees.

-Decide on basis of selectivity; the client learns toselect what is useful.-Ensure recommendations are reviewed by beneficiarydirectly focusing on issues of content rather thanwording.-Allow independent views and simply ignorerecommendations which are not acceptable, ratherthan forcing changes with non-payment threats.

-Make the implementation of acceptedrecommendations a priority.-Allow the consultants who have worked on theanalysis to be retained to support that process,provided their performance was satisfactory.

-Reduce timetables in line with smaller tranches ofwork.-Avoid tying timetables of consulting work to othermilestones which are un-related.

APPENDIX A.5

Considerations for improving IFI internalprocesses

This appendix describes preliminary ideas for IFIreform that should be particularly relevant forimproving the effectiveness of aid delivery, includingthe management of I.I.

• Increase the correlation between LDCperformance and volume of aid delivered. Thereis no shortage of internal strategic documents, atglobal, country, and sector level that advocaterelating the provision of aid to LDC performance.In practice, however, this correlation is lessevident, as reflected in the IFIs own internalevaluation documents. Irrespective of – theadmittedly significant – difficulties faced indetermining the performance of the aidsuppliers, aligning more closely performance andaid delivery will remain a crucial objective. Oursuggestion is that IFIs introduce the concept ofacquis developpementaire as the basis for linkingaid to performance, given the crucial importanceof I.I. management to the effectiveness of aid.

• Address the tradeoffs between the need forcoordination and competition amongst aidsuppliers. Greater coordination amongst aidsuppliers is required to reduce wasteful overlapsand duplications and to alleviate the burden thatusers face in relating to the large number ofinstitutions and organizations involved in aiddelivery. While work is proceeding on manyaspects of coordination (eg: creating newcoordination mechanisms, or involvingrepresentatives of various constituencies) more isneeded to reduce the administrative burdenimposed on under resourced LDCs. Anotheravenue for introducing improvements on theseaspects would be to introduce more competitionamong public aid providers126. While somecompetition exists, in practice it is limited by thedesire to use as effectively as possible a rarecommodity (aid) and thus coordination has beenmore emphasised. It should be possible tointroduce more competition in certain areas toprovide users with more selectivity, more ability toforce changes and reduce transactions costs etc.Evidently this could work mainly with countriesthat have achieved a level of I.I. that gives themthe ability to play that role, i.e. those that havereached the acquis developpementaire.

• Abolish any remaining annual programmingwithin the IFIs. This idea involves: a) Eliminating any remaining annual programming

i.e. not defining lending volumes per countryand per sector in advance;

b) Changing IFI staff performance appraisalsystems to emphasise portfolio quality, overalldevelopment impact and replication aspects;and

c) Insisting on the principle of selectivity infunding decisions, with demonstrated“rejections” at all stages of the funding cycleincluding at board/credit committee level.

• Boost other aid instruments. This idea proposesthat the volume and transfer of resourceobjectives are addressed by boostingconsiderably two other, existing, instruments:a) Enhance humanitarian aid. For countries that

have not reached the “acquisdeveloppementaire”, humanitarian aid shouldbe provided to needy target groups. Thishumanitarian aid should increasingly haveconditions attached, so as to avoidGovernments relying on this as a convenientway of solving national problems withoutaddressing the underlying causes. Similarly, tominimise the risk of corruption andmalpractice, humanitarian aid should bedistributed by private organisations (e.g.NGOs) appointed by competitive tenders forthese tasks.

b) Develop “last-resort” guarantees and othermechanisms for boosting private FDI. Thisrefers to the type of facilities provided byMIGA i.e. for long-term finance as opposed toshort-term commercial credit insurance etc.The number of providers of such guaranteesshould be increased, and there should be anexpansion in the product range and volume ofbusiness of these specialised institutions. Thiswill provide significant choice and a real“comfort” factor for private investors whichshould boost the volume of FDI. This point isdeveloped further, below.

• Explore new avenues to facilitate private flows.As discussed in chapter 1, private aid flows havebeen concentrated on few countries and thecombination of the end of the first wave ofprivatization, and some backlash emergingagainst privatization or other forms ofpartnership with the private sector (e.g.concessions for infrastructure), may also affectFDI in the future. On this basis, there seems to besome good justification for the IFIs to considerexpanding the menu and scope of instruments tofacilitate foreign private investment and flows inthe LDCs. Evidently this should not substitute forcountries themselves continuing their efforts toprovide an environment where domesticinvestment can also expand – a solid andeffective institutional infrastructure is critical forinvestment irrespective of its origin.

• Create an IFI Regulator (IFIR). Like any financialinstitution, IFIs should also have a higher level ofaccountability than to shareholders alone, i.e.they should be supervised and regulated127. Asthe aid industry has expanded its institutions,grown its volume of business and has generally“matured”, it is normal that it too should nowhave a regulator128. The idea of an IFI regulator orsupervisor is geared to protecting the consumers

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126 See for example Easterly (The cartel of good intentions – Foreign Policy Magazine, June 2002).127 The issue of IFI accountability is not necessarily aimed at monitoring financial solvency which is one of the key concerns of “normal” financial

supervisory activity, because with government shareholders these issues are likely to be minor. Instead, the main concerns centre more onoperational matters; are broad policies and objectives being achieved by the aid institutions? Are corrective actions needed? Shouldsanctions be applied? This concept goes well beyond the “Operational Evaluation Departments” that many aid financiers have, as anexternal regulator can be tougher and take more far-reaching decisions.

128 It should be recalled that banking systems were also not regulated initially in the “younger” phases of their development. And so in thefirst 50 years of the aid financing business, IFIs too have not been regulated. However, with the combined balance sheets of the multi-lateraldevelopment banks and their subsidiaries reaching around US$ 500 billion in 2001, it is time to address that omission.

of aid finance if the market opens up tocompetition amongst the IFIs. To directly addressthis objective, the IFIR could create an “AidOmbudsman” who will receive and investigatecomplaints against an IFI by a borrowing country.This suggestion in no way implies that the IFIs areirresponsible institutions that need carefulwatching, but it simply extends the principle

found in national economies to the internationaleconomy, i.e. that financial institutions need tobe supervised. The IFIs themselves alreadypromote this principle in their operations129sothere should be no difficulty in introducing a lightform of self-regulation. The key parameters ofthe idea are outlined in the box below.

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A POSSIBLE IFI REGULATOR (IFIR)

An IFI Regulator (IFIR) should be established which will function partly as a central banking style“supervisor” and partly as a “watchdog” for the aid business, ensuring that consumers are protectedin a more competitive environment.

Status: the IFIR should be an international institution with the IFIs, lead by the major 20-25, as members.Membership is compulsory. The status of the regulator would be that of a “self regulatory organisation”(SRO). It need have no shareholders and it would be funded by membership fees.Governance: a Board should be composed of representatives from the membership (i.e. the IFIs), the“clients” (i.e. the beneficiaries) and other relevant participants in the aid process such as multi-nationalcompanies (i.e. providers of FDI), international investment banks and NGOs.Staff: a technical staff team drawn from outside the aid financiers should be recruited in order toundertake the required analyses and inspections. Overall, with a lean and mean philosophy, there isno need to create a disproportionately large organisation130.The functions of the IFIR would resemble those of a “watchdog” of a recently privatised industry, within addition some elements resembling central banking supervision. Key roles include:

• Setting rules and a framework for the competitive mechanism and operational objectives in thedelivery of international aid finance (very similar to what the privatised industry “watchdogs”have done);

• Granting licences to its member institutions, renewable annually and assessed on the basis ofability to make a positive contribution in the aid market;

• Monitoring compliance with the rules & framework, and assessing overall performance throughon-site and off-site supervisory processes;

• Creating an Aid Ombudsman which receives and investigates complaints against an IFI from aborrowing country131;

• Applying sanctions to member institutions when needed;• Publishing audit-style reports on its members activities.

129 For example, the International Centre for Settlement of Investment Disputes (ICSID) has been expanding its activities since it was establishedin 1966. And more recently, most major IFIs are broadening the mandate for their Inspection Functions to deal also with compliance issuesand some measure of consumer protection.

130 Staff size will depend on focus and operating style. Each member IFI should have their own team of compliance officers to interact withthe IFIR and submit quarterly reports to it. IFIR should use samples and existing audit reports in its work allowing a relatively small staff tocheck for compliance in each member IFI. On this basis, if IFIR were to have around 25-30 initial IFI members, a staff of around 75-100should be adequate i.e. a staff to membership ratio of around 4:1.

131 This Aid Ombudsman primarily receives complaints about breaches by IFIs of rules developed by the IFIR. It could also serve as an additionalforum in which more direct consumer complaints against IFIs are heard, perhaps acting as a “higher court” if complaints cannot be resolvedby the IFIs own inspection and compliance processes.

APPENDIX A.6

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POTENTIAL IDEAS FOR THE INTERNATIONAL DEBTCONSOLIDATION FUND (IDCF)

Overall objectives: The IDCF will promote sovereign debt relief by taking over eligible debt from eligiblecountries and issuing long-term bonds to the “official lending institutions” to the value of theoutstanding balance of these debts. The bondholders will receive interest on the bonds which willeventually be redeemed by the IDCF.

IDCF shareholding: Initially the DAC countries, though this could be extended to other countries at alater date

Eligible debt: There should be several criteria.a) All official debt to the eligible countries, irrespective of whether it is on concessional

terms or not;b) Debt must be in arrears on principal and interest payments for more than a year;c) Separate public finance analysis must show that the country cannot expect to repay

any interest or principal over the next 2 years.

Eligible countries: Again there could be several criteria.a) Countries defined to be eligible for HIPC (i.e. using the current definition that the net

present value of debt servicing should not exceed a given number of months of exportearnings);

b) Perhaps a “country bankruptcy” criterion could be added where a country has halteddebt service payments and is awarded a “chapter 11 style” breathing space in whichto re-structure its finances132.

IDCF bonds: A wide range of variables could create various classes of bonds. Key variables will includecurrency, maturity, face value, coupon, guarantee, warrants, options, amortisation methods (bullet oramortising), trading and secondary markets etc. For the IDCF bonds to be effective in their debt relieftask it is likely that they will need to be around 30 year maturity with a bullet amortisation. The IDCFshould have some value recovery rights if the country achieves certain defined financial targets followingthe debt relief. These rights may stimulate trading and secondary markets, thereby injecting liquidityand reducing the overall cost of eventual bond redemption to the shareholders.

Capital: An initial callable capital of about US$ 20 billion is probably needed. If initial paid-in capitalis set at US$ 10 billion and a leverage ratio of 10:1 is acceptable, then US$100 billion of bonds couldbe issued for debt relief. The capital will need to be invested in AAA or similar instruments in orderto generate the interest earnings to pay the bond yield.

Operations and staff: The IDCF should rely heavily on the depth of knowledge and resource withinexisting IFIs, especially the IMF. It could therefore afford to operate as a “balance sheet” with a fairlysmall staff dealing with debt and country eligibility, bond issuance and bond servicing.

Appendix A.6

132 See the IMF proposal on this subject presented by Anne Krueger, Deputy Managing Director, in November 2001.

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