The role of the Bretton Woods institutions in development assistance
The Bretton woods institutions clearly have a very vital role in providing structural assistance. The article “The International Financial Institutions” by Taylor is however very critical with the results of their policies.
Generally there is wide economic consensus that open trade and liberalization increase a nation’s wellbeing. However, according to Taylor, the IMF/WB have repeatedly failed in engineering economic growth. Several reasons for this failure could be named. For instance, it is never easy to just copy-paste the experience western countries have made and use it as a general blueprint for development. The reason why many policies of the IMF/WB have failed could on one hand be bad local governance, which was addressed in a later attempt to foster good governance by expanding the mandate of the institutions, or the general inadequacy of the IMF/WB’s strategy.
One of the fundamental flaws of the IMF/WB is that they operate under the premise of the so-called ignorance hypothesis that says that bad policy is done because of the leaders lacking knowledge about how to create prosperity. As Daron and Acemoglu pointed out, this idea seems appealing but ignores the way how political decisions are actually taken. Leaders usually do NOT lack knowledge but deliberately take the wrong decisions. This is needed to ensure (popular) support.
The article suggests that to the astonishment of most economists, achieving development in the third world plays by different rules than further growing developed nations. Although the Asian tigers (not China) are nowadays the epitome of economic liberalism that IMF/WB officials would endorse, there is the notion that liberalization has often failed in third world countries and might not be the right mean in an early stage of development. Be it to governments in developing nations being generally unable to enforce antitrust rules, protection of property and investments and other things needed for a functioning market (which the IMF/WB tried to tackle with the “good governance” policy) or be it to the possibility that free markets as such are not of essential interest to very underdeveloped nations or nations with other “cultures”– fact is that the schoolbook-like introduction of liberalization is apparently not fruitful.
Concerning the question if liberalization is a wrong tool for underdeveloped nations, we need to distinguish two terms. Francis Fukuyama distinguishes between “strength” (in the y-axis) and “scope” (in the x-axis) of a state. The first describes the extent to which the institutions/the bureaucracy work effectively while the latter indicates the amount of state intervention in the economy. An extremely well managed (“strong”) and economically liberal (“scope”) place would be e.g. Singapore, Hong Kong or the US and be put in the first quadrant, while a strong welfare state like Denmark would be in the second. The confusion of terms could be a core reason why in discussions about the correct development policies people often strongly disagree.
I believe the problem with the IMF/WB is that they in reality focused solely on the x-axis. This is, they concentrated on state reduction and neglecting the state-building agenda, which means adjusting the scope in a classical liberal way that is definitely not wrong, but completely omitting the need to increase the strength of the main functions of the advised states. Fukuyama suggests that in reality the process of reducing state scope unintentionally reduced state strength. This could also help explaining why people often blame the deterioration of their state on economic liberalism, although it is not liberalism as such that is responsible but the accidental reduction of state strength in the core responsibility areas of the state. Even Milton Friedman himself said (commenting on the experience of post-soviet Russia): “It turns out that the rule of law is probably more basic than privatization”. The strength of institutions must thus be a prerequisite for successful liberalization. This could be the main reason why the classical economist’s approach to development that aimed at engineering growth taking the Western blueprint was in so many cases (most of Africa, Latin America, former Soviet countries) well-meant but not successful.
There seems to be a similar problem with the efforts to promote transparence and accountability. The IMF/WB seem to be thinking too much in western terms of good governance. This is also symbolized by the in my opinion counterproductive extension of their mandate in promoting democracy and “empowerment”. There is for me no evidence that democracy is a prerequisite for economic development. Singapore under Lee Kuan Yew was clearly not democratic or “socially empowering”, neither is Kagame’s Rwanda. The confusion of promoting Western values with actually doing real development assistance is for sure undermining the credibility of the Bretton-woods institutions since it increases the likelihood of perception of them being the enlarged arm of US foreign policy and Western morals. This is not completely absurd bearing in mind that lending is often a foreign policy instrument to increase influence and widely used exactly for this purpose by China in Subsaharian Africa but also e.g. the EIB in accession candidate countries like the Ukraine or the Balkans.
Another reason why the efforts of the IMF/WB often seem to be in vain could be found in the lack of acceptance. The benevolent paternalism as I call it of these institutions can be widely perceived as a sort of neo-colonial imposing of western thought. Also in Europe itself, e.g. during the Greek sovereign debt crisis, the IMF was perceived by many as an unwanted foreign intervention. If lacking political support even good economics can be bad politics. If the conditions imposed on Greece were even good economics would be another question.
The thought that good economics are often not politically advisable is exemplified by cases of African leaders being ousted by angry citizens after cutting subsidies or implementing other austerity or liberalization measures. I would also refer to last year’s elections in Argentina when Mauricio Macri, who implemented economic reforms in order to achieve sustainable economic growth was defeated by the neo-perronist heir of former president Kirchner, who can in large be blamed for the Argentinian sovereign debt crisis, as an example of widespread resistance against the IMF/WB. If the Bretton Woods institutions therefore want to keep their influence they apparently need to find ways to increase popular support.
At the end of the article it is suggested that the IMF and WB should follow the advice of former director Stiglitz and focus on their original purpose which is giving loans to construct physical infrastructure. I would however underline that merely having better infrastructure is not likely to significantly improve development in HDI terms as long as there is a lack of good institutions. The Marshall Plan would for sure never been successful if there hadn’t been a very sound intellectual infrastructure and a competent administration in Europe. Expecting intangible wealth to come automatically just by building physical infrastructure in my eyes is a mistake that is empirically demonstrated countless times e.g. by oil-rich countries or countries that received generous aid (In “The Cartel of good intentions” it is found that the aid curse is just another version of the resource curse: it makes governments independent of their people).
On what should the IMF/WB then focus on? As Hamilton et al. calculated in “Where is the Wealth of Nations?” these are two ways of investing that yield the highest returns: education and (administrative) law. My conclusion is that if not on these, there are not much more issues that the Bretton Woods institutions should focus on.