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A Strategy for Economic Growth
6. USAID’S Strengths Determine Its Role
In what ways has USAID been most successful in promoting economic growth? The choice of sector seems to have little to do with it. In many of the best-performing African countries, USAID assistance has contributed significantly to broad-based economic reform programs, both at the level of overall policy and at the sector level. In many of the same countries, USAID has been effective in helping create functioning markets for agricultural inputs and products. In Eastern Europe and the former Soviet Union, USAID helped create critical market-supporting institutions irrespective of sector, including systems of commercial law, trade regimes, banking, stock markets, and competent tax collection. Current or recent successes suggest that the approach matters more than the choice of sector. For example:
- In Liberia, a USAID/Treasury team is helping to implement a new collection system that doubled revenues for essential services between January 2005 and January 2006. President Johnson-Sirleaf has called for extending this system to other sources of government revenue.
- In Vietnam, a USAID-financed project has helped Vietnam put in place dozens of new laws to help the country conform to international practice, increase transparency in the legal sector and the enforcement of court decisions, and protect intellectual property -- facilitating Vietnam’s accession to the World Trade Organization. The Vietnam Competitiveness Initiative is stimulating vigorous efforts by provincial governments to improve their business climates at the local level.
- In Central America, where coffee and bananas accounted for the great majority of exports in 1980, USAID worked with governments and the private sector to develop new export sectors, including computer chips, a wide variety of light manufactures, and high-value, labor-intensive agricultural products. By 2000, coffee and bananas had fallen to only 25% of exports to the U.S., replaced by more dynamic sectors. This transformation was an important contributor to the region’s desire for a free-trade agreement with the United States.
- In Kazakhstan, USAID supported reforms to build a modern financial sector. The politically sensitive pension system has largely shifted from an unsustainable pay-as-you-go system to a fully funded one; mortgages have doubled in volume since 2001; and the government has introduced consolidated financial supervision to maintain the stability of the financial system.
The common thread among these examples is that USAID responded to a country- or region-specific problem based on an understanding of the key development issue and the motivation of local players – public and private – to reform and innovate. They usually required only modest financial resources, and gained acceptance because of USAID’s capacity to deliver timely expertise on the ground in response to the conditions and opportunities relevant to the country at that time.
The examples also reflect USAID’s relative strengths in promoting economic growth:
First, among donor programs that promote private-sector-led economic growth, USAID has the strongest orientation toward the private sector. Many donors avoid working directly with the private sector, by statute or fearing (sometimes appropriately) that they will simply strengthen entrenched interests. Development banks sometimes try to support the private sector by underwriting governments’ outreach to the private sector, often with disappointing results. USAID support to local business associations, think-tanks, and other civil society groups that advocate for policy reform has often yielded high pay-offs.33 Direct support to pioneer firms and industries has sometimes succeeded in cases where a clear success led numerous others to copy the approach without subsidy.
Second, compared with many other donors, USAID often has larger in-country staffs, including high-quality local professionals. Unlike donors with limited in-country presence, USAID is usually perceived in countries where it has worked for decades as being a good partner of the country. This is different from showing strong support for the current government. USAID is more likely than many other donors to be seen as developing its view of the country’s problems on the ground, and is better situated than many to identify and encourage local initiatives for change.
Third, many donors can send an expert to address a specific issue. Multilateral banks are able to field long-term teams in response to a request from a government. But the delays, discussed below, between conception and implementation of these operations often mean that support arrives when the host organization is no longer interested, or has identified other priorities, or when an open window of opportunity has already closed. USAID’s ability to field long-term teams that build in-country capacities, and to do so relatively quickly, can be important to success.
Fourth, many recipient countries find USAID to be the donor agency that can act most quickly and provide the most flexible response to emerging needs and opportunities. This is important in an environment where the politics of change can matter as much as the economics and where arriving in time can count for more than the dollar level of assistance. A complementary dimension of USAID’s flexibility is its ability to support regional development initiatives. The West African Power Pool, through which the region’s countries are developing a reliable and cost-saving source of electrical power to meet their joint needs, and the harmonization of collateral laws between the countries of Central America as a follow-up to the Dominican Republic-Central American Free Trade Agreement, are just two of many examples.
Fifth, most funding from multilateral agencies is in the form of loans. Even highly concessional loans typically require ratification by the legislature, whereas grants can be implemented by the executive branch. The process of legislative approval can stretch the gap between initial project agreement and the start of implementation into months or years. In the meantime conditions may change – a dedicated minister is replaced by one less committed to reform, or the conditions necessary for the passage of a key law or regulation are no longer in place. USAID’s grant funding helps avoid this problem.
Finally, among U.S. Government agencies that provide assistance to developing countries, USAID is the only one with the mandate and capacity to address the full range of issues – from macroeconomic policy and microeconomic issues to democratic governance, health, and education – that ultimately affect a country’s growth.
In sum, where there is local commitment to change, USAID’s strong private-sector orientation, in-country staffs, ability to field long-term teams, flexibility, grant funding, and technical breadth allow USAID to effectively address economic growth challenges in a wide variety of contexts.
USAID’s role will be distinct from those of other development agencies. Overall, the U.S. share of grant aid has risen over the past several years, and now accounts for one-quarter of the total from all donor countries. For lending at near-market interest rates, the multilateral banks are the dominant players, and USAID has no role. USAID’s comparative advantage vis-à-vis the World Bank, the International Monetary Fund, and the regional development banks reflects several of the factors mentioned above: smaller, more nimble, grant-funded programs that can adjust relatively quickly to changing circumstances; a greater propensity to work directly with the private sector and to develop private sector solutions to development problems; an ongoing on-the-ground presence that leads to deeper relationships and linkages with local institutions and individuals; and a strong tradition of building local institutional capacity.
The Millennium Challenge Account (MCA), administered by the Millennium Challenge Corporation (MCC), supports economic growth in selected low-income countries that have better-than-average policies, at least as compared with other low-income countries.34 ,35 To remain eligible, countries must maintain their standing as good policy performers. A significant number of countries have slipped in relative terms, and have been cautioned that they risk losing eligibility as a result.
USAID has a critical role to play in helping countries cross the threshold of MCA eligibility – and keep improving beyond that threshold. This task includes helping countries design and implement market-oriented policies and strengthen institutional capacity in order to improve economic governance, reduce corruption, and foster broad-based, private sector-led growth.
The need for USAID support does not necessarily diminish when countries become eligible for MCA assistance, or even when they sign compacts. Although policies in MCA-recipient countries compare favorably with those in other poor countries, they remain much weaker than needed for MCA recipients to achieve and sustain growth, join the middle-income tier, and emerge from further dependence on aid. In all such countries, ongoing improvements in policies and institutions – the drivers of economic growth – remain essential for achieving growth that is rapid, sustained, and broad-based. In contrast, most MCA compacts have focused on a relatively narrow range of investment needs, primarily in infrastructure and rural development. Continuing USAID support for a broader range of policy reforms and institutional capacity building is needed to complement and reinforce MCC investments, and, in fact, may be critical to their ultimate success. Finally, unlike MCC, USAID can provide support for regional integration, which can be essential for countries to realize the market opportunities created through MCC compacts.
MCC enthusiastically supports these complementary USAID efforts. Both agencies consult closely – both in Washington and in the field – to ensure that their efforts are mutually reinforcing and not redundant.
33 Among other activities, USAID-supported business associations provide their members with information and training that promotes understanding of the benefits of reform.
34 To be more precise, eligibility for MCA is based on policy performance as reflected in seventeen indicators in three major areas – “ruling justly,” “promoting economic freedom,” and “investing in people.” MCA eligibility requires that a country score above the median on at least three of the six ruling justly indicators, three of the five investing in people indicators, and three of the six economic freedom indicators. In addition, it must score above the median on the indicator for controlling corruption.
35 Once declared eligible for MCA, countries negotiate with MCC to formulate and agree upon a compact – typically a sharply focused, five-year program with total funding of $65 to $700 million. By October 2007, compacts had been reached with sixteen countries, while another ten eligible countries had made varying degrees of progress toward a compact.
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