Foreign aid Where the money goes

...The logic is a tad fuzzy-if extreme poverty breeds terrorism and anti-Americanism, then the September 11 terrorists would have hailed from Bangladesh, sub-Saharan Africa, or northeast Brazil rather than Saudi Arabia...

...First, agreement over what constitutes a "good" economic policy is constantly shifting, and low-income nations are hard pressed to keep up with the latest fad in development thinking...

...Indeed, "good" economic policies are often in the eye of the beholder...

...Why waste aid dollars-or euros or yen-in a country where corrupt leaders steal aid, or where contracts are not enforced, or where the money will be misspent on outdated economic programs and misguided strategies...

...We did the same thing then-we picked out countries that were far-from-desirable recipients of foreign aid, but just because they were on our side, we gave them aid, and World Bank and IMF loans, too...

...Amidst this new rhetoric about the value of foreign aid, however, an interesting piece of conventional wisdom has emerged: No amount of economic assistance will do any good, explain the donor governments, if the recipient countries fail to introduce the right economic framework-"good policies" that foster free markets, the rule of law, and sustainable fiscal and monetary management...

...It's obvious that there is political pressure [on international aid agencies] to expand lending to countries that are going to be allies in the war against terrorism," Easterly recently explained to the Washington Post...

...In a way, this is really redoing some of the big mistakes of the cold war...

...Second, the United States and other rich nations are unlikely to stop granting aid based first and foremost on geopolitical considerations, regardless of the recipients' economic framework...

...President George W. Bush, for instance, recently announced that the United States would boost development assistance by 50 percent over the next three years, equivalent to a $5 billion annual increase...

...Indeed, if all these conditions were reversed, such nations would probably not need aid at all...

...Similar uncertainties surround a whole host of economic policy issues: What is the "correct" exchange-rate policy for a developing country...

...Today, the war on terrorism is creating a similar imperative...

...We must tie greater aid to political and legal and economic reforms," declared President Bush during the Monterrey meeting...

...Such opening is known as "capital account liberalization...

...Without such an effort, the "good policies" requirement will prove little more than a convenient scapegoat for tightfisted rich nations and a deadend for poor citizens in the developing world...

...On its face, the caveat makes sense...

...Countries like Pakistan and Afghanistan are now slated to receive generous international assistance packages, due mainly to their strategic importance...

...Today, controls on capital flows have gained some acceptance among leading economists and policymakers-little consolation for the nations devastated by herd-like capital flight...

...In his outstanding new book The Elusive Quest for Growth (MIT Press, 2001), former World Bank economist William Easterly explains how, during the cold war, strategically important nations received aid regardless of their economic policies, or even their record on political and human freedoms...

...Yet Pakistan ranked seventy-nine out of ninety-one countries in Transparency International's 2001 Corruption Perceptions Index-not quite the exemplar of open markets and the rule of law...

...Carlos Lozada is senior editor of Foreign Policy magazine...

...What is the correct approach to controlling inflation...

...In 1999, an independent panel charged with reviewing the IMF's performance during the Asian crisis concluded, with masterful understatement, that "on the issue of capital account liberalization...the Fund's advice certainly did not help prevent the crisis...

...Ultimately, politicians and development bureaucrats in rich nations must face the challenge of delivering effective aid to countries with "bad" policies and worse politicians...

...Nevertheless, the industrialized nations recommitted themselves to increasing foreign aid this past March at the UN-sponsored International Conference on Financing for Development in Monterrey, Mexico...

...This may force donors to bypass governments altogether and work directly with the private sector, nonprofit organizations, or religious groups in developing nations...

...Finally and perhaps most important, the "good policy" requirement is tantamount to telling millions of impoverished peoples that they are simply out of luck...

...When aid is linked to good policy, four times as many people are lifted out of poverty compared to old aid practices...

...These questions are far from settled, and the answers may vary according to different nations' circumstances...

...But the approach backfired in 1997-98, when the Asian financial crisis broke out and massive amounts of capital left the region, resulting in tumbling currencies and deep recessions...

...Yet, this "good policy" mantra suffers from three fundamental problems that severely limit its effectiveness as a guiding principle for foreign aid...

...Long ostracized in economic development circles as a necessary evil or simply as a wasteful budget item, economic assistance to poor nations has again become fashionable, due in large measure to the war on terrorism...

...The irony of this approach is that antipoverty assistance is needed precisely in those nations with corrupt leaders, weak rule of law, and misguided economic policies...

...For example, in 1997, the International Monetary Fund (IMF) encouraged poor nations to open themselves up to private capital flows from abroad, including short-term portfolio capital or "hot money" that could pull out at a moment's notice...