Foreign Aid and Bad Government

Help entrepreneurs not governments:

During the Cold War, the U.S. instituted a policy of sending money to governments in poor countries to buy their political loyalty. While studies show that sending aid to foreign governments creates allegiance, it does not lead to economic progress. Instead, it makes governments in poor countries dependent on the U.S. rather than their citizens' taxes.

Pakistan has been one of the key recipients of U.S. aid over the last six decades, but there has been no real progress as a result. Pakistan is riddled with problems that are rooted in the disproportionate power of the state. Aid has only boosted that power.

In contrast, Malaysia saw its economy grow at twice the rate of Pakistan's over the same period of time. Fueled by trade rather than aid, Malaysian economic prosperity is decentralized, and its reliability as an ally much greater.

Tragically, the Cold War aid approach actually preserves suffering in poor countries. Aid empowers bureaucracies, promotes statism, and weakens government incentives to boost tax revenues through growth. Economic assets are often kept in the hands of the state, leading to monopolies, stagnation and extortion. All of this hurts entrepreneurs, who have the potential to create wealth and promote governmental accountability.

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President Obama now has the opportunity to adopt a new aid approach that will actually help citizens. Such an approach would demonstrate our faith in democracy and serve long-term American interests.

What should this plan look like?

First, America must remove trade barriers on exports from the poorest countries, regardless of trade policies in those countries. With global market access, poor countries would automatically attract private investment, despite their institutional weaknesses. These institutions would become stronger over time as businesses flourish. Private investments capitalizing on access to global markets would necessarily employ low-cost labor, thus creating jobs.

Next, small entrepreneurs can be bolstered with seed money in the range of $25,000. Small entrepreneurs create jobs, products and services that form the bedrock of flourishing democracies. With some tangible changes in its operation, the International Finance Corporation (IFC) within the World Bank Group could promote development through entrepreneurs. The World Bank should stop lending to governments and be absorbed into the reformed IFC.

Third, America could give $1 million to match any grass-roots group capable of raising $1 million to establish a health clinic. These clinics -- one thousand could be built with $1 billion -- could provide crucial services to poor citizens and generate goodwill towards America.