Institutions and Development
Download as PPT, PDF0 likes1,980 views
This document discusses the role of institutions in development and the challenges of using foreign aid to improve institutions. It finds that institutions are deeply rooted and usually durable, while aid focuses on short-term projects. There is no evidence that aid can stimulate growth or improve institutions, and some evidence it can harm institutions by creating moral hazard or rent-seeking. Lastly, it argues that building intellectual capital through local scholars and research may provide alternative ideas to potentially enable institutional change over time.
Institutions and Development
- 1. Institutions and Development Mary M. Shirley President, The Ronald Coase Institute
- 3. Institutions Institutions are the “humanly devised constraints that structure human interaction” (North, 1990). Institutions include formal rules (laws, regulations) and informal norms (habits, unwritten codes of behavior).
- 4. Institutional variables have large, statistically significant correlations with growth Trump geography or trade in horse races between variables (Rodrik, et al. 2002)
- 5. Questions I’ll Address How do institutions determine development? Can foreign aid improve institutions? Can foreign aid avoid institutions? What can be done about damaging institutions?
- 6. Why is this important?
- 7. Development is the exception Most people in the world live in underdeveloped countries
- 8. World’s population living in developed vs. underdeveloped countries, 2006 DC LDC World Bank, DC = >$11,115 GNP p.c. PPP in 2006 85%
- 9. Underdevelopment persists Most people in the world live in underdeveloped countries This has changed little over the past two decades
- 10. World’s population living in developed vs. underdeveloped countries DC LDC DC LDC
- 11. Underdevelopment persists Despite large amounts of aid And large aid community
- 12. Aid Community in 2005 (gross aid* in billions of dollars) 21 36 17,428 $51 $120 $15 *$188 gross vs. $121 net. OECD
- 13. Role of institutions in development
- 14. What Kinds of Institutions Are Needed for Development? Encourage exchange by lowering transaction costs, providing framework for competition & transparency
- 15. Reduce transaction costs Contracts & contract enforcement mechanisms, Commercial rules & norms, information disclosure Beliefs and norms that favor trust, shared values, etc.
- 16. Institutions Needed for Development Encourage exchange by lowering transaction costs, providing framework for competition & transparency Direct the power of the state toward protecting property & individuals, not exploiting them
- 17. Control the state Constitutions, electoral rules, federalism Political checks & balances Norms and beliefs encouraging civic mindedness, probity in public service, rule of law, etc.
- 18. Institutional frameworks Usually durable Endure because Powerful people benefit Humans resist changes in habits & beliefs Changes are often idiosyncratic & experimental
- 19. E.G. idiosyncratic change: China’s TVEs State owned enterprises run by private investors Overseas Chinese ties to village substitute for secure property rights Regular payments of profit shares to government officials
- 20. “ Capitalism with a red hat”
- 21. Can aid improve institutions?
- 22. No evidence aid can stimulate growth Rajan & Subramanian, 2005 find no statistically robust association looking at:
- 23. No evidence aid can stimulate growth Rajan et al., 2005 find no statistically robust association looking at: 10, 20, 30, 40 time periods
- 24. No evidence aid can stimulate growth Rajan et al., 2005 find no statistically robust association looking at: 10, 20, 30, 40 time periods Only aid directed at growth
- 25. No evidence aid can stimulate growth Rajan et al., 2005 find no statistically robust association looking at: 10, 20, 30, 40 time periods Only aid directed at growth Only countries with good policies
- 26. No evidence aid can stimulate growth Rajan et al., 2005 find no statistically robust association looking at: 10, 20, 30, 40 time periods Only aid directed at growth Only countries with good policies Different regions, areas
- 27. No evidence aid can improve institutions No effect on institutions (see cites in Burnside & Dollar 2004)
- 28. Evidence aid can harm institutions Higher aid associated w/ lower bureaucratic quality, corruption, less rule of law (Knack 1997)
- 29. Evidence aid can harm institutions Higher aid associated w/ lower bureaucratic quality, corruption, less rule of law (Knack 1997) Increased rent seeking in less open economies & those w/ large public sector (Economides 2004)
- 30. Evidence aid can harm institutions Higher aid associated w/ lower bureaucratic quality, corruption, less rule of law (Knack 1997) Increased rent seeking in less open economies & those w/ large public sector (Economides 2004) Rent seeking, corruption, waste (Bauer 1991, Kanbur 2000, Easterly 2002)
- 31. Evidence aid harms institutions Higher aid associated with slower adoption of market oriented reforms (Heckelman & Knack 2005)
- 32. Evidence aid harms institutions Higher aid associated with slower adoption of market oriented reforms (Heckelman & Knack 2005) Negative association with democracy (Djankov et al, 2006) & transition to economic freedom (IMF 2005) But, reverse causality?
- 33. Cross Country Regressions Obvious flaws
- 34. Cross Country Regressions Obvious flaws Problems in establishing causal relationships
- 35. Cross Country Regressions Obvious flaws Problems in establishing causal relationships But – can rule out hypotheses consistently rejected in most specifications
- 36. World Bank’s evaluation department judged its projects to improve public administration, rule of law, etc. to be “largely ineffective” (2005)
- 38. Why? Samaritan’s Dilemma (Buchanan 1977) Payoff highest to Samaritan if Samaritan provides aid and beneficiaries respond by exerting higher effort
- 39. Why? Samaritan’s Dilemma (Buchanan 1977) Payoff highest to Samaritan if Samaritan provides aid and beneficiaries respond by exerting higher effort Payoff highest to beneficiaries if they get aid without increasing effort
- 40. Why? Moral hazard: “… aid helps to ensure incompetent governments from the results of their actions , thus weakening their incentive to find alternative revenue sources or better policies.” Ostrom, 2002
- 41. Why? Mismatch between characteristics of aid agencies & characteristics of institutional change
- 42. Characteristics of Institutions vs. Aid Institutional framework Deep rooted & usually durable
- 43. Characteristics of Institutions vs. Aid Institutional framework Deep rooted & usually durable Aid Focus on policy, organization, sector rules Three year projects Staff rotates every 3 -5 years Rewards for approval, not sustainability Accountability?
- 44. Characteristics of Institutions vs. Aid Institutional framework Supported by power elites & beliefs
- 45. Characteristics of Institutions vs. Aid Institutional framework Supported by power elites & beliefs Aid Requires support or permission incumbent government Staff incentives to cooperate to win more project approvals Revolutionaries would be asked to leave
- 46. Characteristics of Institutions vs. Aid Institutional framework Changes are often idiosyncratic & experimental
- 47. Characteristics of Institutions vs. Aid Institutional framework Changes are often idiosyncratic & experimental Aid Focus on Western best practice – no support to TVEs Focus on changes that are: rapid, defensible, & provide benchmarks
- 48. Without improvements in damaging institutions aid projects result in: pro forma reforms
- 49. E.G. Performance contracts Government State owned enterprise Foreign aid
- 50. Manager promises productivity profitability investment other targets
- 51. Government promises autonomy to achieve targets $ bonus or recognition for good results punishment for bad results
- 52. Foreign aid agency promises
- 53. Performance Changes After the Introduction of Contracts Return on assets No change Deteriorated 0 4 8 12 Number of state-owned enterprises
- 54. Performance Changes After the Introduction of Contracts Labor productivity Improved No change 0 4 8 12 Number of state-owned enterprises
- 55. Performance Changes After the Introduction of Contracts Total factor productivity 0 4 8 12 Number of state-owned enterprises Improved Deteriorated No change Shirley & Xu, 2000
- 56. No Significant Positive Correlation with TFP in over 500 Contracts
- 57. Why such poor results? Weak targets, Poor information, No bonuses for good performance, No punishments for bad performance, or No autonomy to lay off workers or close plants
- 58. Why performance contracts? Aid staff liked:
- 59. Why performance contracts? Aid staff liked: Tangible action (signing) Tangible “success” (achieve targets) Projects possible w/o privatization
- 60. Why performance contracts? Aid staff liked: Tangible action (signing) Tangible “success” (achieve targets) Projects possible w/o privatization Government liked:
- 61. Why performance contracts? Aid staff liked: Tangible action (signing) Tangible “success” (achieve targets) Projects possible w/o privatization Government liked: Easy action (force manager to sign) Easy “success” (set targets low) Aid w/o political costly actions (layoffs, privatization)
- 62. Bottom line: Fundamental changes in deeply rooted institutions do not happen because of outsiders’ money or pressures
- 63. Can aid avoid damaging institutions?
- 64. Problems Measuring reform in institutions Combating incentive to “move the money ”
- 65. E.G. US Millennium Challenge Account Created 2002 Assists only poorest countries that rank:
- 66. E.G. US Millennium Challenge Account Created 2002 Assists only poorest countries that rank: top 50% of eligible countries on controlling corruption
- 67. E.G. US Millennium Challenge Account Created 2002 Assists only poorest countries that rank: top 50% of eligible countries on controlling corruption top 50% on half of other criteria in each of 3 performance dimension
- 68. Source: MCA Data on the Web at www.MCA.gov. Inflation rate Cost to start a business Days to start a business Trade policy Regulatory quality Fiscal policy Promoting Economic Reform Immunization rates (diphtheria & measles) Public expenditures on health Primary education completion rate Public expenditures on primary education Investing in People Civil liberties Political rights Voice and accountability Government effectiveness Rule of law Control of corruption Governing Justly Performance Criteria Dimension
- 69. 1. Current measures do not permit targeting aid to countries with improving institutions
- 70. Problems with measurement Measures are not “actionable”
- 71. Problems with measurement Measures are not “actionable”, instead they are Abstract – “rule of law”
- 72. Problems with measurement Measures are not “actionable”, instead they are Abstract – “rule of law” Static over time – governance
- 73. Problems with measurement Measures are not “actionable”, instead they are Abstract – “rule of law” Static over time – governance Uncorrelated with growth, e.g. political rights
- 74. Not institutions -- outcomes Outcome = secure property rights Institutions = laws, commercial code, norms of business, electoral constraints on government power, etc.
- 75. Problems with measurement Large margins of error
- 76. Kaufmann & Kraay 2002 Impossible to say w/90% certainty where 51 of 61 countries rank
- 77. 2. Incentives of aid agencies are to “move the money”
- 78. Selectivity conflicts with incentives to more the money Fewer countries By June 2007: only 8 of 61
- 79. Selectivity conflicts with incentives to more the money Little disbursed: By June 2007: $71 million out of $3 billion allocated ($6 billion total to MCA)
- 80. Selectivity conflicts with incentives to more the money Incentives to disburse 13 allocated $310 million as “threshold countries”
- 81. What can be done about damaging institutions?
- 82. What can be done? Raise capacity of countries to reform their own institutions
- 83. Societies cling to blatantly damaging institutions even when faced with crisis, but… Institutional frameworks do change
- 84. Ideas and learning are powerful forces in overcoming beliefs and norms that inhibit change in institutional frameworks (North)
- 85. Intellectual capital New ideas in receptive environments, E.g. Enlightenment in Europe Learning E.g. Economists in China, Chicago boys in Chile
- 86. Critical mass of well trained scholars in receptive circumstances (Shirley and Soto, 2007)
- 87. Case Studies
- 88. Case studies Chile:1975 Chicago boys China:1993 “Socialist Market Economy” Korea:1980 EPB economists Taiwan:1958-61/1986 S.C. Tsiang, T.C. Liu, others Argentina:1991 Cavallo boys Indonesia:1966/1983 Berkeley mafia
- 89. Serious threat, economic problems Failure of past reforms Change seen as necessary by elites Coherent alternative different from past reforms Role model Consensus view of group Seen as experts? Seen as not self interested? Incentives to be truthful? Local knowledge? yes yes yes yes Alternative paradigm Channels to elites Alternative is known to elites Alternative is feasible SCHOLARS RULING ELITES Policy, paradigm change Paradigm is disseminated REST OF POPULATION Beliefs change Institutional change Outcomes seen as positive
- 90. Serious threat, economic problems Failure of past reforms Change seen as necessary by elites
- 91. Change seen as necessary by elites Threats & problems E.g. Taiwan: Acceptance of China in UN (1980’s) E.g. Hyperinflation in Argentina (1989-1991), Chile (1973-75), Failure past policies Partial reforms in Taiwan, Menem’s & Pinochet’s first efforts to stabilize in Argentina & Chile
- 92. Coherent alternative different from past reforms Consensus view of group Scholarly group with alternative paradigm
- 93. Scholarly group with alternative paradigm Coherent & different from past reforms Liberalization in Taiwan “Chicago Model” in Chile Consensus view of group Five economists’ paper in Taiwan Cavallo Boys and Chicago Boys
- 94. Seen as experts? Seen as not self interested? Incentives to be truthful? Local knowledge? Scholarly group with alternative paradigm Lupia & McCubbins
- 95. Alternative paradigm Channels to elites Alternative is known to elites Alternative is feasible
- 96. Alternative is known to elites Channels to elites Think tanks Publications ( Vover a Crecer by Cavallo) Conferences (Milton Friedman in Chile) Media coverage ( El Mercurio in Chile) Personal ties (Cavallo & Menem)
- 97. Paradigm is disseminated Policy, paradigm change Outcomes seen as positive Beliefs, norms change, new stakeholders Public Elites
- 98. Paradigm is disseminated Vigorous public debate (even in Chile) Early success (lowering inflation in Argentina, Chile, spurring faster growth in Taiwan) Treated as new ideology (e.g. China’s socialist market economy)
- 99. Scholars in receptive circumstances: Identified barriers to reform Persuaded policy makers to adopt new paradigms and policies Informed public debate, contributing to changes in beliefs & institutions
- 100. Conclusion To develop countries need institutions that lower TCs and protect property and individuals Aid cannot strengthen – and may undermine – such institutions Aid cannot avoid institutions
- 101. Build Intellectual Capital Local scholars and research can provide ideas and analysis that raise the potential for institutional change.