The Better Way to Fix Foreign Aid

“Time for it to die.” That verdict on USAID, by Department of Government Efficiency head Elon Musk, set off shockwaves in the aid industry and beyond. Whether motivated by revenge (95% of campaign contributions by USAID personnel went to Democrats) or other impulses, the Trump Administration is terminating close to nine out of ten USAID programs. The wrecking-ball is aimed at everything from civil society to education, health, infrastructure, reproductive rights, and more. Cuts to humanitarian relief and public health are particularly worrying; for example, the U.S. reportedly plans to de-fund the global vaccine alliance Gavi that has saved millions of lives and is freezing or terminating support for a range of vital U.N. bodies.

Yet it is aid under the banner of “development” that has shown mixed and often disappointing results, and correctly deserves scrutiny. Outcomes of decades of aid to poorer countries include enfeebled public services, lackluster investment, rising inequality, and growing poverty. Such setbacks have often stemmed from “conditionalities”—which demand austerity, privatization, and trade liberalization—that the World Bank and IMF set from atop the aid system in Washington, D.C.

There is also a common misunderstanding about how much is spent on aid and where it goes. Aid accounts for about a modest 1% of the U.S. federal budget. And rather than disappearing down “ratholes” overseas, most is paid out within the U.S. itself, mainly to American contractors that account for the majority of USAID spending. Such “tying” of aid is one among multiple ways donor countries help themselves.

It is against this backdrop that U.S. foreign aid is losing its monopolies. In the 21 years up to 2022, China paid out roughly $68 billion per year (mainly in loans) in aid-like investments, outspending the U.S. in roughly that period by about 75%. Even after adjusting for the fact that the U.S. has considerable influence (including de facto veto power) in the World Bank and IMF, and thereby has sway over all other Western donors, there are reasons to see China as a source of serious aid competition. Chinese aid is often driven by commercial ends (as in the case of Western donors, whose aid is tending to resemble that of China) and doesn’t come with conditions on political change or market liberalization. New donors such as India, Turkey, and Brazil are also offering South-to-South aid on non-patronizing terms like those of China.

Adding to recipient resentments are concerns about “spillovers.” The U.N. has begun monitoring them—that is, how the activities of some countries can hinder progress toward achieving the U.N.’s landmark Sustainable Development Goals (SDGs) that aim to ensure that all people enjoy health, justice, and prosperity. The U.S. generates many negative spillovers and its aid does not redress them. Unsurprisingly, the Trump Administration “rejects and denounces” the SDGs.

One of the main Western spillovers is wealth drain from poorer to richer places. One 2021 study put the figure at $62 trillion since 1960, and noted that it has been 14 times larger than Western aid in recent years. Some of these flows are fairly earned as a result of square dealing in trade, technologies, and investments. But a lot of them consist of rents—value extracted through unfair political-juridical advantage.

The rentier is at the heart of today’s perverse system. The U.S. economist Lawrence Summers, a longtime cheerleader of free trade and globalization, recently acknowledged the monies draining from poorer places. “Millions in, billions out,” he and co-author N.K. Singh wrote.

Such losses can’t be directly put at the aid system’s doorstep. But doctrines to shrink-the-state and cut taxes have limited revenue collection, thus hindering self-reliance. Further, the IMF’s approach has pushed poor countries to divert capital available for domestic investment and public services into international currency reserves; these effectively become low-interest loans, mainly to the U.S.

A few exceptional donors, such as Norway, recognize spillovers such as tax evasion and illicit financial flows, which harm all countries but hit poor ones disproportionately. Those donors and policy activists call for policy changes to stop them, and to help poorer countries exit from aid, chiefly by mobilizing domestic revenues.

Angus Deacon, a professor at Princeton and winner of the Nobel Prize in economics, sees too many downsides in conventional aid. In his book, Economics in America, he urges us instead “to agitate for our own governments to stop doing the things that make it harder for poor countries to stop being poor.” 

In my view, this means: stop those spillovers and harmful aid conditionalities. And rather than kill off aid agencies, like the Trump Administration seems intent on, we could, as the renowned economist John Maynard Keynes advocated in 1936, start with the euthanasia of the rentier.