Peter Bauer and the failure of foreign aid.

• Author: Shleifer, Andrei
• Position: Report

Peter Bauer was one of the greatest development economists in history. He was an advocate of property rights protection and free trade before these ideas became commonplace. He appreciated before others did the crucial roles of entrepreneurship and trade in development. He was also one of the earliest opponents of the overpopulation thesis, recognizing that the poor like the rich should have the right to choose the number of children they have, that many developing countries are underpopulated, and that population growth will anyhow slow down once they become richer. Baner's writings are remarkable for their deep humanity and commitment to the welfare of the people in the developing world, but without the fake sanctimony that characterizes much of the modern rhetoric.

The Foreign Aid Debacle

Bauer is perhaps best known as a persistent and articulate critic of foreign aid. At least since 1972, he saw it as not only failing to speed up, but actually hurting economic development. He started his criticism when foreign aid to the developing world was only getting underway, and never wavered. He defined foreign aid as "a transfer of resources from the taxpayer of a donor country to the government of a recipient country" (Bauer 1975: 396). Needless to say, this did not endear him to the aid establishment.

Indeed, 30 years ago, just as today, a critic of foreign aid was ridiculed for being inhumane and insensitive to the plight of the poor. Bauer's 1972 book was savaged by the surly (now Sir) Nicholas Stern, who wrote, "Dissent on Development is not a valuable contribution to the study of development" (Stern 1974: 209). Stem's case for aid was simple: People in the rich countries are much richer than people in the poor ones, and therefore foreign aid is their moral obligation. This observation was supplemented with a sprinkling of success stories and a criticism of Bauer for excessive reliance on examples. Little has changed in 30 years. In retrospect, Bauer looks both prescient and courageous.

And prescient he was. Countless empirical studies have failed to find beneficial effects of official foreign aid. The consensus that aid has failed is nearly universal among those who look at the data. Perhaps the most important recent statements of this conclusion are William Easterly's accounts of both the history and the evidence on foreign aid (Easterly 2003, 2006, 2009).

The failure of foreign aid is all the more remarkable once we remember that, in the last quarter century, the world has experienced an enormous spurt of economic growth and social development. I have elsewhere (Shleifer 2009) called this period "The Age of Milton Friedman" and documented its enormous accomplishments. Starting from East Asia, and concluding most recently with India and China, nearly all the countries in Asia (where much of the world's population lives) have experienced rapid economic and social progress. The collapse of communism started the period of economic transition in Eastern Europe and the former Soviet Union, which, while difficult at the start, within a few years has brought rapid economic growth in the whole region. Even the current economic crisis will slow down, but is highly unlikely to reverse, these achievements. Economic success has not been as conspicuous in Latin America and Africa. Even those regions, however, judging by many indicators of human development, such as health, education, and poverty reduction, have seen substantial progress.

Economic growth has been accompanied by improvements in the quality of life for billions of people. Extreme poverty is declining at staggering rates. Life expectancy has grown tremendously around the world. Literacy and education have improved rapidly. Starting in the mid 1970s, when Bauer began to criticize foreign aid, the world has experienced unbelievable growth in democracy and human rights.

The sources of economic progress are becoming increasingly apparent. Over the last quarter century, the world has embraced capitalism and free trade. Indicators of property rights protection around the world have improved dramatically. Tariffs and other impediments to foreign trade are down. Tax rates have often fallen, especially on corporate income. Interventions in capital and foreign exchange markets have been greatly reduced. Fewer governments just print money to cover their deficits. Large parts of the world have undertaken massive waves of privatization and other reductions of the state's role in the economy. The list goes on. Against this backdrop of economic development and the rise of free markets, the inability to find any benefits of foreign aid is even more remarkable. One might have thought that foreign aid would have done better when the world was growing and democratizing, as it did in the last 30 years, than under less propitious circumstances. But there is no evidence of its contribution, despite a substantial effort to find it (Easterly 2009).

Bauer and subsequent writers have advanced several reasons for this dismal performance of foreign aid. The ostensible purpose of aid, at least in the post-World War II era, was to stimulate economic growth. The intellectual support for many of the policy recommendations for how to allocate aid in order to stimulate economic growth was based on the big push model (Rosenstein-Rodan 1943). According to that model, what keeps countries behind is insufficient investment across sectors of the economy and in infrastructure. To the extent that foreign aid supplies investment capital, it jump starts economic growth, and initiates a virtuous cycle whereby...