The role of business people in politics is a big issue here in Tanzania as it is in many countries. Many people view the issue cynically: business people go into politics solely to use the political process to increase their profits. While this is part of the reason, I also believe there exists a more charitable explanation. Like many developing countries, Tanzania’s regulatory institutions are weak. As a result, business people often need powerful political allies to protect their investments. Business people may thus see going into politics as an investment when regulatory institutions are weak. While collective action to produce a better regulatory climate may be the socially optimal outcome, collective action problems make individual political action – investing in politicians or becoming one – the rational strategy.

Because foreigners sitting in the fanciest hotels in the recipient country make the policies without spending much time outside said hotels. How do I know? It’s what I am doing in Tanzania right now.

Economist Paul Romer, best known for his work on Endogenous Growth Theory, is floating the idea of “charter cities” as a way to spur development in poor countries. Romer argues that charter cities in developing countries can help get around the political roots of poverty, such as weak adherence to the rule of law, rampant corruption, and predatory bureaucracies:

How would such a city work? Imagine that a government in a poor country set aside a piece of uninhabited land. It invites a developed country to enter into a new type of partnership, in which the developed country sets up and enforces rules specified in a charter. Citizens from the poorer country, and the rest of the world, would be free to live and work in the city that emerges…

And the new zone created need not be ruled directly from the developed partner country – residents of the charter city can administer the rules specified by their partner as long as the developed country retains the final say…

Read the rest of this entry…

Happy New Year! The holidays are a great time to sit back and reflect. Sometimes we can do this in a thoughtful manner and sometimes laughter is the best medicine. Bill Easterly uses the latter to highlight some great satire on development projects at Aid Watch.

Many countries are poor because economic development is a threat to political control. This seems to be the logic behind North Korea’s recent currency devaluation, which largely destroyed the emerging middle class in the impoverished country. It seems that the government feared the emergence of an economically-independent class of people, so it simply destroyed their wealth. This is not an isolated occurrence. Zimbabwe’s economic nightmare stems from Robert Mugabe’s fanatical devotion to clinging to political power, for example. Lack of political rights facilitates these types of wealth-destroying activities. The main point is that poverty in countries like North Korea, Sudan, and Zimbabwe is a deliberate policy.

Even in countries with more benign governments, such as Nigeria, poverty is the result of elite corruption. The economic development first crowd often treats poverty as an accident. All to often, it’s politically engineered.

As I wrote in a recent post, the economic development first crowd is back. The crude version of this argument states “democracy does not fill stomachs, alleviate malaria, or protect neighborhoods from marauding bands of militiamen.” There is a basic flaw to this argument I thought we had put to rest. Apparently, I was wrong, so let’s go back to the basics.

The point of foreign aid, as I understand it, is to help facilitate economic development in poor countries. The basic idea is that because savings are low in poor countries, aid finances economic development through investment. The problem is that the theory doesn’t fit the data. The graph below shows aid as a share of GDP and the current account balance (CAB) as a share of GDP for all aid-recipient countries in 2006. The CAB is investment minus saving. Thus, a positive CAB means more money is flowing into a country than flowing out, while a negative CAB reflects the opposite. The data make the startling point that most countries receiving foreign aid have a negative CAB. What this essentially reflects is that domestic savings flows out of aid-recipient countries.

In 2006, donors provided about $36 billion in foreign aid. In aid-recipient countries, about $27 billion of domestic savings – 75% of the total amount of aid donors provided in that year – were invested abroad. The basic question is why people in developing countries choose to invest abroad rather than at home. One important reason is because poor governance in these countries, such as rampant corruption, lack of adherence to the rule of law, and predatory government, discourages local investment. There are lots of investment opportunities in developing countries (think local basic manufacturing such as food processing, for example), yet people with money in these countries choose to invest abroad, mainly in countries that have better business climates.

The development first crowd is right up to a point: elections are far less important than having enough food to eat. Yet, we can’t solve the latter until we can reverse the trend of savings flowing out of poor countries. This will not occur without significant governance reform. The development first crowd means well, I suspect, but misses the basic point than pouring foreign aid into countries where the locals won’t invest will not encourage development.

Yesterday’s Washington Post editorial on Obama and democracy is getting a lot of attention. Much of the discussion is taking place around the framing of economic development versus democracy. Samantha Power’s argument that democracy does not fill stomachs, alleviate malaria, or protect neighborhoods from marauding bands of militiamen sums up the argument for the primacy of economic development crowd. Of course, lack of democracy does not solve these problems, either. Michael Cohen at Democracy Arsenal hits on the central flaw in the economic development first argument, economic and political rights are not substitutes, but complements:

But of course, political right and social rights are, on a practical level, not equal; because only with political freedom…can citizens ensure that any social service is being provided fairly to citizens – or even provided at all. Otherwise they are simply relying on the benevolence of their unelected and unaccountable leaders…

For most people around the world…free and fair elections take a back seat to basic health care, food security and education. Economic development is important, but when you have political leaders who rule by fiat and have little interest in providing for their citizens it ain’t going to amount to much in the end.

Thank you, Michael. This expresses my point of view exactly and sums up the scholarly consensus on this issue. The economic development first crowd either doesn’t understand or doesn’t want to understand that no amount of aid can spur economic development unless a government is interested in providing it. I don’t know a single person who advocates democracy instead of development or that the latter is less important than the former. Rather, the consensus is that political rights are the only guarantee of economic ones. I think it’s time to put the economic development first myth to sleep.