TECHNICAL REPORT OF THE HIGH-LEVEL PANEL
ON FINANCING FOR DEVELOPMENT

The past decade has seen a notable liberalisation of trade by developing countries, analogous to that earlier undertaken by today’s industrial countries, at least as regards trade among themselves. Unfortunately, the liberal trade regime that now prevails among the industrial countries (except in agriculture) is not matched by free market access extended to the products of interest to developing countries. In part this is doubtless due to simple protectionism—jobs were perceived to be at stake. But in part it is also due to the earlier attempts of developing countries to stand outside the process of making bargains about trade, and to expect to benefit from concessions without making concessions in return. That finally changed in the most recent round of multilateral trade negotiations, the Uruguay Round, where developing countries did participate actively in the bargaining. Their involvement won them some notable gains, such as the tariffication of quantitative restrictions in agriculture and the phasing out of the Multi-Fibre Arrangement—albeit gains with a long time fuse. One important task of the coming years will be to make sure that the industrial countries fully implement their commitments under the Uruguay Round accords to liberalise trade in areas of great significance to developing countries.

Even after the Uruguay Round commitments are completely implemented, however, substantial barriers to developing-country exports will remain. One recent (post-Uruguay Round) attempt to quantify the benefits of removing all such trade barriers estimated the potential welfare gain to developing countries at about $130 billion a year (at current prices, and covering only the gains on visible trade)[8] . Another study concluded that even a 50 per cent tariff cut could give developing countries a gain in the region of $90 billion to $155 billion a year[9] . It is extremely important that developing countries be given the opportunity to realise these gains. Although some panel members felt it was crucial that developed countries first rebuild confidence in the WTO by delivering on both the spirit as well as the letter of previous agreements, the Panel as a whole felt the best approach would be to initiate a new round of multilateral trade negotiations at the ministerial meeting of the World Trade Organization (WTO) planned for Qatar in November 2001. This should be truly a Development Round, and indeed that title has been widely suggested. The industrial countries, whose leadership will be indispensable in making a new round successful, will need to accept that the negotiations are centred on questions of concern to developing countries. They must enter the negotiations prepared to make substantive concessions on those issues; many developing countries might find it difficult to start negotiations without some assurance of such willingness. The Qatar ministerial meeting should set an objective of making trade as free between industrial and developing countries as it already is among the industrial countries. 

A Development Round would need to deal with the following agenda:

· Finishing the business of the Uruguay Round. This means securing full implementation of the spirit as well as the letter of the commitments that industrial countries made in those negotiations. There is also a need to review regulations that developing countries have found either hard to implement or unexpectedly onerous.

· Strengthening the rules of the WTO system . This is of critical importance for developing countries, because it is the least powerful countries that most need strong rules. Anti-dumping rules, for example, are being increasingly abused and need to be disciplined by the international system.

· Liberalising trade in agricultural products . All analyses indicate that this would benefit developing countries. Of course, the implications of full liberalisation would be enormously greater for some products, like sugar, than for others. The real cost of producing sugar in developing countries is as little as a third what it is in some EU countries, but developing-country exports are kept out by an EU tariff of 213 per cent. Agricultural subsidies in the member countries of the Organisation for Economic Co-operation and Development (OECD) amounted to $361 billion in 1999, more than the entire GDP of Sub-Saharan Africa. The aim should be complete liberalisation of agricultural trade, with at most two qualifications. First, in the industrial countries, any concern to sustain the real income of the rural sector should be addressed by subsidies focused on environmental protection rather than agricultural output. Second, in developing countries, a continuing concern with food security may justify variable import tariffs when world prices are low, given that these countries cannot afford extensive farm subsidies.

· Reducing tariff peaks and tariff escalation Even after the Multi-Fibre Arrangement has been phased out under the Uruguay Round agreement, the average tariff on textiles and clothing in OECD countries will be 8 per cent, compared with 3 per cent on other manufactures. For many other developing-country exports, market access is limited by particularly high tariffs or by tariffs that escalate with the degree of processing. This prevents developing countries from producing higher-value products and moving up the development ladder.

· Reforming trade-related intellectual property rights . This was a topic covered for the first time by the multilateral trade regime in the Uruguay Round. But many developing countries have found it impractical to impose and enforce state-of-the-art intellectual property laws on the model prescribed in the WTO agreement. Furthermore, some of the results, such as the high cost of HIV/AIDS medicines and other patented pharmaceutical products in poor countries, have aroused much anxiety. This whole question needs to be re-examined, with a view, among other things, to seeking ways to increase the availability of low-cost medicines without unduly affecting the incentive to innovate and introduce new products.

· Legitimating limited, time-bound protection of certain industries by countries in the early stages of industrialisation . However misguided the old model of blanket protection intended to nurture import substitute industries, it would be a mistake to go to the other extreme and deny developing countries the opportunity of actively nurturing the development of an industrial sector. A requirement for international approval of such protection could be a help to the governments of developing countries in resisting excessive demands from their domestic lobbies (and from multinationals considering local investment).

· Taking a new look at liberalising migration . The time may also be ripe to start seeking some measure of international agreement on ‘the movement of natural persons’, meaning rules governing short-term overseas employment, which could provide an even larger source of foreign exchange for developing countries than in the past.

This list is not intended to suggest that a new trade round should be limited to these topics.  Some Panel members believe that the gains to all countries could be even greater if a new round also includes services. Rather, the purpose of the list is to identify those topics that must not be omitted if developing countries are to be fully included in the world trading system on an equitable basis.

One issue that has impeded agreement on the launch of a new round is the use of trade sanctions to promote labour or environmental standards. These topics are best dealt with by developing the international institutions specifically focused on labour and the environment, as discussed in section 5.

In recent years trade liberalisation has often occurred on a regional rather than a global basis. Regional agreements can be a constructive way of advancing more liberal trade and are often of special importance for small countries, but it is important to make them building blocks of, and not stumbling blocks to, a global free trade system. Such agreements should be fully WTO-consistent, and their pursuit should not become an excuse for delaying multilateral liberalisation.

Trade rounds take a long time to reach fruition. The problems of the least developed countries cannot wait that long. Some initiatives have already been taken to strengthen their trading position. The WTO, the World Bank, the International Monetary Fund (IMF), UNCTAD, the United Nations Development Programme, and the UNCTAD- and WTO-sponsored International Trade Centre have jointly launched an ‘Integrated Framework’ designed to build up the capacity of the least developed countries for trade negotiation and to assist their export diversification. The extent to which countries are able to take advantage of improvements in market access obviously depends on a range of supply-side factors, many of which are covered by the discussion of domestic policies in the previous section. In the case of many least developed countries, these problems are so acute that it is right for the international community to give some immediate help in capacity building. The Trust Fund that has been established to support the Integrated Framework will do just that. It deserves generous financing.

The WTO has also tried to shame the industrial countries into improving market access for the least developed countries. New Zealand and Norway have already opened their markets completely. The United States has responded with its special programmes for Africa and the Caribbean, which have received congressional approval and are now being implemented, although unfortunately with limitations that are liable to curtail their value. The European Commission proposed that the European Union phase out all quota and tariff restrictions on imports of everything but arms from the least developed countries over 2002 to 2004. That proposal was approved in the Council of Ministers in February 2001, although with regrettable delay in giving unrestricted market access in bananas, rice, and sugar. It is important to secure faithful and prompt implementation of this commitment and to obtain actions at least as good from all other industrial countries. An immediate and useful step would be to implement without further delay all Uruguay Round concessions affecting the least developed countries, provided, of course, that such concessions not be allowed to substitute for overall liberalisation.

Many of the poorest countries still remain overwhelmingly dependent on primary commodities for their export revenue. In fact, more than 50 developing countries, including about two-thirds of the HIPCs, depend on three or fewer commodities for more than half their export earnings. This exposes them to two problems. One is that over the long run the prices of these goods have tended to fall in real terms, making it increasingly difficult for producers in these countries to earn a decent living and for the countries to buy the imports they need to grow. The other is that both the producers and their countries are buffeted by strong cyclical pressures, because commodity prices often vary sharply with the state of global demand.

It is difficult to imagine how the first problem could be resolved by direct intervention to support prices. International commodity agreements have occasionally managed to hold up prices for a few years. But such success has invariably attracted additional producers and dampened demand until the agreement finally collapsed, leading to adjustments even sharper and more painful than would have been experienced in a free market. At the root of the problem is that, under current circumstances, any rise in commodity prices spurs a rush of new entrants hoping to scratch out a living by supplying the world market, even if at a starvation wage. The problem will be overcome only when development has proceeded far enough to make such desperate behaviour unnecessary.

There is also a long history of attempts to reduce the cyclical variability of commodity prices, or at least to reduce its impact. Although some modest initiatives, such as the IMF’s Compensatory Financing Facility, have been useful at the margin, none of the grand proposals floated, from Keynes onward, has ever secured agreement. Even commodity agreements that did not aim to hold prices permanently above their market-clearing levels have eventually collapsed. It is regrettable that the Compensatory Financing Facility was scaled back in the 1980s. It deserves to be restored and improved.

One interesting new approach for making a limited assault on the problem is a scheme for commodity risk management in developing countries[10] . This new initiative differs from its predecessors in two key respects. First, it makes no attempt to stabilise market prices, but rather focuses on the price received by the individual producer. Second, although it envisages the creation of a new intermediary within some international organisation to operate the scheme, this intermediary would reinsure its contracts with private sector insurers, so that the terms it offered would be essentially those being quoted by the private sector. The job of the intermediary would be to make these terms widely available to poor farmers and other producers in developing countries who now lack access to private insurance.

The proposed intermediary would sell insurance to producers on the prices of at least the 12 principal commodities exported by developing countries. Aid resources could be used to pay a part of the premium costs of poor producers, provided the eligibility criteria are unambiguous; producers with incomes above that threshold would be required to cover the costs. Since the intermediary would quote premium rates based on going rates in the commercial markets with which it would reinsure most of its risk, it would be largely risk-free.

How useful would such a mechanism be? It is important to be clear that it would not claim to stabilise prices received by producers, but rather to give them advance assurance of the minimum price that they will receive. This would be of special value to farmers with a choice of annual crops. They would be better able to decide which crop to sow if they knew, at planting time, the minimum price they would eventually receive for each alternative crop. The scheme would only stabilise the incomes of other producers (such as those harvesting coffee and other tree crops) to the extent that they would make claims on their insurance when times are bad and not when they are good. As world market prices fluctuate, so would the guaranteed minimum price that could be bought for a given insurance premium. Although the potential benefits of such a scheme are fairly modest, it would be worth initiating one promptly, at least on a trial basis.

In contrast to the many initiatives over the years to liberalise trade, and more recently to free capital movements, there has never been any comparable initiative to free the movement of persons between countries. In the light of demographic developments in the industrial countries (in particular, the ageing of their populations) and the potential benefits of migration in generating remittances to developing countries, the time has come to put this issue on the international agenda.

The increased trading opportunities called for in this section would create the chance for many more developing countries to enter the virtuous circle of export-led growth. These better market opportunities would need to be supplemented by strong support for capacity building and efforts to limit the havoc wrought by weak commodity prices. Only then will trade fulfil its potential in helping the poorest countries achieve the International Development Goals.  

3- Private Capital Flows

The bulk of the saving available for a country’s investment will always come from domestic sources, whether that country is large or small, rich or poor. But foreign capital can provide a valuable supplement to the resources a country can generate at home. Nowadays, large sums of capital cross national borders in the form of foreign direct investment (FDI), and the international capital markets constitute a further vast pool of funds on which countries can draw. For the world’s middle-income countries, the potential of these resources far exceeds what will conceivably be available from public sector resources. And even poor countries can hope to draw on FDI, although on average they attract less of it (relative to GDP) than middle-income countries. The extent to which FDI bypasses smaller and poorer countries is often exaggerated; many countries that are either small or poor, or both, have high ratios of FDI inflows to GDP[11] .

Foreign Direct Investment

The dramatic expansion of FDI into developing countries during the past decade is due in part to the improvements in the climate for investment that many of these countries have achieved. In a growing number of countries, a long-held suspicion of foreign investors has been replaced by a welcoming attitude, as countries became more aware of the access to markets and modern technology, as well as capital, which FDI brings. Another attraction is that flows of FDI are less susceptible to sudden reversal than flows of short-term portfolio capital, as the Asian crises recently demonstrated.

FDI may be attracted by several factors: the opportunity to develop natural resources, the attractiveness of a country as an export platform, or the wish to produce locally as the most profitable way to supply that country’s domestic market with the particular products that a multinational sells worldwide. But in every case the investment climate is also a major factor in deciding whether to invest. Investors want political stability. They want assurance that the rule of law prevails, so that the rules and procedures governing their operations will be stable and predictable, and freedom from corruption. They seek skilled work forces and efficient infrastructure. They also need assurance that their investments will be safe against arbitrary expropriation, and they value an international mechanism for settling disputes with host governments, such as that provided by the International Center for the Settlement of Investment Disputes at the World Bank.

FDI is also more likely to take place when the host government is prepared to make a commitment to national treatment, that is, to treating foreign investors and their investments no less favourably than domestic investors. Other important conditions include transparency in government policy; provisions for the free transfer of capital, profits, and dividends; willingness to allow temporary residence for key personnel; and the absence of performance requirements. Of course, in extreme circumstances, countries may need to make exceptions to protect their national security, to safeguard the integrity and stability of the financial system, or to respond to a balance of payments crisis. And national treatment does not mean special treatment: foreign investors should not be exempted from domestic laws governing corporate and individual behaviour, nor should the authority of domestic courts, tribunals, and regulatory authorities over foreign investors and their enterprises be curtailed.  

Developing countries will need to continue to improve their attractiveness to FDI. This includes upgrading accounting and auditing standards and improving transparency, corporate governance, and the efficiency and impartiality of their administration, as well as their physical infrastructure. Actions like these, which will benefit the domestic private sector as well as foreign investors, are the right way to compete for FDI. The wrong way is to hand out tax concessions or erode domestic social or environmental standards in a race to the bottom. One of the roles that an International Tax Organisation could play is in disciplining competitive tax concessions, which end up mainly benefiting foreign investors rather than the host countries. These disciplines would need to apply to industrial as well as developing countries, since many industrial countries are now also engaged in tax competition to attract FDI.

The primary obligations of foreign investors, as of domestic corporations, are to obey the law and be economically effective. But there is also a widespread view that they have a responsibility to behave as good corporate citizens of the countries in which they invest. Those responsibilities are laid out in the Global Compact sponsored by the Secretary-General, to which companies are invited to subscribe. The Compact’s nine principles include two dealing with human rights, calling on businesses to support and respect the protection of internationally proclaimed human rights and to make sure they are not complicit in human rights abuses. Four of the principles deal with labour standards, calling for upholding freedom of association and the right to collective bargaining, as well as eliminating forced labour, child labour, and discrimination. Three deal with environmental issues, calling for businesses to adopt a precautionary approach to environmental challenges, to undertake initiatives to promote greater environmental responsibility, and to encourage the use of environmentally friendly technologies.

The multilateral development banks (MDBs; these include the World Bank and the regional development banks) have for some time played a role in attracting FDI to developing countries through co-financing, through investment guarantees, and through the sponsorship of the International Center for the Settlement of Investment Disputes. Their contribution has been valuable, and there is a good case for enabling the MDBs to increase their catalytic role[12] . Many potentially viable infrastructure investment projects fail to get private sector financing because their returns are subject to political and regulatory risk—still often perceived as high in emerging markets that have not had time to build a credible track record. MDBs can provide partial risk guarantees to investors that will safeguard them against a host government reneging on pricing or performance agreements, as well as against expropriation and currency inconvertibility.

Portfolio Investment

Besides FDI, developing countries today can hope to benefit from inflows of portfolio capital from world capital markets. Without these flows, governments and the local private sector would not be able to reduce their cost of capital by tapping private foreign savings. It is for this reason that progressively more developing countries have been liberalising their capital account in recent years. But this has proved to be a mixed blessing. Although the infusion of capital in good years was quite substantial, in all too many cases the boom years soon gave way to a bust, marked by currency or banking crises, or both. Countries with large foreign debts, particularly short-term debts and private sector debts denominated in foreign currencies, proved vulnerable to crises, as herds of investors fled in panic. No one can claim that private financial institutions distinguished themselves by this boom-bust behaviour.

Recognition of the susceptibility of borrowing countries to financial crises led to international discussions to redesign the international financial architecture in ways that would reduce this vulnerability. One outcome has been an effort to strengthen financial systems in emerging markets. Another has been the design of standards and codes intended to codify best practice and improve transparency in a number of relevant areas: data provision, prudential regulation and supervision of the banking system, accounting standards, corporate governance, and more. This is a welcome initiative, which should help emerging markets reduce the gap between their systems’ present performance and best practice. There is, however, concern that developing countries are not being adequately involved in the design of these standards. And it is important that the IMF’s Reports on Standards and Codes recognise that rapid implementation of these codes can be difficult and costly, and not make unreasonable demands about the speed of implementation. Abundant and efficient technical assistance is also called for, to help countries build the capacity to implement these codes.

The experience of financial crises has also led to a reconsideration of appropriate macroeconomic policies. The dangers of insecurely pegged exchange rates are now widely recognised. And although the long-term trend ought to continue to be towards progressive liberalisation of capital movements, it is important that liberalisation be phased in, and then only in appropriate circumstances. Liberalisation can safely proceed only gradually in pace with the capacity of the domestic financial system and when there is no serious macroeconomic disequilibrium, financial institutions are solvent, and an effective system of prudential supervision is in place. There may be occasions during capital surges when the introduction of temporary capital inflow taxes proves to be part of the least-bad policy mix. But some other forms of capital controls are unambiguously counterproductive, such as those that privilege short-term over long-term borrowing. And there is some evidence that controls intended to prevent capital outflows often have the opposite effect, of limiting net inflows, because investors are more willing to bring money into a country when they believe they will be able to take it out again when and how they choose.

These and other reforms can hope to reduce the frequency and severity of financial crises, but it would be unrealistic to suppose that they can eliminate crises entirely. Accordingly, the discussions of a new international financial architecture have also considered how to improve present arrangements for crisis resolution. For its part, the IMF has streamlined its emergency facilities, abolishing a number of windows that were little used while introducing two new facilities. One of these is the Supplementary Reserve Facility, which is designed to lend large sums quickly at high interest rates for relatively short periods. The other is a Contingent Credit Line, which allows preapproved countries to draw on emergency financing when a crisis strikes via contagion from other countries. Although the objective of this facility, of making substantial sums pre-emptively available to countries threatened by contagion, makes a great deal of sense, the fact is that no country has yet chosen to apply for this line of credit.

The most important outstanding issue in the discussions on a new international financial architecture concerns how to ‘bail in’ the private sector, that is, to secure the participation of private creditors in resolving crises by extending debt maturities. Everyone agrees that there could be circumstances when this would be necessary, given the massive amounts of foreign credit that can be withdrawn and the incentives for private creditors to run for the exits once confidence erodes. Keeping a lid on moral hazard also depends on the private sector knowing that it may be bailed in rather than bailed out. Some helpful elements of a solution can be delineated. Bonds ought to have collective action clauses, permitting a qualified majority of bondholders to approve changes in the payments clauses. Most bonds issued in London already have such provisions, but bonds subject to New York law do not. Other major industrial countries ought to join Canada and the United Kingdom in introducing such clauses into the bonds they issue, to ease the way for their adoption by emerging markets.

Important as it is to reduce the frequency and the costs of crises, it would be a Pyrrhic victory if crises were eradicated by killing the capital flows that create them. These flows can benefit both developing and developed countries: borrowing by developing countries allows them to accelerate their development, and lending by developed countries allows their citizens to place part of their savings in high-yielding assets and diversify their portfolios. Both therefore have an interest in allowing private investors in the developed countries to invest in emerging markets where the investors find that to their advantage.

Yet despite the liberalisation and globalisation of recent years, industrial countries still impose some quite important impediments to such investment. For example, many insurance companies in the United States are not free to invest in emerging market debt, because many of the individual states that regulate them prohibit this. Similarly, pension funds in many Continental European countries are effectively prohibited from buying emerging market equities. The draft Pensions Directive that has been presented by the European Commission to the European Parliament would change this, but has yet to be voted on. It is important that industrial countries remove such artificial constraints on investment in emerging markets, especially where the investors in question can be expected in their own self-interest to take a long-term view. And there is a danger that the new proposals for determining banks’ minimum capital requirements, now under discussion by the Basle Committee on Banking Supervision, will make even bank loans prohibitively expensive to all but the most creditworthy developing countries[13] . 

Private capital cannot be expected to finance poverty reduction or human development directly. Nonetheless, it can be an important factor in promoting growth—or in precipitating crises. That is why it is important to achieve a substantial inflow of private capital, with much but not all of it in the form of FDI, to developing countries; and why it is important to reduce the crisis vulnerability of the system.

4- International Development Co-operation

Although the bulk of financial flows to developing countries are virtually certain to come from private sector sources in the future, international public finance retains four vital roles:

· It has a role in initiating development in lower-income countries. Most of these countries cannot expect to attract much private sector finance, and they should be discouraged from extensive commercial borrowing even if lenders are willing. This is the traditional role of official development assistance (ODA), and of lending by the MDBs. A particular focus for ODA in the next few years should be to help lower-income countries achieve the International Development Goals.

· It can help in coping with humanitarian crises.

· It can contribute to accelerating recovery from financial crises. The IMF is the lead international institution in this area. The MDBs can also play an important role in financing social safety nets and protecting access to basic social services during crises.

· It can play a role in providing global public goods, meaning goods and services whose benefits accrue to humanity in general rather than to the residents of any single country[14] . The principal global public goods include peacekeeping; the prevention of contagious diseases; research into tropical medicines, vaccines, and agricultural crops; the prevention of chlorofluorocarbon emissions; the limitation of carbon emissions; and the preservation of biodiversity. The United Nations is responsible for peacekeeping; the World Health Organization and the World Bank are involved in combating contagious diseases; the research centres that comprise the Consultative Group on International Agricultural Research (CGIAR) deal with agricultural research; and the Global Environmental Facility deals modestly with the last three issues.

The world has a crucial interest in seeing these four roles funded on an adequate scale. A primary aim of the Financing for Development conference should be to secure adequate mechanisms to achieve this. In particular, every country that seriously pursues the International Development Goals should be assured that their achievement will not be thwarted by a lack of external finance.

The Scale of Need

What would constitute adequate funding of these four roles of international public finance? Consider first the aim of preventing the International Development Goals being frustrated through a lack of finance. Estimating the cost of that objective does not imply reversion to the discredited view that one can always increase growth, or secure better education, or provide any other public service by pumping in more money. On the contrary, the evidence is now quite unambiguous that aid given the wrong way can harm a country’s poor, even if it consists of grants and does not build up debt, by permitting the perpetuation of bad policies and by diverting resources to the inefficient or corrupt. But it is equally important to recognise that growth cannot take place unless there are resources to be invested, that children will not be educated unless teachers can be hired and paid, and so on. The policy and institutional environment needs to be there for aid to be worthwhile; but the evidence also says that, where they are right, aid can deliver. An example of the right approach is the Global Initiative agreed at the World Education Forum in Dakar in 2000. Developing countries agreed to develop National Education Action Plans by 2002, and donors agreed that no country serious about achieving the Dakar education goals should be thwarted by lack of external resources. What is needed is an estimate of how much aid would be necessary to achieve all of the 2015 targets if each of the lower-income countries puts in place the policies needed to make that aid worthwhile.

The appendix to this Report reviews the present state of the evidence on the costs of attaining the 2015 Development Goals, on the assumption that the recipient countries are doing what is necessary on their side. It notes that these estimates are not yet at all satisfactory, in part because such estimates ought to be built up from estimates for the recipient countries individually, and they have not yet started doing their homework on this costing. Table 2 summarises the partial and preliminary figures now available, which suggest that the cost of achieving the 2015 goals would probably be on the order of an extra $50 billion a year.

The second need for public sector finance is to respond to humanitarian crises.  The global need for humanitarian aid has been vast in recent years, and, sadly, there is no reason to expect it to decline in the near future. At any point in the 1990s, more than 100 million people were living lives blighted by conflict or natural disaster[15] . The Red Cross has estimated that over the past 10 years the number of people affected by floods and high winds has increased by more than 300 per cent, possibly as a consequence of the climatic disruption resulting from global warming. Humanitarian assistance in recent years has run at about $4.5 billion a year, or some 8 per cent of the aid budget (and is financed out of ODA). About a third of this assistance is in the form of food aid. This has left some emergency situations tragically underfunded; for example, Eritrea in 1998 received less than $2 for every person affected by its emergency.

This is an area that cries out for a more systematic donor effort. Humanitarian aid at present is marked by extreme inequality and is heavily skewed in favour of particular countries and regions, usually those with high media visibility. There is a need for a long-term commitment by donors to fund humanitarian relief to a specified minimum standard, with a built-in burden-sharing mechanism, and with a specific line item in their contingency budgets to permit the funding of unexpected crises without diverting funds from elsewhere in the aid budget. Achieving a reasonable minimum standard might cost around $8 billion or $9 billion in a typical year, an increase of around $3 billion or $4 billion from recent spending levels. This would mean roughly doubling the financial component of humanitarian aid (holding food aid constant). Moreover, donors need to recognise that the rules for dispensing humanitarian aid are very different from those that should govern development assistance. Many emergencies occur precisely because the governments in question are not providing good governance: the appropriateness of humanitarian assistance needs to be measured in terms of lives saved, people protected, epidemics prevented, and foundations provided for rebuilding lives and communities. It will be a challenge to provide adequate humanitarian assistance without undermining the need to focus development assistance on those countries where it can be effective.

The third need is for mitigating financial crises. The IMF regards its current resources as adequate for the tasks it is likely to be confronted with in the coming years.

Estimating the desirable scale of expenditure on the fourth need, the provision of global public goods, involves a lot of uncertainty. The Appendix to this Report also reviews estimates of the cost that would be involved in addressing these needs. It concludes that a serious attempt to meet them would be likely to cost something on the order of $20 billion a year, even if most of the costs of combating global warming remained on national budgets. It is good that worldwide concern about the supply of global public goods is at last awakening. But this concern carries with it a danger: that funds may be diverted from traditional development assistance to meet these needs. Rarely in recent years has the recognition of new needs led to new, additional funding; instead they have mainly been financed by cannibalising existing programmes. Indeed, estimates of the proportion of aid budgets already devoted to the supply of what are really global public goods run as high as 15 per cent. And often these activities benefit the donors more than the recipients. Given what is at stake in reversing the tendency toward polarisation of rich and poor in the world economy, this is dangerous. The answer is to separate development and humanitarian assistance from finance for the supply of global public goods, and to provide adequate funding for all three.

Although the figures presented above should be taken as indicating no more than orders of magnitude, those magnitudes are substantial. To summarise: Achieving the 2015 development targets may require an extra $50 billion a year. Humanitarian assistance needs an extra $3 billion or $4 billion a year. And seriously addressing the need for global public goods will require a budget of the order of $20 billion a year, compared with current spending of around $5 billion a year.

The HIPC Initiative

In retrospect, everyone welcomes the reduction in the debt burden on the world’s heavily indebted poor countries that resulted from the campaign by a broad coalition of nongovernmental organisations under the banner of Jubilee 2000. The lowering of their debt should go part way towards achieving the desired increase in net financial flows to lower-income countries. The official estimate is that debt service will decline by $1.1 billion a year from what would otherwise have been paid, and by $2.4 billion a year from what would have been due. But at best, debt relief will offset only a small part of the estimated shortfall in ODA, and this suggests one reason why the question is still being posed as to whether debt relief has been pushed far enough.

When the HIPC initiative was first launched, in 1996, a number of very poor countries had built up high levels of debt, to donor countries and their export credit agencies and to the MDBs. Servicing that debt would have absorbed an unconscionably large proportion of those countries’ fiscal revenue and foreign exchange receipts. In reality, not all of that debt service was paid. But even so, what should have been priority social expenditures, on education and health and so on, were being squeezed out by the need to service debts incurred in the past, sometimes with little to show for the borrowing. The result was a lose-lose situation. If the debts were not serviced, the debtors’ reputation suffered, and with it their ability to access new credit, even trade credit. If they were serviced, it was at the expense of desperately needed spending. Given this situation, it was not too difficult to win agreement in principle that, despite the importance of the axiom that in general credit markets will function only if debt contracts are honoured,, debt reduction made eminent sense. Getting from agreement to actual delivery of substantial debt reduction, however, has taken a very long time. Some initial measures of debt relief were agreed in 1996, but these proved insufficient. An enhanced HIPC initiative was therefore agreed in September 1999. This revamped but maintained the conditions attached to debt relief, designed to ensure that the savings on debt service were in fact channelled into increased spending on growth-enhancing social programmes, while increasing the relief available.

In addition to the point of principle of whether circumstances justify overriding the normal presumption of the sanctity of debt contracts, three technical factors must be considered in appraising the desirability of debt relief. The first is who pays for it. In principle, it has always been said that the HIPC initiative will be paid for by additional ODA. Since ODA is undersupplied (as argued above), that is appropriate, provided that it actually occurs. But one must not take it for granted that this is necessarily the way things will work out. For example, it is sometimes argued that the MDBs could find the resources to forgive their claims by drawing on their reserves, but the question is whether this could be done without cost to their borrowers. Accountants have recently argued that their triple-A credit ratings could survive such use of the MDB reserves.  This is doubtless true, but one would still have to anticipate a widening of the spreads on the MDBs’ borrowing, and that is a cost they would have to pass on to their borrowers. These countries, in effect, would thus pay the bill for debt relief to the poorest. Presumably the MDBs have already tried to optimise the size of their reserves, balancing the benefit of being able to charge less to their borrowers against the benefit of being able to devote a larger part of their net income to development causes[16] . Perhaps they have got the calculation marginally wrong, but the presumption is that getting the MDBs to foot the bill for HIPC really amounts to getting other developing countries to pay.

But matters could be even worse. Suppose that debts owed to the International Development Association (IDA, the World Bank Group affiliate that lends on a concessional basis to low-income countries) were forgiven under the HIPC initiative, and that this were financed by cutting future IDA lending. In this case debt relief would be paid for by those low-income countries whose new IDA loans decline by more than their debt service payments. These would mostly be low-income, non-HIPCs such as Bangladesh. It is possible that some of these countries have been making more effective use of funds to reduce poverty than have the HIPCs. If so, debt relief would actually have a perverse effect on the global fight against poverty. This may be a worst-case scenario, but it would be wrong to assume that it could not happen. Who really pays for debt relief is a crucial issue.

It is not just how much more or less money countries get, and where it comes from, that is relevant in appraising the desirability of debt relief. There are two major reasons why, even if debt relief were offset one for one by a reduction in new aid receipts, it might still be a boon to the debtor. The first is that debt relief provides aid that is not tied to imports (of food, technical assistance, and so forth) from the donor country; such tying reduces the real value of much bilateral aid[17] . The second is that debt relief may release resources for spending on basic social services. This is because most aid is given as support for particular projects, whereas the payment of debt service pre-empts general budget resources, and a lack of these may squeeze higher-priority social expenditures. Moreover, this ability to increase spending on basic social services has been reinforced by the conditionality that has accompanied the HIPC initiative, which has a mandate to see to it that the savings from debt relief are indeed directed to such spending.

These considerations suggest strongly that the debt relief already given is to be welcomed. Donors have promised that they would finance that debt relief without cutting other ODA, which gives hope that most of the resources are, in the final analysis, really coming from the donors themselves. In particular, there is little reason to fear that other low-income countries have paid for it, inasmuch as the donors have promised to increase their subscriptions to IDA. Debt relief financed by bilateral donors resulted in the untying of aid. And, as already noted, debt service was so high that it was squeezing out what should have been priority social expenditures on education and health. It is difficult to see a downside to the enhanced HIPC initiative.

Debt campaigners have compared debt service payments still due with projected social spending and concluded that, in a number of the HIPCs, debt service will still exceed spending on education or health. Perhaps more important, they have also argued that some of the HIPCs remain unable to finance minimally adequate levels of social spending, and are for this reason unlikely to be able to achieve the International Development Goals. And they have pointed to a new IMF/World Bank study on debt sustainability[18] to establish that many of these countries will still be vulnerable to adverse shocks (e.g., from commodity price declines or climatic catastrophes) undermining their ability to service their remaining debts. These considerations imply that not enough has yet been done to help the HIPCs.

A possible concern is that if a re-enhanced HIPC initiative, a HIPC3, were to be agreed but it was not substantially financed by increased ODA, then its main effect would be to redistribute aid between countries. In particular, a HIPC 3 would distribute more resources to countries that have built up high debts in the past, and the danger is that this could be at the expense of less indebted but equally poor countries. Insofar as aid is now being distributed rationally, taking into account both the prevalence of poverty and the presence of policies that make aid effective in reducing poverty, this would risk undermining the fight against poverty. In other words, while some Panel members believe that a further debt relief agreement would be an excellent step and all agree that it merits serious consideration, it would be essential that a HIPC3 be financed by strictly additional resources.

Official Development Assistance

ODA has long been the principal source of funds for financing development. The international community accepted almost half a century ago the principle that rich countries have a responsibility for helping poor countries get development off the ground. In 1969 the Pearson Commission formalised this by calling on donor countries to give at least 0.7 per cent of their GNP in ODA, a target that was endorsed by the United Nations and by many (but not all) donors. Yet only five countries—Denmark, Luxembourg, the Netherlands, Norway, and Sweden-–have ever achieved the target, and they have continued to do so in recent years. On average, ODA as a percentage of donor countries’ GNP was already falling when the international community first adopted the 0.7 per cent target, and it has continued to decline almost every year since then, at least until 1997. At $56 billion in 1999, it stood at only 0.24 per cent, on average, of the GNPs of the 22 members of the OECD’s Development Assistance Committee (DAC). (Even if one excludes the United States, which never committed itself to the 0.7 per cent target, the average was only 0.33 per cent in that year.) Most donor countries have a long way to go before their citizens can take pride in having reached the target that their governments endorsed so many years ago.

One can draw some hope from the fact that a couple of donors have begun to increase the share of their budget they devote to aid, and that the aid effort has edged up since 1997. Nevertheless, even if the HIPC initiative is financed entirely by additional resources, rather than by diverting existing ODA, this alone will not prevent the 2015 goals being missed for lack of financial resources. Given the threat to the future of the rich world posed by the ever more glaring contrast between its wealth and the misery of the world’s billion-plus absolute poor, the prospect of missing the 2015 goals for lack of maybe $50 billion a year is a matter of profound concern.

It would be unrealistic to expect any substantial increase in the volume of aid in the absence of widespread political concern in the donor countries with the issues to which aid is addressed. But perhaps the International Development Goals that arose out of the major conferences and summits of the 1990s, and which were strongly endorsed in the Millennium Summit Declaration, provide a foundation for rekindling political momentum behind the aid programme. The public in the donor countries need to be made aware of the goals, the stake that they have in achieving them, the resource costs of doing so, and the role of aid in their financing. This message needs to be conveyed particularly to the citizens of those countries that lag furthest behind the 0.7 per cent target. A Campaign for the Millennium Goals might track the progress being made towards achieving the goals, highlight any shortfalls, and identify remedial actions. Such a campaign would need to combine the enthusiasm that the debt campaigners brought to bear in their successful campaign with the professional expertise of the key international agencies and the financial support of private foundations.

If the DAC member countries actually delivered ODA equal to 0.7 per cent of their GNP, aid would increase by about $100 billion a year. Despite the margin of uncertainty in estimating the cost of achieving the human development goals, this would surely be enough to provide every lower-income country that seriously pursues the 2015 goals with aid sufficient to avoid their attainment being jeopardised by a lack of external resources. It could pay for additional debt relief to deserving HIPCs. It would permit full funding of the Dakar Global Initiative on Education and of the programme now being developed by the Commission on Macroeconomics and Health to deal with the health crisis in Africa. It would permit the extra expenditure of perhaps $7.5 billion a year needed to achieve universal access to reproductive health facilities. It would allow the CGIAR centres to be properly financed. The problem is not finding worthwhile ways of spending an extra $100 billion, but persuading the politicians and the general public of the rich countries that these expenditures are not only morally compelling but a bargain investment in building a more secure world.

New and Innovative Sources of Finance

One response to the growing concern with securing an adequate supply of global public goods would be to seek new financial resources for the international community. Present expenditure on global public goods—around $5 billion a year—is financed from a wide variety of sources, and revenue from these cannot be expected to keep pace with the increasing perceived need. The Financing for Development conference should therefore consider the desirability of establishing an appropriate global source of funds, both to permit the adequate funding of global public goods and to pre-empt the danger that the aid programme will be further cannibalised to meet these needs. If a high yielding tax source were established, it might be possible to use some of the revenue to supplement ODA.

The candidate that has attracted the most attention is a currency transactions tax (often called a ‘Tobin tax’, after the economist and Nobel laureate James Tobin, who originally suggested the idea). This would be a “small” tax--something between 10 and 50 basis points (0.1 to 0.5 per cent) is often mentioned–imposed on all transactions in the foreign exchange market. Advocates claim two advantages for such a tax. The first is that, because the tax would fall most heavily on those taking short-term positions, it would deter short-term speculation and thus help stabilise exchange rates. The extra cost of the tax would be inconsequential for traders and long-term investors. The second alleged advantage is that, given the enormous turnover on foreign exchange markets, even a modest tax rate could raise huge sums. For example, a tax of as little as 10 basis points on the current trading volume of $1.6 trillion a day would yield about $400 billion a year.

Opponents of the tax have pointed to two practical difficulties as well as disputed both of the claimed benefits. One practical difficulty arises from the need to extend the tax base beyond the spot foreign exchange market to encompass all derivative instruments (such as futures and options) that might be used to undertake equivalent transactions. The problem would be how to achieve equivalent taxation of spot and derivative instruments, which would be necessary to avoid inefficient shifting from one to the other. A tax only on the value of the derivative contract would be too low to achieve equivalence, but one on the value of the underlying assets would be so high that it might wipe out these markets[19] . The other practical difficulty arises from the ease with which financial transactions can shift location, especially with current information technology and telecommunications. This means that such a tax would have to be implemented not just in the major financial centres, but worldwide. It is difficult to imagine that the necessary unanimity among all the world’s countries and jurisdictions could be reached. Even if it were, financial engineers might succeed in creating new derivative instruments able to escape the tax net.

Critics have also argued that a currency transactions tax would be unlikely to contribute to stabilising the foreign exchange market. Advocates implicitly assume that most foreign exchange turnover not explained by trade or longer-term capital movements is engaged in speculation. Even if that were so, it is not clear that a tax of 10 basis points would do much to curb speculation. The fact is that the large and sudden shifts in capital flows characteristic of financial crises are driven by hopes or fears of gains or losses in the tens of percentage points, not a few basis points. In any event, it turns out that the advocates’ assumption is wrong. Much of the turnover results from what is called ‘hot potato’ trading, where dealers shuffle positions around following an initial large foreign exchange transaction (for example, to finance trade) until a new short-run equilibrium portfolio position is established a few minutes later[20] . The typical margin on such deals is around 1 basis point. A tax of 10 basis points would therefore amount to a tax rate of about 1,000 per cent on these transactions. Rarely is it possible, even within a jurisdiction, to collect taxes that high: those subject to the tax usually find a way to avoid it.

Finally, even if an equitable basis for taxing spot and derivative transactions could be devised, even if all countries agreed to collaborate in imposing the tax, and even if the tax base were not eroded by the invention of new derivatives, the market could still be reorganised as a broker market. Foreign exchange traders would switch from acting as dealers, drawing on their own inventories of currencies to consummate transactions, to acting as brokers, bringing together buyers and sellers who then transact directly. The results would be a marginal inconvenience to those wanting to buy and sell foreign exchange, and an unknown but possibly drastic fall in the volume of transactions. It is not clear why there should be any reduction in speculation and volatility: indeed, by impeding price discovery, it has been claimed that such a tax could increase volatility .[21]