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Can Merit-Based Aid Encourage Better Behavior?

August 6, 2012

Foreign aid plays a critical role in the international sphere. If it is given in a prudent manner, it can provide much needed disaster relief, stimulate economic growth, save lives, and provide a better future for developing countries. Developmental assistance is by no means a cure-all for poor countries, but it can do a world of good.

The inevitable outcome of foreign aid?

At the same time, however, the regime that governs foreign aid is not perfect. One of the strongest criticisms of foreign aid is that it can actually hinder development, subsidizing inefficiency and fueling corruption. The argument holds a certain degree of validity: if foreign aid is not given in a manner that promotes good governance and economic development, it can do more harm than good. On many occasions, aid has been given to undemocratic countries, propping up autocratic regimes. Critics of aid programs are quick to point to misuses of aid under Mubarak’s Egypt, Mugabe’s Zimbabwe, or Sen’s Cambodia.

Donors of aid are well aware of the fact and have taken measures to guard against potential abuses. The most popular response has been conditionality, the practice of linking the disbursement of aid to a set of predetermined conditions. Countries that do not meet the minimum thresholds for market reforms and human rights protection may find themselves in danger of losing their aid. While it’s a good idea in theory, it hasn’t been very effective: as it turns out, ex ante conditionality gives little leverage over recipient countries and the conditions are often ignored. Aid donors such as the U.S. are often timid to cut aid because the recipients are pivotal parts of national security strategies and pulling the trigger would produce an unwanted backlash.

Even independent of security concerns, conditionality has proven to be a toothless enforcement mechanism. For decades, large donors such as the World Bank and the International Monetary Fund have tied conditions to their loans and financial support, despite the fact that “[t]here is no empirical evidence showing that conditions enhance ownership or make program success more likely.”

Official U.S. developmental assistance has managed to avoid some of these pitfalls, but has encountered some of its own problems along the way. Among the most glaring are a bureaucratic culture that restricts innovation and flexibility, a high degree of externality in the execution of aid programs that discourages local ownership, and insufficient integration of governance priorities within the agency itself. But it doesn’t have to be this way. An offshoot of the traditional aid establishment has proven that foreign aid can promote democracy and development.

Known as the Millennium Challenge Corporation (MCC), the agency has introduced an innovative idea into the aid industry: competition. Founded in 2004, the agency gives financial assistance to developing countries, but only to those that show a commitment to sound political, economic, and social policies. Unlike conventional aid programs, the aid is not initially allocated for any country, but given by proof of elgibility; if a nation wishes to enter into a partnership with the MCC, they must present a tangible need and demonstrate their merit to responsibly use the assistance. Once this is accomplished, a nation may receive a variety of assistance in country-determined projects, including: agriculture and irrigation, transportation, water supply and sanitation, health care, finance and enterprise development, anti-corruption, land rights, and education.

Investment of MCC Compact funding by sector.

The transformational aspect of the MCC is the use of outside indicators to select country partnerships. It combines some of the most authoritative reports to determine a nation’s eligibility. To name a few: the Heritage Foundation’s Index of Economic Freedom is used to gauge commitment to economic freedom; the Brookings Institution’s Worldwide Governance Indicator measures government effectiveness; and Freedom House’s Civil Liberties Indicator evaluates human rights protection. Overall, countries are given a positive incentive to improve themselves to receive aid rather than a negative threat of aid termination. In ODA circles, the policy improvements made by countries to garner assistance has become known as the “MCC effect.”

Despite its growth in popularity, the MCC has managed to maintain its reputation as a selective organization. Although Congress has appropriated $10 billion for the agency since its founding, it has dispersed about $4 billion, a testament to judicious giving. Currently, there are 24 MCC partner countries and 15 MCC threshold countries—governments that are on the brink of MCC standards and are receiving small amounts of aid to meet the threshold, further confirmation of the MCC effect.

This is by no means to say that MCC is the salvation of foreign aid: the agency has had its own fair share of problems. A GAO audit in 2011 found that the MCC was struggling to meet the infrastructure needs of partner countries and needed to improve the overall coordination of its projects. Furthermore, a MCC partnership does not exclude the possibility of regression in partner country governance and development; on several occasions, MCC has been forced to terminate partnerships with countries because of anti-democratic behavior. The most recent country to go through such an experience was Mali; due to a coup that spilled over from the Arab Spring, the MCC was forced end a partnership with the government until order was restored last month.

The MCC model for foreign aid, however, continues to retain comparative advantages over the more traditional aid model. In the realm of developmental assistance that is often filled with stale ideas, the concept of merit-based aid distribution is certainly a refreshing one.

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