Select Committee on International Development Minutes of Evidence


Examination of Witnesses (Questions 21 - 39)

TUESDAY 14 FEBRUARY 2006

PROFESSOR ADRIAN WOOD AND MR SUNIL SINHA

  Chairman: Thank you, Professor Wood and Mr Sinha. You have heard the first session here and we are grateful to you for coming and giving your thoughts and sharing them with the Committee. I am going to ask Marsha Singh to kick off. You waited so long until the end of last session you can start the next one.

  Q21  Mr Singh: I am not sure who is the best person to answer this question but it appears that there is no correlation between growth and poverty reduction and various countries have had different outcomes in terms of growth and poverty reduction. We have got this new concept now of pro-poor growth in terms of international development. What is pro-poor growth and what are the factors that are linked in terms of pro-poor growth?

  Professor Wood: Thank you very much. Just on your first observation about the lack of relationship between growth and poverty reduction, I hope you will not mind me saying that there is actually a very, very strong relationship across countries between growth and poverty reduction. Countries in which growth has been faster have consistently been the ones in which poverty has gone down the most. If you try and explain the variations of poverty reduction across countries over the past 20 years or so, about 75-80% of that is explained by variations in the growth rates, so it is extremely important. In regard to your question of what is pro-poor growth, the simple answer is that pro-poor growth is growth that benefits the poor, and that means growth that pushes up the incomes of the poor. That depends on two things. One is the overall rate of growth of the economy and the other is the share of that growth that is going to poor people. So we want to try and make the growth of the incomes of poor people as fast as possible and that means trying to find the set of policies that will yield the best possible combination of a rapid overall growth rate and what is happening to the share of the poor. The share of the poor needs to be going up but the poor will be better off in a fast-growing country where inequalities are widening a bit than they will be in   a   slow-growing country where equalities are shrinking.

  Mr Sinha: Just to add to what Adrian has said. Firstly, we have got to say for a long time we have used growth as a proxy. What we have been interested in is exactly what Adrian was talking about, what is happening to the incomes of the poor. If you take the MDG1 Target of exceeding $1 a day, what matters is how fast the incomes of the poor are going to exceed $1 a day. When you look at that we know, as Adrian has said, that growth is absolutely a necessary condition and very often the major factor in reducing poverty because it works indirectly as well as directly. Growth will give more opportunities for the poor. If you do not have growth the opportunities continue to be limited. What we have also found is that the response of poverty to growth varies tremendously. For 1% growth, what the studies show is that you can get a 0.6% decrease in poverty, in fact some studies show as little as 0.3% reduction in poverty, or you can get a 4% decrease. So this is making us concentrate on the outcome indicators that you are interested in, which is the incomes of the poor and how fast are they growing, who amongst the poor incomes is benefiting, because you can get some marginalised groups whose incomes are not growing at all. That is the number one thing. The second thing it has made us concentrate on is not just pace of growth but the pattern of growth. You can have growth which does very little for the poor. A typical example is the so-called resource curse countries, the ones that discover oil, diamonds and so on. The experience is that they can have short periods of very high growth but that does not benefit the poor because what happens is that the linkages between the sectors that are growing and the rest of the economy are very weak and, through something I will not bore you with called Dutch disease, can reduce the incomes of the poor. The studies show that in that kind of resource curse country what happens is that in the long run growth is not sustained and surely you do not alleviate poverty. Very often you get conflict and that will undermine growth anyway. On the other hand, you can have a very pro-poor pattern of growth where you have conditions like in China in the early 1980s, Vietnam in the 1990s and so on, when you get the sectors in which the poor are concentrated growing rapidly and sectors which can use the assets of the poor—namely labour—are also growing fast. You get an increase in farm incomes and an increase in non-farming opportunities, so you get massive poverty reduction. We are no longer saying it is pace; we are also saying it is pattern.

  Q22  Mr Singh: Would you say that India's rate of growth, for example, is mainly a benefit to India's middle class rather than its rural poor?

  Mr Sinha: There is a huge amount of studies on India, as you can imagine. India's own intellectual community is pretty rich. Also, lots of other people have done lots of work on India. What they find is that whilst the overall pattern you are talking about, especially in the recent growth of some industries like ICT and so on, has been very beneficial to the middle class, it is not true to say that growth has not benefited the poor. It varies by state. For instance, the Marharashtras et cetera of the world have had really high rates of pro-poor growth. There are two critical things. One, the pattern of growth has been very good in this way of having productivity of  agriculture growing and these non-farm opportunities in the industries that the poor can move to. There have to be jobs of a skill level that they can fill. Then you have high rates of initial education and good health. The quality of the state is almost certainly the decisive factor in the differences between states in India. Uttar Pradesh and Bihar have very little growth and very little pro-poor growth. Marharasthra and the Punjab, Gujurat, the western side generally has much more pro-poor growth.

  Q23  Ann McKechin: In speaking about growth, obviously another factor is the inequality in incomes between the poor and the rich in societies. Some people feel that when you have a wider gap your ability to use growth in the economy is constrained. If you agree with that assumption, how should poverty reduction strategy be focused? Should it be focused on growth and simultaneously empowering the poor to take the benefit of it or should we promote distribution and reduce inequality, or is it some magical combination of both these factors?

  Professor Wood: It is not a magical combination but it is fairly straightforward. What you need to do is to give the poor more assets and more access to markets so that they can participate in the growth process more. That is giving you the best of both worlds. It is accelerating growth because it is getting a larger proportion of your population involved in the growth process and it is channelling some of the benefits of the wider growth to poor people who are being more involved in it. When I am talking about assets, fundamentally the most important asset is probably education for poor people, to increase the value of their labour and health also increases the value of their labour. Access to credit and land through reform of tenure schemes is very important. Improvements to rural infrastructure are absolutely crucial in terms of giving poor people better access to markets. To a very large extent, there is not any trade off here. Strategies that involve more poor people in the growth process are good for both growth and a reduction in inequality.

  Mr Sinha: Inequality matters. There is a triangular relationship between growth, inequality and poverty. One of the determining factors for when growth is most efficient in reducing poverty is that initial conditions of inequality are low. One of the advantages in reducing poverty in China was that the initial inequality was low. Where inequality is high, because you have such a skewed ability to participate in the economy, there is a tendency that growth will be less effective in reducing poverty. What growing inequality will do is reduce the effect of growth on poverty. I would like to echo what Adrian said about there being no formula. One of the recent documents which you might care to look at is a study done by the World Bank called Growth Experiences—Learning from the 1990s[4]. For the first time, the Bank admits that there are no formulae. All this elusive search for some Washington, Paris or other consensus is not what it is about. It is about context. Context determines what is required. In the middle income countries of Latin America, where you have very high inequality, growth is very poor at reducing poverty. You would need programmes and policies to address inequality and particularly these policies are likely to have both an economic and social dimension. Very often, those who are stuck in poverty, those who are at the bottom of income distribution, tend to be from particular social groups. The indigenous people of Latin America, the Afro Latin or Afro Caribbean people, tend to be poorer than others. There is a correlation there also between social discrimination and economic discrimination and disadvantage. You have to find the right context.


  Q24  Ann McKechin: You have to adapt your policies. Presumably in the case of China, it is now beginning to see much greater inequality arising. They have to change their policies to try and tackle that growing problem.

  Mr Sinha: Absolutely. From about the beginning of the 2000s China has hardly reduced poverty. Growth has remained constant at 10%. The Chinese Government was very sensitive to these things and has adopted a policy called "Go West." It is too early to say whether Go West is working. We only have anecdotal evidence. But they have seen that it is not going to happen by itself. You need policies to address that.

  Q25  John Barrett: Professor Wood, you mentioned the importance of basic services, health, education, access to credit, security of land tenure and how they were essential in the promotion of pro-poor growth. These are all things which DFID and others are supporting anyway. How do we make sure that state involvement in these sectors is going to be pro-poor or would that happen automatically?

  Professor Wood: No, it does not happen automatically. The governments of developing countries around the world vary very greatly in the degree to which they care about the poorer sections of their community. That depends to some extent on whether the poor are a minority or a majority. If they are a minority, it is more likely they will be overlooked because the views of the majority will prevail, but it also varies for any given proportion of poor people with the attitudes, background and orientation of the government, as you will have observed.

  Q26  John Barrett: Is there any way that the state can play a useful role in making sure it is heading in the right direction and that growth is pro-poor rather than heading in the opposite direction?

  Professor Wood: Yes. What a state committed to making growth more pro-poor will do will be to make sure that the poor are involved in the growth process in the sorts of ways I have described. Equally, the state will also be committed to achieving a high rate of overall growth. If I may refer back to some of the questioning of Kurt Hoffman, the one point that I think did not come through clearly in particular in relation to the Chairman's initial question about Africa is if you want growth in Africa you have to have high levels of investment. You will only have high levels of investment if businessmen feel it is worthwhile investing.

  Q27  Chairman: It could be investment by small businesses but an awful lot of them.

  Professor Wood: I was talking about the aggregate volume of investment. It could be by small businesses, big businesses, rural businesses, urban businesses, foreign investors. That is what is not happening and has not happened in Africa. It has not been perceived as worth businesses' while to invest. Look at the capital flight: 40% of Africa's capital stock is held outside Africa. This is the growth bit of pro-poor growth. The key thing one has to think about in relation to the Chairman's initial question is how in this context aid can be used to make investment less risky and more worthwhile for a broad swathe of private enterprise in Africa. That seems to me to be the central issue.

  Q28  John Barrett: I was going to ask if you could follow up the importance of the private sector in that very investment.

  Mr Sinha: To answer your first question, what we know is that public expenditure is very often not pro-poor. The studies that we now have that link the two—how much was the expenditure? Who benefited from it?—show that very often investment in health, education and infrastructure is not pro-poor. That raises the real issues that we are beginning to tackle and understand. It is the political economy and the nature of the state that determines where this investment will go. What was your second question?

  Q29  John Barrett: It was to follow up on that. If the public sector is not often pro-poor, there is the opportunity for the private sector to make sure that it delivers direct pro-poor growth. How does the private sector play a key role in this?

  Mr Sinha: I have spent my life working on private sector development and therefore I have a certain understanding about what the private sector can be and cannot be expected to do. One thing that was very good when Kurt Hoffman was talking was that he was not talking about large, international business. The private sector is the vast majority of private actors from farmers onwards. Mainly, it is the indigenous, domestic private sector that is the driver of growth. FDI, Foreign Direct Investment, plays a huge role but never the overriding role. Even in China it is only 30% of GDI, Gross Domestic Investment. We have to set the scene here. The second thing is that the private sector has, through its drive for entrepreneurship and profit, an ability to create growth. It responds to the environment that you set for it. The regulatory environment, the investment climate, will determine where it goes. Even in the worst governed country, there will always be some sectors that it is worth taking the risk of investing in because the reward to risk ratio is favourable. There are people queuing up to invest in Sudan today in the oil sector because the reward to risk ratio is good. You can always find some investment for diamonds. The question is about deepening that incentive for entrepreneurship and investment so that it does get through to the broader sectors of the economy and the smaller type of business which is almost certainly going to be more disadvantaged from constraints in the regulatory environment. This idea that the private sector steps in and cures the problems of society frankly has a certain mileage but we have to see that as more of a corporate social responsibility issue and not about the broad base of creating appropriate incentives and regulatory frameworks that work. That is the role of the state. You need the state, the private sector and civil society interacting with each other and having the checks and balances between them to make sure that policies are pro-poor.

  Chairman: The problem I think we are discussing is the absence of the private sector, to a large extent, from the equation.

  Q30  Mr Davies: There is a contradiction here that is very fundamental, is there not? Parliament has decided to spend taxpayers' money on trying to relieve poverty in the Third World, very rightly so in my view. Parliament set up the Department called DFID and DFID, like other bilateral donors, is a state agency. The multilateral donors are just consortia of state agencies. We all recognise that in order to relieve poverty what you have to do is create wealth. The only people in this world who create wealth are in the private sector. Experiments existed in the 20th century in Soviet Russia with the public sector creating wealth and they were a uniform disaster. You have these state organisations trying to create wealth but they themselves know they cannot. DFID recognises at least in theory that the private sector is key to resolving the problem of poverty and desperately wants to spend some of its budget. Most of its budget goes to other governments and so forth through direct budget support. It wants to help the private sector as much as possible. It realises that direct investment will not necessarily be very well targeted or very well selected and will also cause distortions in the local economy. The paper that DFID produced in December[5] recognised that. Against that background, what are the lessons we should be learning? What is the scope for DFID to affect, hopefully positively, the wealth generation capability of the poor countries that we are targeting? Are their policies vis a vis the private sector currently well received? If there are not, what improvements would you advocate?

  Professor Wood: You make some very good points there, particularly about the issue of how does a public sector agency promote development of a private sector in another country. That is a key issue. I do not think the contradiction is as acute as you fear because, if you look at why investment is so low in Africa, it is fundamentally to do with failures of government in African countries. It is political instability, conflict, lack of infrastructure, chaotic, non-existent or excessive regulation. These are the things that are choking off investment.

  Q31  Mr Davies: Let me stop you there. The only way that DFID can affect most of those things, excessive or badly conceived regulation for example, inefficiencies, excessively large government machines, corruption and the rest of it, is to use the leverage which conditionality gives one. One says, "We will give you a certain amount of aid and budget support in exchange for you changing your local policies." Are you telling us that one of your answers to my question is that we should use conditionality as effectively as we can to secure indigenous policy change in the target countries?

  Professor Wood: It has been shown that using conditionality in a very direct form is not effective. What is crucial is to find developing country governments that are committed to taking this approach and then channel our aid money towards them.

  Q32  Mr Davies: That is ex post rather than ex ante conditionality.

  Professor Wood: It is. That is a good way of putting it. The thrust of what I was saying before is that there are many things for which aid money can be used, channelled through the governments of developing countries. I was not suggesting that the governments of developing countries in Africa are too big. In many cases, in some senses, they are too small especially in terms of adequately trained, equipped and paid civil servants to run things like law and   order and to run infrastructural services. Fundamentally, you cannot have high levels of private investment in a country where you do not have an enabling and supportive government. This was a truth that was recognised by Adam Smith and it has not changed since then.

  Q33  Mr Davies: We have to make sure that those governments are enabling and supporting?

  Professor Wood: Absolutely. We cannot make sure but those are the governments we should be supporting.

  Mr Davies: We have to influence the policy mix of those governments.

  Q34  Chairman: If you talk about budget support, one of the arguments against budget support is substitution. In other words, the government does not have the incentive to generate its own successful economy to tax by its own revenue because it is getting it from outside. There is a danger that it lowers the pressure on that government to create a successful economy. Secondly, if you recognise that the problem is you have all this corruption, bureaucracy, inefficiency and so on, is the right thing to say, "We would give you budget support if you tackle these problems" rather than start giving budget support and then trying to withdraw it where the leverage action does not always work?

  Professor Wood: DFID's policy on this is very clear: that budget support and indeed aid in large amounts is given only to countries which have relatively clean, transparent and effective public administrations or show signs of being committed to developing them. It is very important, but I believe that to be part of DFID's policies already.

  Q35  Mr Davies: DFID last year produced a paper on conditionality[6] which went back on that and said that they were no longer going to get into the business of economic conditionality. The Secretary of State has conceded in answers to questions from this Committee that that is complete nonsense and, of course, it is very necessary to continue with some degree of economic conditionality.

  Mr Sinha: Conditionality has been used for a very long time by the IFIs[7]. It is a very blunt instrument.


  Q36  Mr Davies: It can be blunt; it can be sharper.

  Mr Sinha: I will show you why it is a blunt instrument. You are saying to a government, "We will give you money if you do X." Let us assume for a moment that the government or the public sector official who signed the loan or grant that he took from you agrees with that and believes it is right to do what you should do it. There are still enormous processes of change that have to be accomplished within that country. The political settlement has to change within that country to bring about that policy. If you need legislation, you need the help of the legislature to pass that legislation. If you are going to talk about regulatory change, you need the organisations involved to sign up to that. What experience has shown us is that that does not happen automatically and the lure of your money is not enough. There have to be processes within that country that change that. If you think the political settlement is basically okay, there is good governance et cetera, it may make sense to put budgetary support in. Even there I think DFID is now increasingly saying that budget support is an instrument for dialogue, not coming with no strings attached as it were. In countries where the political settlement is generally very good you will get good pro-poor growth anyway. Where you can make a lot of difference is where that political settlement is not quite right, by putting the evidence on the table, allowing policy processes to be evidence based rather than the capturing of the state by vested interests, by strengthening the voice of those who are representing the interests of the poor. You can arrive at some change. This is not formulaic and mechanistic. That is the engagement in which donors—even public bodies—have a very important role to play. Their involvement in the private sector I am afraid is not how Mr Hoffman described it, as being sort of social entrepreneurs. We have had over a period of time now a debate on private sector development which is saying: do we concentrate on the enabling environment? Do we intervene directly? What we have found is that direct intervention without the enabling environment is frankly not very productive. It is putting your finger in the dyke and sooner or later it breaks. On the other hand, waiting for enabling environment change to happen, which is a long term process, can make you miss out on intervening where markets fail. In the developing countries markets fail very regularly. There is a role for both but it is in a way not to work directly at the level of enterprise, only to do so on very rare occasions when you are trying to address other systemic market failures.

  Q37  Mr Singh: You were talking about the enabling environment. I would like to ask you about the new Investment Climate Facility which will be launched this year, which is aimed at improving the business environment. I understand that DFID has launched aid to state donors so far to this new facility. Is it wise for DFID to be treading where no other states have yet trodden? What value do you think this new facility will add to the existing business environment and initiatives like the World Bank's Investment Climate Assessments and Doing Business reports?

  Mr Sinha: The reason that is a tough question is that the ICF has not been fully designed and made operational. It is looking a little bit more from the theoretical perspective, or at least an informed perspective of where we are today. The World Bank has two or three windows where it intervenes in  the  investment climate: the investment climate assessments that you mentioned, the cost of doing business surveys and it has an administrative barriers window as well. In general, these things are driven in the way that I find interventions are driven, with lots of conditionality attached.

  Q38  Mr Singh: Which does not work.

  Mr Sinha: Unfortunately, I am the project director of a very large project in Nigeria where we have this. Generally, it is very poor because it does not understand the political economy of change. Investment climate changes are not always win win. There are winners and losers. Very often, if you have a very powerful vested interest that is losing, they will block it. In some way or the other, because there are these limitations, in some instances it works well when what is really required is a technical solution, you have a willing government and a willing state that wants to embrace change and the private sector is keen on it. It will go through. But where you have problems of some people blocking change you need something beyond that conditionality and aid assistance that the World Bank provides. In designing the ICF, it was DFID's hope that it would garner more support from other participants in the state and from the private sector. You hear from Kurt that private sector companies are putting their money forward onto the ICF. The ICF was supposed to be more responsive to local demand for change than the way that the IFI programmes go in. It could also do things like strengthening the demand of the voice of those who represent the interests of the poor, who are marginalised, who do not usually have a voice. Usually when you talk about this lovely public/private dialogue, what actually is happening is you have a government and a large, organised private sector and they are working out what the policy priorities are and determining what the policy choices are. It was meant to do a little bit around that, to change that dynamic. I cannot answer more than that. I do not know how it is going to work.

  Professor Wood: I let Sunil speak first because when I was working in DFID until last October I was responsible for investment so I might have a slightly biased view. On past record, there are an awful lot of things in which DFID has been the first donor in the past which have been very successful. A lot of other donors have come in and the fact that DFID is leading should not necessarily be seen as a bad sign.

  Q39  Chairman: The whole of this report has been predicated on the basis that it is apparently now fashionable that the private sector will lead countries out of poverty. I am astonished to be told that this is newly fashionable. To most of us, it is self-evident. The DAC[8] is now saying that the private sector development should be the central component of resolving poverty. You have described some of the mechanisms but what should DFID be doing on a country by country basis if that is the case? If growing the private sector is the key to solving poverty in a specific way, what do you think DFID should do in countries where it is pursuing or supporting a national poverty strategy to change its programmes to deliver changes? Do you think it can do that?

  Professor Wood: Indeed it can and indeed it does. The situation is going to vary from country to country depending on the opportunities that are available for intervention by an outside aid agency and depending on the nature of the constraints that are holding back private sector development. If you want to take the most basic example of something that is holding back private investment, it is conflict. The involvement of DFID in conjunction with the FCO and the Ministry of Defence is absolutely crucial. Promoting in every way we can political stability is essential because one of the things that the private sector is worried about in Africa is that, if there is a change of political regime, the basic business rules of the game are going to change. Their investments will become valueless. If I may just tell you an anecdote, which I am afraid is not going to be about stoves—it is about Uganda—my colleague, Christopher Adam, came back from Uganda last week very excited because all the controversy in Uganda about Museveni and the third term and various political uncertainties which are creating a lot of worry and concern among civil servants the private sector is paying no attention to. It is just going right ahead and investing and that is fantastic. That is the situation you want to have as in, for example, the UK where you can have tremendous political turbulence of one kind or another but the private sector knows that that is not going to change the basic business rules of the game so they go on investing. That is what we need to achieve throughout Africa.


4   World Bank, Economic Growth in the 1990s: Learning from a Decade of Reform, April 2005, http://www1.worldbank.org/prem/lessons1990s/ Back

5   DFID, Working with the Private Sector to Eliminate Poverty, December 2005: http://www.dfid.gov.uk/pubs/files/dfid-private-sector.pdf Back

6   DFID/FCO/HM Treasury, Partnerships for poverty reduction: rethinking conditionality, March 2005, http://www.dfid.gov.uk/pubs/files/conditionality.pdf Back

7   International Financial Institutions. Back

8   OECD Development Assistance Committee. Back


 
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