June 27, 2005

June 27, 2005 | WebMemo on Trade, Economic Freedom

Congress Should Fully Fund the Millennium Challenge Account

As early as tomorrow, the House of Representatives will vote on the Foreign Operations Appropriations bill which includes $1.75 billion in funding for the Millennium Challenge Account (MCA). This is far below the President's 2006 budget request of $3 billion.

 

While this would be the MCA's third appropriation, the program has existed for about 18 months and has just begun disburse funds. Indeed, while there are 17 countries eligible for MCA funding, only Cape Verde, Honduras, Nicaragua, and Madagascar have finalized negotiations with the Millennium Challenge Corporation (MCC) on the specifics of their aid "compacts." These compacts total $610 million, out of the $2.5 billion appropriated for the MCA in 2004 and 2005.

 

Many in Congress have asked why the Administration is asking for $3 billion in additional funding when the MCA has not spent what has already been appropriated? The answer is that proposed compacts with countries that are eligible for, but not yet receiving, MCA funding will cost more than the $2.5 billion appropriated in 2004 and 2005, making the 2006 budget request vital if the MCA is to meet its objectives.

 

Why the MCA Is Necessary

America's national security and economic interests are served by helping poor countries to develop. Only by creating long-lasting opportunities for their people can countries experience economic growth and reduce terrorist and other security threats. Moreover, as the U.S. economy and per capita income have grown, trade has become a greater portion of gross domestic product (GDP). Helping to encourage economic growth in developing countries enhances trading opportunities and bolsters the U.S. economy.

 

Evidence and economic analysis indicate that development assistance is not sufficient to spur economic growth in recipient countries. The U.S. has tried to spur economic development through development assistance-with little success. Between 1980 and 2003, among countries for which per capita GDP data are available, over $116 billion (in constant 2002 dollars) in U.S. development assistance went to 89 countries classified as low-income (per capita income below $765) or lower-middle-income (per capita income between $766 and $3,035). Yet these recipients often experienced poor-even negative-per capita economic growth. Of these 89 countries, 37 experienced negative real annual compound growth in per capita GDP, 20 experienced minimal growth of 1 percent or less, and 32 experienced growth of over 1 percent. Half of these recipients in sub-Saharan Africa saw a real decline in GDP per capita.[1]

 

Over the past 45 years, nearly $1.5 trillion (constant 2003 dollars) has been spent on development assistance with few development success stories-none clearly attributable to provision of development assistance.[2] This situation led the Bush Administration to propose a new development assistance program-the Millennium Challenge Account-that targets assistance toward low-income and lower-middle-income countries with a demonstrable record of investing in people and promoting policies that promote economic growth and bolster the rule of law.

 

This new approach is supported by economic studies indicating that aid is most effective in countries that embrace policies that create incentives for people to behave more productively, thus encouraging growth. As noted by President Bush in 2002,

 

When nations close their markets and opportunity is hoarded by a privileged few, no amount of development aid is ever enough. When nations respect their people, open markets, invest in better health and education, every dollar of aid, every dollar of trade revenue and domestic capital is used more effectively.[3]

 

The MCA is designed to show countries how to enhance their prospects for economic growth and development, with the overarching goal of helping countries graduate from the need for foreign assistance.

 

What Has the MCA Done?

While some have criticized the slow pace of compact negotiations by the MCC, they should instead applaud the organization's prudence. The MCA is a departure from traditional development assistance. The MCC does not just quickly disburse money to countries, nor does it dictate to recipients how they must spend the grants. Instead, a country must first propose a comprehensive development strategy that is to be funded by MCA grants and demonstrate how that strategy would improve economic growth and reduce long-term poverty.

 

Recipient countries possess an unusual degree of influence over the proposals and are primarily responsible for implementation. The MCC requires eligible countries to submit proposals because these countries know the weaknesses in their economies and their needs far better than do aid donors. While the MCC will monitor implementation, progress toward targets, and fiscal accountability measures, the hands-off approach requires careful analysis in the initial stages to ensure that the proposals are correctly implemented, are designed to facilitate economic development, and possess adequate oversight.

 

Since beginning operations in January 2004, the MCC has hired experts and staff and has selected countries that meet the criteria established by Congress. On May 6, 2004, the board of directors announced 16 eligible countries for 2004 (Armenia, Benin, Bolivia, Cape Verde, Georgia, Ghana, Honduras, Lesotho, Madagascar, Mali, Mongolia, Mozambique, Nicaragua, Senegal, Sri Lanka, and Vanuatu) and dispatched teams to educate these countries about the MCA and the proposal process. On November 8, 2004, the MCC identified 16 eligible countries for 2005. (Morocco was later added, and Cape Verde was dropped because its per capita income exceeded the legislated threshold.)

 

Compacts totaling $610 million with Cape Verde, Honduras, Madagascar, and Nicaragua are complete and funds are being disbursed.[4] Compacts are being negotiated with the 13 other countries eligible for MCA funds. If these countries negotiate $152.5 million compacts-the average amount of the four compacts already approved-the MCA will exhaust the funds appropriated in 2004 and 2005.

 

This projection covers only the countries currently eligible for MCA funding and does not take into account any new countries that might qualify in 2006. Nor does it include grants to "threshold" countries that do not meet MCA criteria but are eligible for MCA assistance based on their commitment to "the reforms necessary to improve policy performance and eventually qualify for MCA assistance."[5] Currently, 13 countries have been identified as threshold countries.

 

The bottom line is that the MCA will need additional resources if the MCC is to provide aid to eligible countries in the future.

 

Conclusion

By focusing assistance on countries that are committed to policies conducive to economic growth and development, the MCA represents a fundamental shift in development assistance. Compared to traditional foreign aid, the MCA would be a far more effective means of providing assistance because it would create incentives for poor nations to adopt economic freedom, the rule of law, and good governance-policies that are the key to economic growth and development with or without foreign assistance. Congress is off-target in cutting the funding for the MCA. It is traditional foreign aid, with its proven record of failure, that deserves trimming-not the MCA.

 

Brett D. Schaefer is Jay Kingham Fellow in International Regulatory Affairs in the Center for International Trade and Economics at The Heritage Foundation.



[1] International Development Statistics Online, Organisation for Economic Cooperation and Development, at http://www.oecd.org/dataoecd/50/17/5037721.htm, and World Development Indicators Online, The World Bank, at http://www.worldbank.org/data/onlinedatabases/
onlinedatabases.html
.

[2] International Development Statistics Online, Organisation for Economic Cooperation and Development, at http://www.oecd.org/dataoecd/50/17/5037721.htm.

[3] George W. Bush, "A New Compact for Development

in the Battle Against World Poverty," March 22, 2002, at http://usinfo.state.gov/journals/itgic/0402/ijge/gj01.htm.

[4] Millennium Challenge Corporation, at http://www.mca.gov.

[5] Millennium Challenge Corporation, "Threshold Program,"at http://www.mca.gov/countries/threshold/
threshold_guidance_en_FY05.shtml
.

About the Author

Brett D. Schaefer Jay Kingham Senior Research Fellow in International Regulatory Affairs
The Margaret Thatcher Center for Freedom