The Capitalistic Model of Foreign Aid and Its Limitations

In analyzing the progression of global poverty over the recent decades, it would be disingenuous to deny the enormous strides have been made. In discussing this topic, it is important to evaluate what we have done well and what we can approve on in terms of global development.

This blog post  will deal will the actual policies and economic philosophies and proposals that have lifted many out of poverty, but, however, has left others behind. What I am specifically alluding to is the imposing of the U.S model of economics, in particular, free-market principles, in impoverished nations.

This model has worked well in some instances. To examine this, one must first understand this model of economics and how it is implemented in developing nations. What specific policies entail this ideology? How do global developers implement these policies? And, most importantly: How effective are these policies in helping the poor? It is important to note that a rise in wealth in a nation does not always equate to lessen inequality. Ex: India. The two main capitalist ideas will be examined in this post are privatization and microcredit. Foreign aid will also be discussed as it has of recently been introduced into a new capitalist model.

The US model of democracy and market economy has lifted millions out of poverty in developing and third world nations. The model of economic that leading global developers and economists incorporate in their arguments derive from a neoliberal ideology. In this paper, I will use the traditional definition of neoliberalism: “a modified form of liberalism tending to favor free-market capitalism.” For the sake of this blog post, I will limit the usage to this term as it pertains primarily to the economic model and ideology of neoliberalism. Although not a codified ideology or a direct school of thought, there are distinct views that make a neoliberal. The liberal ideology here stems from foreign aid that is given directly to third-world nations. The later approaches a much more conservative ideology, with the promotion of the free-market.

Steven C. Radelet cites Jeffery Sachs to back up many of the claims he makes throughout the book. Sachs is an economist that is known for his expertise on economic development, particularly on the global scale. The Institute for Policy Studies summarized the ideology of Sachs, as it pertains to global development, with this statement: “A free market fundamentalism of privatization, deregulation, and government subsidy-slashing for commodities such as oil, met with debt relief and foreign aid.” This criticism encapsulates accurately the ideology of neoliberals and what they believe in. Sachs in an interview with Seton Hall University explained his views on microfinancing. He believes that it is not the end all be all and that it can helpful in the grand scheme of global development. He also adds that microcredit primarily helps larger, well-established businesses than smaller ones.

“In short, microfinance is probably most helpful not at the very bottom of the pyramid, but one or two steps above the bottom of the pyramid.” (Sachs, 2011) This is an issue and one that is of prioritization. This must be handled by each individual nation. Without a doubt, better policies will need to be in play to truly aid those at the bottom in our global poverty scale.

This section will primarily address how these policies become implemented, particularly through foreign aid. It is strange to think about foreign aid in the realms of capitalism. In 2002, the Bush administration proposed a $5 billion foreign aid fund. In order to win, the competing countries have to demonstrate that they are following free market economic principles.

This is one way in which the US model of economics can be imposed in developing nations. In this instance, countries are rewarded by following the principles such as privatization of industry and promotion of entrepreneurship. In other cases, you can take foreign aid funds and allocate it towards microfinancing initiatives.

There are those that even advocate microfinance in place of traditional foreign aid. “Microfinance is a viable alternative to the existing method of foreign aid because funds bypass the web of governmental bureaucracy and is placed into the hands of those who need it most: the average person.” (DevelopAfrica)

Let’s take the concept of microcredit to fight global poverty. At its surface, it sounds like a great idea: Give small loans to poor women in developing countries and that will help them start businesses and escape poverty. Without a doubt, there have been a number of anecdotes one can point out to that will show the success of microcredit. The MicroLoan Foundation has plenty of them. The reality is that the impact microcredit has had on the poverty of client is unknown or nonexistent.

In an examination of this data, this is quite clear. A DFID-funded review on the issue comes to the conclusion that: “No clear evidence yet exists that microfinance programs have positive impacts.” The methodology of this study includes examining eleven academic databases, four microfinance aggregator and eight non-government (NGO) or aid organization websites. In evaluating the material, they found that the data does find convincing impacts of well-being or economic development.

For the small percentage of individuals that microcredit helps: good. It is, however, questionable to whether or not this type of policy should be at the forefront of the fight against global poverty. The Clinton Foundation, an enormous player in the global development sphere, for example, has aligned with other organizations that establish micro-credit and lending programs in impoverished countries. In the book, Confessions of a Microfinance Heretic, author Hugh Sinclair explains how the microfinancing industry is full of corruption, lack of transparency, and extortionist interest rates. Sinclair comes to the same conclusion as I do on this issue: “There are a number of good institutions out there, although, I would say, they are, certainly in the minority.” (Wharton School, 2012) With this said it is important to note that the state in which these policies are implemented play a tremendous role as well. This will be discussed later. For now, let’s explore the dark sides of the microfinancing industry.

Numerous outlets have reported on a new phenomenon that has been appearing in developing nations, particularly those with an increase of microfinancing industries. The BBC, back in 2010, released a report on the suicide epidemic that has been linked to the microfinancing industry in the area. “More than 80 people have taken their own lives in the last few months after defaulting on micro-loans, according to the [Indian] government.” (BBC) The report further goes on to explain the predatory tactics that were being used by micro-finance institutions to conjure payments from the borrowers. One can argue that these are two consenting adults that agreed to a set contract. On the other hand, in the extreme poverty that these individuals are facing, these are the only options they have.

If one is speaking of microfinancing from the perspective of Jeffery Sachs and Muhammed Yunus: Count me in. The problem is, however, that we have two sides of this issue. The first is full of successful entrepreneur in which microfinancing has lifted them out of poverty. The latter is much darker, riddled with business corruption and predatory tactics, and exorbitant rates of interest. It comes down to the individual nations to take the US model of economics and use it for their own good. If countries allow micro lending businesses to continue predatory tactics without any safeguards, this problem will persist.

Another US model of market that will be examined is privatization of industry. Privatization is the transfer of a business, industry, or service from public to private ownership and control. “Too often in the past privatization has been promoted by donor agencies without proper consideration of the legitimacy of the process and its likely outcome in terms of social welfare.” (Parker) This is the biggest takeaway of not just privatization of industry in developing countries, but of all the other capitalistic free-market principles that have been introduced by global economists and developers. These policies do have the potential of increasing the size of beneficiaries. However, it is clear that we must make sure that these initiatives are being implemented with social welfare in mind, as mentioned. How can this be done? The study suggests that privatization objects need to based not only on economic improvements, but on poverty reduction. In addition, proper allocation of funds and capital must be administrated and managed to ensure the success of privatization. Lastly, the process of privatization must be “fair, transparent and efficient”.

We cannot afford to attach ourselves to ideologies and politics. “As politics will drive the decision to privatize and the form privatization takes, self-seeking during the privatization process can hardly be ruled out.” (Parker) Intellectual honesty must be prioritized as we garner new data. Identifying truly how to optimize performance in industries in the developing nation cannot be automatically referred to specific policies or initiatives based on ideological and political alignment. In some cases, privatization does improve economic performance in developing nations. In others, it does not. We must take issues on a case by case basis and analyze systematically the best course of action to partake in.

The promotion of capitalism through foreign aid has been great in reducing poverty. However, there are some policies that need to be revisited. Such policies such as microfinancing have been thought as extremely beneficial. The UN even named 2005 the International Year of Microcredit. As examined in this paper, microfinancing potentially limits beneficiaries to a certain segment of the impoverished population. These are usually individuals that own medium to large size businesses. The smaller businesses are left to fry. Promoting individual entrepreneurship does not solve the systematic issues that the people in these impoverished nations face. Countries and regions must be evaluated on a case by case basis to determine which capitalist style foreign aid funding will best suit them. Coastal countries could benefit from funding that will promote businesses to provide cleaner water. Landlocked nations might be served well with funding that could improve transportation with their regions. Pros tends to come with cons; prioritizing which policy we can incorporate that will promote egalitarianism will be key. These policies will work best if they promote equality, are properly funded, and focus on poverty reduction.


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