Is The DAC Still Fit for Purpose?

Official Development Assistance (ODA) isn’t what it used to be: each aid dollar is worth a lot less in terms of development outcomes. In large part that’s because the Development Assistance Committee (DAC), the donor club within the Organisation for Economic Co-operation and Development (OECD) that decides what counts as ODA, keeps changing the rules to include ever more spending that doesn’t deliver resources to recipient countries. It raises the question: does the DAC have a constructive role anymore?

The research behind the original target of spending 0.7 percent of GDP on development assistance is more than a half century old. Hollis Chenery and Alan Strout, then at USAID, argued back in 1966 that the role of foreign assistance was to provide the finance and foreign exchange needed to support high investment in developing countries as a tool to promote economic growth.   They calculated about how much external finance would be required to raise GNI growth rates to 5 percent, and it was around $10-17 billion, approximately one percent of high income country GNI at the time.   Assume 0.3% of GNI could be provided by private capital and that leaves 0.7 percent for rich country governments. Chenery and Strout suggested that donors and recipients should agree to a broad program of investment and then donors should hand over the needed cash and let recipients get on with it.

The economics behind the Chenery and Strout calculations hasn’t survived the last fifty years unscathed—it looks more than a bit ropey nowadays. But it is still amazing how far what ODA is has come from that original idea of what ODA was for, and how to deliver it. That’s in large part because the DAC donor club appears to have decided their focus should be on maximizing the number of dollars that can be reported as ODA rather than the actual impact of ODA on development outcomes.

Spending on the administrative costs of donor agencies does not raise the investment rate of recipient countries. Spending on refugee-hosting costs in donor countries does not raise the investment rates of developing countries. Spending on consultants based in donor countries does not raise the investment rate of recipients. Accounting tricks covering debt flows that involve zero extra cash do not raise recipient investment rates either.  Yet all of these things now count as ODA.

Indeed, it is very hard to raise the rate of investment in a country without actually delivering cash and resources to them, and yet only 32 percent of aid funds are handed over to be executed by partner country governments, private sector firms, and nongovernmental organizations combined.

To be fair, some of the financing that doesn’t reach institutions in developing countries is doing really good stuff, not least supporting human capital through the purchase of drugs and vaccines via PEPFAR and Gavi, but the vast majority isn’t.  We’re in the obscene situation where, for example, Uganda receives nearly a billion dollars of US bilateral assistance a year but the Ugandan government, in charge of public investment in the country, gets a few million—considerably less than the US Agency for International Development spends on transit cards for its DC employees. Meanwhile, the median ODA project size is a mere $100,000 and only about 6 percent of aid is provided using the broad-based budget support approach that Chenery and Strout favored.

I disagree with Bill Easterly about aid and economic growth. I think you can see a relationship in the data. But given what a lot of ODA looks like these days, it is frankly a bit of a miracle that you can (and, by the way, the link is a good deal stronger when you look at aid that might actually plausibly cause growth, closer to the Chenery-Strout model).

This isn’t simple nostalgia. There are still 650 million people living on less than $2.15 a day, an amount that is about a tenth of the US poverty line. Income growth in the poorest countries remains an urgent economic, social, and moral priority, as do investments in both human and physical capital in those countries that support a decent quality of life—investments that can be supported only if aid actually reaches institutions in recipient countries. In particular, the financing targets linked to meeting the UN Sustainable Development Goals are overwhelmingly about meeting developing country investment needs. These investments will make low- and lower-middle-income countries more resilient to the impacts of climate change. Or ask client countries what they prioritize, and the answers are clear: education, employment, health, industrial development, poverty reduction—that all takes investment.

And yet, aid is under additional pressure to move away from supporting actual development in actual developing countries. For example, ODA accounts for around 84 percent of bilateral climate finance, while the share of outflows from ODA-eligible multilaterals focused on climate increased from 15 percent to 28 percent between 2013 and 2018. Most climate finance is spent on mitigation projects in middle-income countries. Given absolute aid finance as a whole didn’t climb as rapidly as ODA-funded climate finance over that period, it is a mockery to suggest this is ‘new and additional’ spending. It replaced potential development aid better focused on the low-income countries where ODA has its biggest impact.

The ‘good’ news, such as it is: some of these resources may be development finance wrapped in a climate finance bow. Euan Ritchie and Atousa Tahmasebi have found aid projects that half way through their lives suddenly had mitigation as a “significant focus.”  The bad news: a lot of it certainly doesn’t appear to be effective climate finance: Ian Mitchell and Matt Juden note that some aid-financed multilateral climate projects are reducing emissions at the cost of $10 per tonne of CO2 equivalent averted, others cost closer to $1,000 per tonne.

Climate mitigation (or at least the additional costs of making an investment low carbon) shouldn’t count as ODA. It doesn’t meet the test that the main objective of spending is the economic development and welfare of developing countries. It is to support a global public good. We can tell that the main objective of rich country spending on mitigation isn’t welfare of developing countries because no one tries to suggest the considerable majority of mitigation spending, in donor countries themselves, is counted as ODA.  Thankfully, the OECD DAC is yet to stoop to the level of claiming that the costs of putting a solar panel on a roof in Croydon or Bethesda should be classified as ODA.  But given that emissions go into a single atmosphere, there is no reason at all to favor spending on reducing emissions based purely on location, so either all mitigation spend is ODA or none is. Mitigation spending is a good thing, with considerable benefits for developing countries that will see the greatest impacts of climate change, but it is not ODA.

And worse, donor efforts to abandon development as the priority for ODA has now reached the multilateral development banks, which account for the considerable majority of the 32 percent of aid that actually does involve engagement with recipient country institutions.  Ignoring client country priorities, shareholders in the US and Europe appear keen to prioritize grants for (inefficient) climate mitigation in middle-income countries over grants for effective development in the world’s poorest countries.

Back at the DAC, despite some partial victories where the secretariat has stood up to donor pressure (for instance to count COVID vaccine research as ODA), the indefensible decisions keep on coming: charging towards ODA budgets excess COVID vaccines hoarded by rich countries, often at a price more than donors paid for them; and proposals around private sector ‘aid’ that will see profitable investments and untapped guarantees count as ODA.  The last remnants of a concessional system designed to finance productive investments for development by developing countries are at risk of being shredded as donors spend all their energy focused on maximum credit for minimum effort.

We should go back to using ODA for what it was designed to accomplish, and we should define ODA so that it measures what can actually plausibly accomplish those things. There have been endless alternatives and reform proposals suggested, and pressure for a new approach is growing.  But the underlying problem may simply be that you can’t trust a group of financiers to regulate itself—it has always been a bad idea. Donors need to tie their hands, or the ODA brand will be utterly devalued.