Millennium Challenged? New Approach to Foreign Aid Threatens to Become More of the Same

Standing alongside U2 lead singer Bono in March 2002, President Bush announced the formation of a “new compact for global development, defined by new accountability.” Yes, the president proposed the creation of a new foreign aid program…but not the same old foreign aid. This would be foreign aid with strings attached. As he explained it:

“Countries that live by these three broad standards—ruling justly, investing in their people, and encouraging economic freedom—will receive more aid from America. And, more importantly, over time, they will really no longer need it, because nations with sound laws and policies will attract more foreign investment…earn more trade revenues…and find that all these sources of capital will be invested more effectively and productively to create more jobs for their people.”

Further, Bush went on to portray this effort as vital to America’s security:

“The advance of development is a central commitment of American foreign policy…And when governments fail to meet the most basic needs of their people, these failed states can become havens for terror…Development provides the resources to build hope and prosperity, and security.”

This view was bipartisan. Sen. Dianne Feinstein (D-Calif.) said earlier that, “if we are going to win this war against terrorism, we have to be willing to invest in the lives and livelihoods of the people of the developing world.”

Heeding the president’s call, Congress passed the Millennium Challenge Act of 2003, which Bush signed into law in January 2004. The Act created a new government corporation, the Millennium Challenge Corporation (MCC), to be responsible for granting the development aid. To be eligible for MCC grants, a candidate country must demonstrate a commitment to (a) just and democratic governance, (b) economic freedom, and (c) investments in its people, particularly women and children. 

The MCC selected 16 quantifiable indicators to determine how well a candidate country’s policy environment reflected these three broad criteria, using data from respected, established sources. For example, the MCC uses Freedom House’s Freedom in the World survey to measure civil and political rights under the “ruling justly” category, while it uses the “Days to Start a Business” measure from the World Bank’s Private Sector Development unit under the “economic freedom” category. 

But earlier this year the MCC announced that it was searching for a 17th indicator to measure “the sustainable management of natural resources.” Why? In the original legislation, the “economic freedom” category includes the requirement that a candidate country demonstrate a “commitment to economic policies that…promote private sector growth and the sustainable management of natural resources.” Now the MCC claims that a separate natural resources indicator must be developed and it put former EPA Administrator Christine Todd Whitman in charge of this effort.

All of this, however, is not clear from the original legislation. In fact, not only is a separate natural resources indicator not needed, but the desire for such an indicator undermines support for the MCC’s broader goals. For instance, the Millennium Challenge Act prohibits assistance “for any project that is likely to cause a significant environmental, health, or safety hazard.” This in itself should satisfy those who worry that the people of Honduras might be tempted to turn their country into a gigantic dumping ground for PCBs and nuclear waste. But it is unlikely to satisfy those who approve of economic development only if it is “sustainable.” And that is a real problem.

A Vital Link

Creating a separate natural resources indicator severs the legislative link between the “sustainable management of natural resources” and “private sector growth” as articulated in the Millennium Challenge Act’s “economic freedom” category. This link is important because it breaks with the historic environmentalist view—clearly articulated in the Club of Rome’s Limits to Growth report from 1972—that economic growth can only come at the expense of the environment. Indeed, this link is one of the reasons why this “new compact for global development” can be designated as “new” at all.

In the early 1990s economists discovered an “environmental Kuznets curve.” Named in honor of Nobel Prize economist Simon Kuznets, this is a statistical relationship that shows that as GDP per capita increases, measures of environmental pollutants first rise, then fall, in an inverted-U shape, suggesting a clear link between economic development and environmental quality over the long term. Other recent studies show the contribution of institutions—such as property rights—to economic growth and their relationship to environmental quality. For example, in a 2001 study, Bruce Yandle of Clemson University and Andrew Morriss of Case Western Reserve Law School, argue that the efficient management of environmental resources is dependent upon the recognition of property rights:

[T]o obtain efficiency in environmental management, economic agents

must be allowed to truck and barter as they juggle access to and use of     environmental resources…The limits of efficiency are found when defined

and defended environmental rights can be completely alienated. (pp. 144-145)

Thus, adding a new and separate criterion dealing with natural resources confuses, rather than advances the Millennium Challenge goal of tying development aid to a country’s policy environment.

Does it Work?

The MCC vision and methodology are themselves highly questionable. The idea that development aid should be given to a country only if it adopts “good” policies is somewhat paradoxical. If a country knows what policies encourage economic growth and reduce poverty, then that’s wonderful! Why give them money for following what they know are good policies?

Moreover, does foreign aid, even the “new” foreign aid, actually work? In a fascinating 2003 article, “Can Foreign Aid Buy Growth” (Journal of Economic Perspecives), economist William Easterly describes how the media, politicians, and the World Bank among others mischaracterized an earlier academic study by Craig Burnside and David Dollar (“Aid, Policies, and Growth”, American Economic Review, 2000) which had found that, “aid has a positive impact on growth in developing countries with good fiscal, monetary, and trade policies but has little effect in the presence of poor policies.” This mischaracterization involved ignoring the assumptions, caveats, and data limitations that were present in the study and using the hedged conclusion as the basis for a new type of foreign aid program. In fact, as Easterly points out, President Bush’s Millennium Challenge initiative in March 2002 made use of the conventional wisdom that foreign aid increased economic growth so long as the local policy environment was “good.”

Without going into too many details, Easterly goes on to conclude that (a) the empirical basis for the “new” foreign aid is highly dependent upon how one defines, for instance, “good policies,” (b) a sound theoretical basis for thinking that foreign aid can increase economic growth is lacking, (c) aid agencies around the world continue to ignore evidence that development aid is not contributing to growth and therefore emphasize our shared “commitment of resources” in the fight against global poverty.

To the extent that the Millennium Challenge initiative succeeds in emphasizing the importance of private property rights, the rule of law, and economic freedom for fostering economic growth and prosperity, then one should wish it well. This includes helping the MCC to resist a weakening of this emphasis by spending time searching for an indicator to measure the “sustainable management of natural resources.” But the empirical evidence documenting the failure of foreign aid programs, both “old” and “new,” is extensive. It is unfortunate that politics combined with a misguided effort to “do good” have led to a blissful ignorance of foreign aid’s failures.