The Institutional Economics of Foreign Aid.

• Author: Mary, Shirley M.
• Position: Book Review

The Institutional Economics of Foreign Aid By Bertin Martens, Uwe Mummert, Peter Murrell, and Paul Seabright Cambridge: Cambridge University Press, 2002. Pp. v, 201. $65.00 cloth.

Foreign aid has been under a great deal of scrutiny lately, so you might wonder about the value of another book on this subject. The Institutional Economics of Foreign Aid, however, is different. Most critiques document the disappointing performance of aid (see, for example, Craig Burnside and David Dollar, "Aid, Polices, and Growth," American Economic Review 90, no. 4 [2000]: 847-68) and the failure of promised panaceas (see William Easterly's brilliant book The Elusive Quest for Growth: Economists' Adventures and Misadventures in the Tropics [Cambridge, Mass.: MIT Press, 2001]). This book is one of the few to analyze the organizations involved in aid and to ask, Does these organizations' structure of incentives work against the achievement of aid objectives?

Using a principal/agent framework, the authors analyze incentives inside the aid agency (chapter by Paul Seabright); the structure of relations among donors, contractors, and recipients (chapter by Peter Murrell); the donor efforts to reform institutions in recipient countries (chapter by Uwe Mummert); and the role of evaluation in foreign-aid programs (chapter by Bertin Martens). Each chapter presents a theoretical model and a number of examples to show how agency problems distort or derail the achievement of aid's promise to reduce poverty.

The book provides some important insights with a blunt but fair honesty about the dilemmas of aid. The chapter by Peter Murrell fits closest with my own experience in the World Bank, where I worked for twenty-one years. The authors are not carping critics; they suggest practical ways to improve performance.

For those not familiar with the principal/agent approach, it starts with a simple question: How does a principal, say the owner of a business, get the agent, the manager of the business, to do what the principal wants, such as make a profit? The answer, of course, is not as straightforward as the question. To give a current example, Will stock options encourage the manager to boost stock prices by raising profitability or by conducting fraudulent transactions?

As the chapters in this book show clearly, the principal/agent problems in foreign aid are formidable. A donor agency has multiple principals, such as the politicians who approve its budget and the taxpayers...