It is now abundantly clear that aid money will provide only a fraction of the resources needed to reach the Sustainable Development Goals. That realization came early on, and it was a central theme of the Addis Financing for Development conference of 2015, held before the SDGs were even signed.
Addis led to two major donor responses in an effort to stay relevant. First was ramped-up support for developing countries to expand their capacity to tax (“domestic resource mobilization”). Signatories to the Addis Tax Initiative agreed to “double their technical cooperation in the area of domestic revenue mobilization/taxation” by 2020 because it was seen as “a key means of implementation for attaining the SDGs and inclusive development.”
The second donor response presented at Addis was a commitment to back more private sector investment in developing countries through development finance institutions like the IFC and the UK CDC. Development finance institutions (DFIs) suggested their role would grow from leveraging billions to leveraging trillions of dollars’ of private investment in developing countries, not least by using aid money to part-subsidize private sector investments.
Both approaches sound great in the abstract: clearly, more funding is needed to achieve the SDGs, and building up developing countries’ capacity to raise government funds domestically and private finance to meet development goals—instead of relying on aid flows—is a central component of the process of development.
Unfortunately, there are fundamental issues with both approaches in practice. Tax regimes in many developing countries are regressive and in some countries they may be used to support an autocratic political elite. And the way that DFIs are using aid resources may end up benefiting a corporate elite more than the world’s poorest people.
In four of the five sub-Saharan African countries for which Nora Lustig’s Commitment to Equity Institute at Tulane University provides data, the net effect of existing taxes and transfers is to increase the number of people living below the World Bank’s extreme poverty line. Much of that tax is used to pay government employees who earn multiples of GDP per capita—teachers in Tanzania earn four times GDP per capita, for example.
Again, improving lower-middle-income country (LMIC) governments’ abilities to raise revenues and implement policy independent of donors is a key part of the development process. Moreover, recent evidence suggests that the act of paying taxes empowers citizens to demand more from their government. However, in countries with regressive tax codes, increasing domestic revenue mobilization without changing the tax schedule literally means taking money away from the poor to give it to those who are better off. Moreover, of 21 LMIC signatories to the Addis Initiative, 13 are only partly free and four are not free according to Freedom House. Will technical assistance intended to increase the extractive capacity of non-democratic governments reduce or increase poverty? Only time will tell, but it is clearly irresponsible of donors to offer technical assistance aimed at expanding domestic resource mobilization capacity without explicitly linking that assistance with moves toward more democratic accountability and more progressive tax regimes.
Meanwhile, donors are funneling increased amounts of aid through their private sector arms. DFID recently announced about $5 billion in financing for the British development finance institution the CDC. The World Bank’s soft loans arm IDA provided $2.5 billion to the IFC to support more private sector investments in poorer countries. The OECD estimates that 167 donor facilities have been launched between 2000 and 2016 to pool financing for blending, with a total of $31 billion in commitments.
To date, DFIs have shown limited ability to focus on poor countries, let alone the poorer regions of those countries. But, even when subsidy finance is ring fenced for lower-income regions, the way these resources are allocated in no way guarantees a focus on the greatest public policy or poverty-reducing priorities of poor countries. Take a recent Independent Evaluation Group report on the IFC’s approach to engaging corporate clients to increase development impact. According to the evaluation, the IFC has “a limited ability to influence clients’ capacities and development orientation” and has shown limited ability to improve deal flows in important sectors, so that there is still a “lack of bankable projects in sectors of key importance for development, especially in infrastructure.”
The standard model of DFIs is to wait for a private company to walk through the door and ask for a loan or equity. Then DFI staff negotiate with the company on the terms of the investment—throwing in a subsidy element if they think the deal requires it and that the project meets some threshold development impact measure more or less carefully defined across agencies. So rather than a standard aid process that begins with thinking about public policy priorities, employs competitive bidding to procure the goods and services needed to deliver on those priorities, and is increasingly transparent about where the money flows, the aid through the DFI approach uses an opaque, uncompetitive, high-discretion, firm-led process that discounts or ignores donor or recipient government priorities.
What could we do differently? All countries should commit to make sure their tax and transfer regimes have a net zero or better impact on the incomes of people under the poverty line, and donors should make technical assistance to the LMIC tax authorities conditional on such commitments. The International Monetary Fund should monitor those commitments, and donors should be careful that their support for domestic resource mobilization doesn’t lead simply to more effective fleecing of the poor to benefit the elite. And it is time for an urgent rethink of how development finance institutions use aid money to ensure those resources actually help those furthest behind, including approaches that target public policy priorities, are competitive, and transparent. Otherwise donor support for the SDGs will shortchange those furthest from meeting them.
CGD blog posts reflect the views of the authors, drawing on prior research and experience in their areas of expertise. CGD is a nonpartisan, independent organization and does not take institutional positions.